24 October 2023

But it’s my main home! Did you know that your main home may still be subject to income tax? We are frequently asked to confirm that the sale of a person’s main home is not subject to income tax due to the main home exemption.

What people don’t realise is that the main home exemption only applies when the property is taxed under the bright-line test. It does not apply when the property is taxed under one of the other land taxing provisions; in that instance it is the residential exemption that needs to be considered.

In addition, the main home exemption does not always give a full exemption from income tax.

The bright-line test is the tax rule that taxes the gain on sale of all residential property sold within the bright-line period (either 5 years or 10 years depending on the specific circumstances) unless an exemption applies, such as the main home exemption. Below are some common situations where your main home could still be subject to income tax under the bright-line test.

Property intended to be a main home, but not used as a main home

The Lee family dreamed of buying a section and building their forever home. They finally find the section of their dreams; they hire a builder and build their dream home. Unfortunately, life happens, plans change, and by the time the home is completed, the Lee family can no longer afford to live in their dream home, and they never move into it. The Lee family put the home on the market and sell the home within the bright-line period resulting in a gain on sale. Surely the gain is not taxable?

Unfortunately, the gain is taxable. The main home exemption only applies if the property was actually used as a main home. The exemption does not apply where the property was purchased with the intention for use as a main home, but the property was never used as a main home. It does not matter that the Lee family did not own any other property at the time, or that they have been forced to sell the property because of life events. The outcome might have been different if the Lee family had lived in the home before putting the house on the market.

Multiple dwellings on the property

Joe and Sally buy their first home which has a granny flat attached to the main house. To assist with mortgage payments, the couple live in the granny flat and rent out the main home. Sally was made a job offer in Australia she couldn’t refuse, and the property was put on the market and sold within the bright-line period for a tidy gain. Surely the gain is not taxable?

The granny flat comprised less than 50% of the total land area of the property and therefore the property did not meet the main home exemption criteria. Depending on when Joe and Sally purchased the home, they could find themselves subject to tax on all, or part of the gain. They also need to consider the restrictions on the amount of deductions that can be claimed on costs, particularly under the ring-fencing rules.

A similar outcome can arise when Mum, Dad and the kids buy a property together, with the kids living in the main home and Mum and Dad living in the granny flat. Depending on when the property was purchased, Mum and Dad could find themselves subject to tax on all, or part of the gain arising on sale, while the kids should benefit from the main home exemption for their part of the property.

Mum and dad own part of the son’s house

Maui buys his first home with the help of Mum and Dad who take 30% ownership in the property. Maui lives in the home but ends up selling during the bright-line period. Surely the gain is not taxable?

The gain on Mum and Dad’s interest in the property is taxable. The main home exemption applies to Maui, but Mum and Dad don’t get the main home exemption because they did not live in the house.

The property is not used as a main home

The Patel family buy their dream home. Mum and Dad each own 50% of the property. Two years later, Mum falls ill and goes overseas for treatment. Mum has to spend 15 months overseas having the treatment while Dad stays home with the kids. During her treatment, Mum was too ill to travel and did not return to New Zealand for the 15 months. Due to Mum’s illness, the family has to downsize to a more affordable home and end up selling their dream home for a gain within the bright-line period. Surely the gain is not taxable?

Dad can rely on the main home exemption to get a full exemption from income tax for his share of the property, however a portion of Mum’s share of the gain is taxable. As Mum spent more than 12 months living away from home, Mum only receives an exemption for the period when she lived in the home. The tax treatment might have been different if Mum had spent less than 12 months overseas, or if she had visited New Zealand during the period.

The above scenarios show just how easy it is to be unwittingly caught by the bright-line test.

Talk to our experts

If you have concerns as to whether your property could be subject to the bright-line test on sale, please contact the Tax Team at Nexia, or your usual Nexia advisor. If you are not already a Nexia client and you are looking for specialist tax advice or strategies for effective tax planning, contact us to explore how we can help.

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