22-02-2013

Andrew King says it is wrong to say housing investors are reaping tax advantages over ordinary buyers.

 

Alan Dudson wrote in the Herald on Monday that the reason house prices are too high is that property investors are subsidised by the Government. What a load of rot.

 

Dudson made a wide variety of unsubstantiated claims that had no bearing on the truth. He claims to be an accountant, yet he ignores basic accounting principles to attack rental property owners in an attempt to drive down house prices.

 

If he is indeed an accountant then he should have thought through the consequences of his call to demolish house prices. Anyone who is looking to buy a house would welcome his suggestion, but would existing home owners? Would those new home owners who scrimped and saved a deposit to buy a home thank him for wiping out their equity and leading them to bankruptcy?

 

The basis for Dudson's view is that he believes property investors have an advantage over home buyers because they can claim a tax deduction for expenses. Of course they do; this is a basic principle of tax law, of which he should be aware.

 

People growing their own vegetables have to buy the seeds, compost and other paraphernalia without being able to claim these as a tax deduction, while a commercial grower can. Using Dudson's argument, the commercial grower should not be able to claim these as a tax deductible expense.

 

Closer to the mark, a home owner with a mortgage cannot claim a tax deduction but the bank that lent them the money can claim tax deductions for the expenses it incurs in running its business.

 

Dudson also claims rental property owners do not pay tax. This was a myth that the Tax Working Group published years ago but which has since been denounced. In the last 20 years there have been only two years when New Zealand rental property owners didn't collectively pay tax and they were times of high mortgage interest rates. The owners took the hit of high interest rates to the benefit of their tenants.

 

In his article, Dudson gives an example of a $600,000 property for which an investor has a 10 per cent deposit and borrows $540,000. He says that because the investor can claim the mortgage interest and other costs as a tax deduction, they have an advantage over home buyers.

 

At today's average mortgage floating rate of 5.5 per cent, the interest alone on this investor's debt is $29,700. On top of that are rates, insurance, repairs and maintenance, accounting and property management fees and other expenses incurred to provide the tenant with a home. These extra expenses could easily take the total cost of providing a home to $39,000. Without being able to claim tax deductions for the expenses, the rental property owner would have to pay another $10,000 in tax on the rental income of $32,000.

 

To summarise the current tax situation, the rental property owner has to come up with $60,000 as a deposit to buy the property, then spend nearly $5000 after tax over the first year to pay the running costs. How is this an advantage over a home buyer who at least gets to live in the home?

 

If Dudson had his way, the rental property owner would still have to come up with $60,000 for a deposit, but would then have to spend an extra $20,000 a year on expenses and taxes. He predicted that this would "flood the market with thousands or tens of thousands of houses for sale" and "immediately lower the cost of housing dramatically". This is one of the few points on which he is correct.

 

He predicts this will enable thousands of NZ families to buy their own homes. He is right, but what about existing home owners?

 

Many stalwarts of bringing down house prices, like Dudson, suggest three times the average annual income as the point of affordability. This equates to half the value of houses being wiped out and would be the likely scenario of Dudson's plan. If it ever occurred, any existing home owner who previously had less than 70 per cent equity in their home would probably lose it to a mortgagee sale.

 

As an example, consider someone with a home worth $350,000 and a mortgage of $175,000. This home would fall in value to $175,000, meaning the owner would have no equity left. Unless they have a spare $35,000 to reduce the mortgage to $140,000, the bank may very well force them to sell.

 

If the mortgage in this situation was $255,000, then the home owner would lose their 30 per cent equity, lose their home and still owe the bank $75,000.

 

Even people who in theory have debt-free homes may still be in trouble. Consider the many parents in NZ who have agreed to guarantee their children into home ownership. If the kids borrowed the entire amount, the bank would look to the parents for the entire debt. Imagine being in your 60s feeling secure in a $600,000 debt-free home, then finding your home is now worth $300,000 and you owe this or more to the bank for your children's home. Both you and the kids lose your properties.

 

The same situation may arise for people who borrow for their business and use their homes as collateral. It would be a disaster.

 

Many people have been given the wrong information about rental property and how it is treated for tax purposes. While Inland Revenue says there is no advantage, people like Dudson continue to make baseless claims that an advantage exists.

 

Be careful who you listen to, people, as you may get what you wish for.

 

Andrew King is president of the NZ Property Investors Federation.