Do you want to buy and sell properties for profit?
17 June 2016
This is an old newsletter I wrote in August 2013 about property trading, but we are finding a lot of people are looking at trading at the moment, so I thought it might be of interest to you.
Do you want to buy and sell properties for profit?
GST and Zero Rating
If you trade residential properties, then you will have to register for GST once you have a continuous taxable activity. This means that you can claim GST on purchase costs that have GST but you also have to pay GST on the sale.
If you do a one-off trade, then this is not a continuous taxable activity. Therefore you would not be required to register for GST. But there can be a fine line, and it is often difficult to determine, if the trade will be a one-off or if you are likely to do numerous property trades, thus becoming continuous. I suggest seeking professional advice from a property accountant on this subject and the best approach is to be honest. If you intend on buying numerous properties to do up and sell for the profit, then you should GST register at the start.
For long term residential property investors, there is no GST, so the above comments are just for property traders.
Zero rating – Over the last year we have heard about a lot of mistakes around the Compulsory Zero Rating (CZR). Real Estate agents commonly get this wrong and a few recent forum posts on www.propertytalk.com even show lawyers and non property accountants getting this wrong. If both the vendor and purchaser are GST registered, then the sale will be zero rated for GST. Therefore if you are a GST registered purchaser and the vendor is GST registered, you should be making any offer for the GST exclusive amount, plus GST (if any).
So for example, you are GST registered and purchasing a section from a developer. The developer is advertising the section for $240,000. You want to offer $230,000. You would therefore work out the GST exclusive value $200,000 ($230,000 / 1.15) and offer on the contract $200,000 plus GST (if any). As the developer will be GST registered, the sale is then Zero Rated, so you would pay $200,000 but can’t claim back the GST, and the vendor would receive $200,000 but have no GST to pay to IRD.
Following the example above, some recent mistakes I have heard of are the contract being written at $230,000 inclusive of GST. This sale would still be Zero Rated, and Zero Rated at the $230,000. So the purchaser would effectively be paying $230,000 + GST, or $264,500. This would be a $30,000 mistake and this can often be the difference between a good , profitable trade and a bad one.
Therefore it is very important to ensure you know whether a vendor is GST registered or not when you are buying trading properties. I recommend that you talk to your lawyer about inserting a clause in the sale and purchase agreement to ensure that the vendor is unable to change their GST status once the contract is signed. Many traders and educators use a standard clause that your lawyer should be able to provide you.
Second hand goods claim – If you are buying from a vendor who is not GST registered (this will often be the case, as they are just personal house owners), then as a GST registered trader you will be able to make a second hand goods claim. You can only do this on the payments basis for GST (i.e. claim the GST once you pay for it). The property trader would then claim the GST back in the next GST period and get the GST back as a refund. This is the purchase price divided by 23 * 3, so for example if a trader purchased a property for $230,000, they would get $30,000 GST back. IRD will generally audit large GST refunds, so we often get clients to just claim the land/building purchase in that GST period, to keep the GST return very simple for the IRD audit.
GST on rental income if trading properties
We have taken on a client in the past whose old accountant has returned GST on rental income for the last 6 years. The client owes or has paid around $12,000 in GST per year, totaling $70,000 approximately over the 6 years.
If you are trading properties and registered for GST, you should not be returning GST on rental income! For properties purchased before 1/04/11 it is best practice to use Lundy adjustments. For the client above, using the Lundy adjustments reduced the GST adjustment down to approximately $2,000 per year or $12,000 for the 6 years. Overall we hope to save at least $50,000 and are in the process of reassessing the old GST returns with IRD. Again, if you are involved in property transactions, it is essential that you use a specialist property accountant who is fully aware of property tips and tricks.
If the property was purchased after 1/04/11, new rules have come in that generally require more GST to be paid back to IRD. But the first adjustment required is not until 31 March of the year after. For example, if you purchased a section, built a house in May 2013 and tried to sell it, then couldn’t, so rented it out, the first adjustment period would be for May 2013 to 31/03/15, with the GST adjustment due in the 31/03/15 period.
Profit on Trading Property
There are a lot of people looking at going full time into property trading to make a living and gain wealth.
My first comment is be very careful about quitting your day job.
- This job brings you day to day cash flow, which enables you and your family to live.
- Banks love a steady, solid income. So without one, you might find lending difficult.
Secondly, do the figures really stack up? In today’s market it is easy to buy, easy to renovate but the problem lies with selling. This can result in additional holding costs and also with a lower than expected selling price.
Here is an example of a Property Trade that I have heard an investor talk about. |
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Example
Purchased for $275,000
Renovations cost $5,000
Could sell for $300,000
From a quick glance, a lot of people think “that’s not too bad” and it’s $20,000 profit. But, unfortunately, that is not the case. Below are the likely expenses and I have included commission because in today’s market, many sellers are needing to use an agent to get a good price.
| |
|
|
Incl GST |
|
Excl GST |
| INCOME |
|
|
|
|
|
| |
|
|
|
|
|
| Sale of Property |
|
300,000 |
|
|
| Less GST - Divide by 23 * 3 |
39,130 |
|
|
| |
|
|
|
|
260,870 |
| |
|
|
|
|
|
| EXPENSES |
|
|
|
|
| Purchase |
|
|
275,000 |
|
|
| Commission on sale |
|
10,350 |
|
|
| Legal - $1,000 to buy and $1,000 to sell |
2,000 |
|
|
| Accounting |
|
500 |
|
|
| Advertising - Agent or other |
1,500 |
|
|
| Insurance for 3 months |
200 |
|
|
| Rates - 3 Months |
|
500 |
|
|
| Renovations |
|
5,000 |
|
|
| Telephone |
|
|
25 |
|
|
| Travel - 86 cents per km * 300 |
260 |
|
|
| |
|
|
|
|
|
| Subtotal Expenses |
|
295,335 |
|
|
| Less GST |
|
|
38,522 |
|
|
| |
|
|
|
|
|
| Subtotal Excluding GST |
|
|
256,813 |
| |
|
|
|
|
|
| Less Loan Fee - NO GST |
|
|
1,000 |
| Less Interest 3 months @ 6% |
|
|
3,750 |
| |
|
|
|
|
|
| TAXABLE PROFIT |
|
|
|
-693 |
So based on the expenses included, the Trade would make a loss of $693. If commission is excluded the profit would be $8,307 before tax, or around $6,000 after tax at average tax rates.
This example shows how quickly a perceived profit can disappear. If the property was held for longer, then it is likely to make more of a loss.
There are a number of property investors getting tutored about property trading and my understanding is that there are around 90 such students targeting areas in South Auckland.
In my opinion this is too many traders concentrating in the one area. I would suggest being very careful about trying to trade in this area as it is likely there are too many other traders competing to sell their properties.
$50,000 rule
I always think that you need a $50,000 gap between the purchase and sale, with limited renovation expenses. So for example, buy at $250,000, spend $5,000 on renovations and sell for $300,000. Based on the same kind of expenses including commission, the profit before tax would be approximately $20,000.
This level of profit gives the trader some room to move with either the selling price, or to hold the property for longer and to still make some kind of profit.
Overall
Property Trading is not easy and you need to ensure you have a market in which to sell your finished product. With Trading you need to keep your properties moving, so the idea is to do them as quickly as possible and then move onto the next one. Historically where I have seen Traders come undone is where they take too long or where they get too big too quick (i.e. have 2-3 or more on the go at once).
If you are thinking about trading properties, I suggest you organise a meeting with me to discuss the structures used and the implications of tainting. Ring Mareese on 839 2801 to organise a meeting or email mareese@cswaikato.co.nz. Please note: there will be a charge for this meeting, depending on the work and information required.
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Kind regards
Ross Barnett
Principal
Scary Tenancy Tribunal Decisions on Meth!
1 June 2016
Here is some important information about Meth Testing and recent cases from a NZ Property Investors Federation website article posted 26 May 2016:
Consequences for Landlords when P is found on their properties
Two recent Tenancy Tribunal cases have increased the risk levels for landlords where P is found in their properties.
The first case involved a rental property where the owner and the property manager didn't know that the previous occupants had smoked P in the property. It was a neighbour who told the tenant that they should get the property checked for meth.
The tenants paid for an inspection and the reading came back at 0.53 micrograms per 100cm2. The Ministry of Health currently recommends that following a meth lab cleanup, levels should not exceed 0.5 micrograms per 100cm2 to be acceptable for reoccupation. To provide some context, a property used as a meth lab may have concentrations of 300 micrograms per 100cm2.
The tenant immediately gave notice and left on 5 December 2015, just three weeks after the tenancy had begun.
The landlord obtained his own test on 5 January, which showed residual levels of P considerably below the MOH guidelines. This test found that the highest concentration level was in the kitchen, and was only 0.17 micrograms per 100cm2. The other seven test areas were considerably lower than this.
There have been reports of testing companies adding up the levels found in different areas of a property, which can overstate the level of residual P in a property. It appears that the first testing company did this.
The tenant took the landlord to the Tenancy Tribunal to end the fixed term tenancy and the return of the bond plus refund of the $569.25 letting fee they paid, $199 cost for the Meth Test and $315 to remove their possessions.
The adjudicator awarded all of this to the tenant. When the lost rent is factored into this, the landlord is considerably out of pocket.
The adjudicator said that landlords had a responsibility to provide a property in a reasonably clean state. Although it was found that the property was actually well below the MOH guidelines, the adjudicator found that "a property with any level of methamphetamine" is unclean.
He ruled "That the landlord belatedly obtaining a contrary result does not relieve the landlord, in my view, from liability for the situation that rose a month earlier.Accordingly I find that the landlord is in breach for failing to provide a property that was habitable."
The adjudicator acknowledged that "the effect of this decision may be onerous on landlords in that a landlord who does not have a property tested for methamphetamine contamination prior to renting, risks financial consequences, irrespective of whether or not the landlord had cause to suspect that the property was contaminated".
This case raises many points. There clearly needs to be standards put in place for the testing of meth. Adding together all amounts of residual meth found in a property clearly overstates the level.
It appears that a tenant who wants to break a fixed term tenancy can merely smoke some P in the property to achieve their aim.
The case also places a high cost on all landlords and all rental properties if they are required to undertake independent meth tests before and after a tenancy has begun.
There also needs to be some independent and rational investigation into what is a reasonable level of P in a property below which it can be viewed as reasonably clean. The MOH guidelines state that after cleaning a property used for meth cooking, it is habitable if the level is not greater than 0.5 micrograms per 100cm2. Surely this should be the level that demonstrates that a property is reasonably clean.
The second case is even more concerning as the financial cost was high. Although the levels of residual meth were not presented, the adjudicator made a similar finding to the first case that the property was uninhabitable. However the award that was made was quite different.
The tenants had occupied the rental property from August to November 2015 and claimed all the rent they had paid over that time,$7,275 to be returned. The tenants also claimed $4,025 for disposing of possessions they claimed were contaminated and storage costs for other items amounting to $890.
The adjudicator did not award that all the rent money should be returned to the tenant, acknowledging that they did get over three months of accommodation. However he did state that it was not the accommodation they "bargained for", and ruled that $3,500 should be returned to the tenant.
The cost for disposing of some possessions was also upheld, but not the storage. So in total, the landlord was required to pay the tenant a total of $7,525.
The NZPIF will be discussing the issue of meth contamination with the Principal Tenancy Adjudicator. We are also having discussions with MBIE about how the issue of meth can be handled so that tenants are protected but the risks to landlords are also mitigated.
Standards New Zealand is looking at how meth testers and cleaners can and should be regulated and we have applied to be part of the committee devising these standards.
It may be that best practice for landlords will be to test for meth at the beginning and end of tenancies. Apart from confirming when a property was and wasn't free of any residual meth, this could persuade tenants not to smoke meth in the property.
If this is to occur then we will be advocating that self testing can be undertaken to keep costs down and will be looking at options to lower the cost of self test kits for members.
(reference http://www.nzpif.org.nz/news/view/57925)
Kind regards
Ross Barnett
Best Insurance Tip and Hamilton Market Update
6 May 2016
BEST INSURANCE TIP
Robyn Marsters, Managing Director of Quality Rental Management www.qrm.co.nz, suggested that all landlords review their 'Meth' cover in their insurance. A lot of property managers are starting to test for 'Meth' between tenancies, and there are a lot of positive results. It is best to review your insurance before any 'Meth' test is done to ensure you have cover against potential damage. I also suggest you ring your Insurance Company or Broker today to ensure you are insured from this risk.
HAMILTON UPDATE
Obviously the Hamilton market is booming at the moment. Here is some interesting information:
- From 1/2/15 to 31/1/16 there have been 3,081 new dwelling consents in the Waikato. From a blog I did back in January, that equates to 2.65 people per dwelling on average. So, Waikato is building enough new dwellings for just over 8,000 extra people over the last year. (http://www.stats.govt.nz/browse_for_stats/industry_sectors/Construction/BuildingConsentsIssued_HOTPJan16.aspx)
- The median sale price of Hamilton in March 2015 was $350,000. A year later the Hamilton median has jumped to $472,000. That is an increase of 35%. The graph on the Lodge Real Estate website shows how flat the Hamilton market has been from 2008 to 2015, then with a huge spike over the last nine months. (http://www.lodge.co.nz/Residential/Residential-Property-Overview)
- I have picked a few recent auction sales, and shown their last purchase date, amount, CV and recent auction sale price.
| Property |
Last purchase date |
Amount |
CV |
Auction Sale Price
March/April 2016 |
% above CV |
| Flagstaff |
March 2014 |
$515,000 |
600,000 |
$645,000 |
7.5 |
| Bader |
October 2006 |
$260,000 |
285,000 |
$350,000 |
23 |
| Pukete |
December 1995 |
$200,000 |
460,000 |
$500,000 |
9 |
| Dinsdale |
June 2003 |
$179,000 |
375,000 |
$402,000 |
7 |
| Deanwell |
October 1993 |
$80,000 |
340,000 |
$372,000 |
9.4 |
4. With the large growth in Hamilton, the Hamilton median sale price is still a long way behind the NZ median, when historically it has caught up. So, as at January 2016 (the graph is completed in January each year), the Hamilton median was below $400,000, whereas NZ was at $450,000. (http://www.cswaikato.co.nz/services-property-accountants-hamilton/useful-information-accounting-hamilton)
INDICATION / PREDICTION
This graph and trend could indicate that Hamilton will continue to catch up and experience strong growth over the next year. This is similar to what a lot of property professionals are indicating. Obviously there is no crystal ball and this is just reading the historical data. It doesn’t mean or guarantee that Hamilton will continue to boom.
- Number of listings for sale – When I searched www.realestate.co.nz there were 510 listings in Hamilton. Normally there is closer to 1,000 houses for sale. So there is a shortage of properties for sale in Hamilton. With large demand and low supply, the laws of economics suggest that house prices will rise. Note: A lot of Hamilton real estate firms don’t list on Trademe, so it’s a great idea to look on the real estate site. You will also note that a lot of properties are going to Auction, as the agents and vendors try to maximise the sale price.
- Population growth – It is very difficult to get information on the update of population growth.
- From my blog in January, the last Census information showed an increase in population of 3,300 per year, and an expectation of around 4,000 (1.1% growth) growth from 2014 onwards.
- Hamilton City Council (from a 2015 report) expect the Hamilton population to increase from 153,000 in 2015 to 174,000 in 2025. This works out to around a 1.3% growth or close to 2,000 per year, which would be in line with the Waikato growth expectations.
INDICATION / PREDICTION
Looking at the new dwelling information at the top of this blog, which can house 8,000 new people, versus the growth of around 4,000 people into the Waikato, this data shows that too many new houses are being built to be sustainable. So this would indicate a bust or slow period is coming at some point. It is very hard to predict when.
- Interest rates – The OCR dropped down to 2.25% on 10/3/16. The next announcement is on 9/6/16. This link is to a graph which shows how low the OCR is compared to earlier years. If you select ‘MAX’, you can compare back to before 1986. The Reserve Bank report in March 2016 predicts flat interest rates for the next year or two. But, from presentations I have been to, the Reserve Bank often get it wrong!
RISK
If interest rates go up, what will the effect be on house buyers? A rise in interest costs could put extreme pressure on many buyers who have stretched too far. This could force more sales, which then leads to more supply than demand, and means house prices could quickly flatten or drop.
- Auckland and the media – Some of the increase in Hamilton is due to Auckland buyers and the general media constantly writing about price increases. If the Auckland market slows or turns, this trend could quickly follow in Hamilton. A turn in the Auckland market could also happen as a result of government, Reserve Bank or council changes. A land tax on foreign buyers could also cause a change.
So it is important to keep an eye on what is happening in Auckland!
Kind regards
Ross Barnett
Watch Out for Exchange Gains if you have loans overseas & Free Stuff
13 May 2016
If you have loans overseas, you need to watch out for exchange gains. Have a read of this example:
Joe Bloggs lives in NZ, so is a NZ tax resident.
He owns a rental property in the UK. The original loan 200,000 pounds.
The exchange rate when the rental was purchased around 10 years ago was 3 times. So the loan in NZD was $600,000
Joe is eligible for Cash Basis, so only needs to account for any exchange gain or loss when the property is sold.
Now in 2016, Joe sells the property. The loan is still 200,000 pounds, but now as the NZD stronger at 2 times, the loan is only $400,000 NZD.
So unfortunately Joe has made an exchange gain of $200,000 which is taxable!
FREE STUFF
If you are a paying client of Coombe Smith, we have some information which we can give you for FREE:
- A list of Five Strategies
- A list of expenses you can claim
- Simple Spreadsheet for rental cash flow
- Simple Spreadsheet for trading properties
- Trading property notes, including GST and zero rating.
- Rental Property Basics Seminar Video
- Advanced Property Investors Tricks and Tips Video
Please email mareese@cswaikato.co.nz if you would like any of these.
Kind regards
Ross Barnett
Xero gives an easy way of invoicing your tenant every period (eg. weekly). It then matches the rent payments you have received and can identify any missed payments. So, by doing the 'repeating invoice' process in Xero, which takes 5 or 10 minutes, you can easily identify that Joe Bloggs has underpaid $1,400 of rent over the 12 months 1/4/15 to 31/3/16!
