Airbnb Rental Truly is the New Way to Invest in Property

With the recent government changes to the tenancy law and property investing, short-term rental (AKA Airbnb rental) is becoming an ever-more appealing option for investors looking to stay ahead. Let’s examine the benefits of short-term rental management and residential tenancy management to get an idea of the key differences.

Short-Term Rental Management

Possible Benefits:

• No tenants and no Residential Tenancy Act
• Higher income
• Can claim back interest on mortgage as expense
• Full control over your asset
• Lower maintenance fees
• Can claim back GST if registered

Possible Negatives:

• Commercial rates are higher than residential rates
• GST liable activity so need to be GST registered if turnover is over the threshold (this may or may not be a benefit)
• Income can fluctuate through the months due to seasonality
• Perceived risk of not having guaranteed income if guests are not booking months in advance

Residential Tenancy Management

Possible Benefits:

• Predictable weekly income
• Not a GST liable activity so no need to be registered for GST if over threshold

Possible Negatives:

• Lower income
• Heavily regulated business
• Cannot claim back interest on mortgage (phased in over next 4 years)
• Loss of control over asset as more power being given to tenants
• Higher maintenance fees

The above are the main queries we get from investors new to short-term rental and these are the kinds of conversations we have with them. There is still a high element of education for those new to the industry, so let us examine some of the above points in more detail to paint a clearer picture.

The Residential Tenancy Act Does Not Apply to Short-Term Rental

Yes, you read the above correctly – the Residential Tenancy Act does not apply to short-term rentals for multiple reasons listed in RTA Section 5.1.

Here are a few points from the Act:

1. This Act shall not apply in the following cases:
2. (k) Where the premises
3. i) are intended to provide temporary or transient accommodation (such as that provided by hotels and motels), being accommodation that is ordinarily provided for periods of less than 28 days at a time; and
4. ii) are subject to an agreement that has been entered into for the purpose of providing temporary or transient accommodation that continues to be provided under the agreement
5. (m) Where the premises are let for the tenant's holiday purposes

Instead of completing a tenancy agreement, you or your short-term rental property manager must create your own agreement for the use of your premises and guests must agree to these. This can include immediate eviction in case of inappropriate behaviour, what happens if anything is damaged or goes missing, when the check out times are, callout fees for late night lock outs etc. You are in control.

Short-Term Rental is a Commercial Activity

There are three things to consider when it comes to short-term rental as a commercial activity:

1. Commercial Council rates
2. Claiming back mortgage interest as an expense
3. GST

Commercial Council Rates

Clients always ask us whether they need to pay commercial rates when they get into short-term rental, and the simple answer is yes. For a more in-depth answer, please give me a call. Commercial rates, including Auckland Council’s target accommodation rate, are roughly 3.5 times more than residential rates. So, for example, if you’re currently paying $1,200 per year for your one bedroom apartment in Auckland CBD, your commercial rates will be roughly $4,200 per year instead when you switch to short-term rental, after doing it for a full year – this is not a deal breaker as you should be able to earn the difference of $3,000 in just one month during high season.

Furthermore, if you compare the extra $3,000 expense in this example to the benefit of being able to claim back your mortgage interest as you are now conducting a commercial activity, this cost becomes even less significant and switching to commercial really is the smarter choice. This is not even considering the higher income that’s possible with short-term rental.

Another point to make here is that council rates are a predictable expense that can be forecasted into the future when planning out your investment decisions. Interest rates are not, and not being able to claim this expense back can result in unpredictable forecasting as interest rates can rise very quickly, leading to extremely higher costs in a matter of months.

Claiming Mortgage Interest as a Business Expense

One of the main benefits of a commercial activity instead of a residential activity is that you will still be able to claim back interest on your mortgage as a business expense moving forward. The Government’s recent announcement regarding the removal of interest deductibility only applies to residential property income as far as I can gather – here is the IRD fact sheet regarding the changes.

When the full impact of this change is realised 4 years from now, you will have to pay tax on the sum of your mortgage interest instead of this same amount being claimed as a business expense. This will result in a much higher tax payment at the end of the year.

For example, let’s say you bought your one bedroom apartment for $500,000 and you put down a 50% deposit, leaving you with a mortgage of $250,000. According to ASB’s interest only mortgage repayment calculator, your monthly repayments at their current lowest rate of 2.25% will be $469, or $5,628 per year. When the new interest deductibility law for residential income is fully phased in, this amount of $5,628 per year will now be considered income for your property and you will have to pay income tax on this amount, resulting in a higher tax bill (30% income tax on $5,628 is $1,690 extra to pay in taxes).

What happens if the interest rate goes up from the current super-low rate of 2.25%? Let’s say it increases only by 2% to a total of 4.25% (still not very high), your interest only mortgage now costs you $886 per month or $10,632 per year on a $250,000 loan…and you can’t claim this as an expense, resulting in an even higher tax bill (30% income tax on $10,632 is $3,190 extra to pay in taxes).

Furthermore, the interest rate is not in your hands so it can lead to unpredictability when forecasting your business over the coming years – what if it increases by 10% in a few years? Here is a graph showing interest rates in New Zealand over the years and, as you can see, it’s a bumpy ride! Not being able to claim this as a business expense will result in a lot of difficulties for a lot of residential property investors in the coming years.

GST

As short-term rental is a commercial activity, you are required to register for GST if your turnover is over $60,000 for the last 12 months. This is per activity and not per property, so speak with your accountant about what the best way to structure your ownership is if you have multiple short-term rental properties.

Registering for GST can have its benefits as you will be able to claim back GST on most of your expenses, however, you will also have to pay GST on all of your income received from short-term rental. It should equate to a zero difference between GST and non-GST registered though.

Another important effect of GST registration to consider is whether the property itself becomes liable for GST, meaning that you may have to pay GST if you decide to sell. Likewise though, if you go down this route, you will be able to claim GST on the purchase price as well. GST is a tricky subject and it’s definitely advisable to speak with a good accountant about the implications before you switch to short-term rental from residential.

A Disclaimer

We are not attorneys, financial advisors, or accountants so please don’t take any of the above as legal or financial advice – please talk to the professionals and get their thoughts on the matter. Instead, we are experts at short-term rental property management, so please give us a call to discuss how we can help you switch to ‘The New Way to Invest’!