22 February 2022

With house prices soaring and banks tightening their lending criteria in response to recent changes to the Credit Contracts and Consumer Finance Act 2003, it is increasingly common for parents to help their adult children into home ownership.  Whilst some parents may lend or gift their children money to help them buy a house, other parents may buy a house and gift it to their children, or sell a house to their children at a reduced rate, or become co-owners in the house with the intention that over time the children will buy out the parents’ ownership interest.

Unfortunately, aside from lending or gifting, these scenarios can result in an unexpected income tax bill for the parents, which is likely to occur frequently now that the bright-line period has been extended from 5 to 10 years.

Gifting the house

If a house is gifted to a child by a parent, or if a trust makes a distribution of a house to a beneficiary, for tax purposes the parent (or trust) is treated as having sold the house for market value at the time of transfer.  If this transfer occurs within the bright-line period, or if a sale of the house would have otherwise been subject to tax, the parent (or trust) can end up with a rather nasty income tax bill, despite having never received any cash for the transfer of the house.

Selling the house at a discount

Similar to the above scenario, when a house is sold at a discount between associated parties (which includes parents selling to their children, or trusts selling to beneficiaries), the seller is treated as having sold the house for market value at the time of transfer.  Again, if this sale happens within the bright-line period, or if a sale of the house would have otherwise been subject to tax, the seller can end up paying income tax on a gain they didn’t receive.

Becoming a co-owner

When a parent is a co-owner of a house with their children, and the children wish to buy-out the parent’s share, this can again give rise to income tax for the parent on the share of the property transferred to the children if the transfer occurs within the bright-line period.  Regardless of the price at which the parent’s share is transferred, the parent is treated as having sold their interest in the house for market value at the time of transfer.  The main home exemption will typically not apply to the parents, as the house will not be the parent’s main home, unless the parent and children are living together on the same property.

Proposed tax changes don’t go far enough

Proposals are underway to correct unintended outcomes which can arise when there is a change in the proportions of ownership in a property, including when parents assist their children with the purchase of house and the house is subsequently transferred to the children. However, these proposals do not go far enough to resolve the issues outlined above. The proposals simply clarify that, in a co-ownership situation, the share in the property that is transferred or sold may still be subject to income tax under the bright-line test, but the bright-line period does not restart for the remaining ownership interests.

What are your options?

While future changes to the rules may occur, what are your options now if you are looking to help your children into a home? One option is that instead of becoming a co-owner of the house, parents could gift or lend a similar amount to their child so that the child is the sole owner of the house.  Although, if the amount is treated as a loan, parents should check that the loan will not impact your children’s borrowing ability with the bank. Another option is for the parent to consider being a guarantor of the children’s loan to purchase the house.

If parents do need to be co-owners of the house, it may be possible to document that the parent’s share of the house is held as nominee, or bare trustee, for their child. A subsequent change of ownership from the parent to the child would then not trigger the bright-line test, as the full ownership of the property has always been with the child.

There is no ‘one answer’ to this situation as everyone’s circumstances and situations are different. However, it is essential that you seek sound advice if you are looking to assist your children onto the property ladder – ideally before the sale and purchase agreement is signed, and definitely before settlement.

If you have any questions, please speak to your Nexia advisor or contact us via our general contact details

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