A case recently won by IRD has determined that owning as few as five rental properties counts as a business, not an investment.
It took its case to the Tax Review Authority, claiming that an investor could not use losses from her rental properties to claim Working For Families credits because she was operating her portfolio in a way that amounted to carrying on a business.
There will be many other people in her situation.
There are 9700 landlords claiming Working For Families tax credits.
With relatively small property portfolios, they offset their losses against their incomes to increase their Working for Families credits.
They could conceivably get about $3000 a child per year - that's a lot of money to pay back if the IRD decides their operation is a business and those losses are disallowed.
The taxpayer was a self-employed artist earning $60,000, with five children, who purchased the rental properties in a partnership with her husband between April 2003 and September 2007 and had been registered for Working for Families since 1999.
Up until April 1, 2011 losses from rentals and investments were able to be used to reduce income for working for family entitlements. Business losses, however, were not.
The taxpayer engaged a property manager to manage the rentals in 2007 and an accountant to do the books and file tax returns, and the property values altogether exceeded $750,000.
IRD said the time and money she put in pushed her investments into business territory.
But at what point does the investment become a business?
If you have three or four rentals, do you feel confident after reading the above that you are not running a "business"?
The IRD tests and analyses the following to determine what a business is:
The overall nature of the rental operation
The nature and scale of the operation
The investment of time, money and effort
The real and potential profit derived
Sounds vague but what this means is that each case is based on its facts come analysis or audit time. IRD said the taxpayer in question treated her properties like a business and was expecting capital profit over time from them. She admitted getting Working for Families credits was part of the appeal of purchasing them.
With property investment in the IRD's sights at the moment, it seems likely landlords' operations are going to be under more scrutiny. If you're concerned about how yours are structured, talk to your accountant.