The half a percentage point reduction in the Official Cash rate will be good for the economy and a welcome relieve for rental property owners. The timing of the interest rate cuts is excellent, coming just as building depreciation allowances are being removed for residential rental properties. However the interest rate cuts will not fully compensate for the tax changes that came into place on the first of April. In addition, rental prices only increased by an average 3% last year while general inflation was at 4%. Combined with an increase in demand and weak supply, almost everything is pointing to higher rental prices.
The loss of building depreciation is going to have a different affect on individual owners, depending on the value of their property, how long they have owned the property and their marginal tax rate. Owners in high value housing areas such as Auckland, Wellington and Queenstown are likely to be affected to a greater degree than owners in lower priced areas.
In an attempt to quantify the average loss to rental properties owners, the NZ Property Investors’ Federation conducted a survey of association members. The survey was undertaken by 432 rental property owners and covered 1,347 properties.
Results showed that the average claim for building depreciation was $2,260 per property, or $43pw. The range is expected to be quite wide, so some individuals will not be so greatly affected while the tax change will cost other owners considerably more.
The actual cost to owners will depend on their marginal tax rate, with owners on 33% in the previous tax year losing $746 or $14.30pw. Those on the lowest tax bracket will only lose $282 per property, while those on the highest will lose $881 or $17pw.
The average rental price for properties included in the survey was $338pw, meaning that the cost of disallowing depreciation claims for residential properties would likely amount to 4% to 5% of the average rental price.
The tax changes only prompted 8% of respondents to sell some or all of their rental properties, however 31% of those who would have bought more rentals would now not do so. This is because the tax changes will affect new rental property purchases to a greater extent than existing rentals.
Using Quotable Values latest medium house price of $360,000 and assuming 40% of this was the value of the building, then previously this could be depreciated at $4320. At a 33% marginal tax rate, the cost of removing depreciation on newly purchased properties will be $1,425 or $27.40pw.
The implication is that while there will only be a small immediate affect on the supply of rental properties, supply will be more greatly felt in the medium term as fewer rental properties are purchased. This situation can be averted of course, through an increase in rental prices.
The danger for our industry is that existing owners who are only marginally affected by the tax changes may choose not to alter their rental prices. This will make it more difficult for those who are more affected to increase their rental prices.
While the fall in mortgage interest rates is a welcome relieve, it is not a long term solution to tax changes and the increasing cost of providing rental properties in New Zealand. I hope that those owners who are not so affected by the tax changes will realise that this is an opportunity to improve their profitability through increasing their rental prices.
Property Investor Associations all over the country are holding meetings on why owners should be increasing rental prices and how to do so. Just talking to other owners at these meetings can generate excellent ideas on how to increase rental prices.
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