Chapter 1: What is the main topic discussed in this episode?
Hello and welcome along to the Property Academy podcast by Obus Partners. I'm your host, Steve McKnight.
And I'm Andrew Nicholl.
And this is the show that helps Kiwis go from zero to five investment properties so you can be financially free and stick around for the next 15 minutes because we're going to play Pilfered or Protected, which is our game show about how to save on tax. Everyone's favourite family game.
The four main ways to own an investment property and when to use them and when the right answer might be to pay more tax. Now, first of all, we are never saying let's pilfer from the tax man, let's do dishonest thing. What we're saying is don't pay more tax than the amount you're supposed to, or in other words, don't tip the tax man.
Now, last time we played pilfered or protected was probably about five or six years ago, where we tell you some different scenarios and we talk about, well, what might be the most efficient way to own your investment properties?
And I remember one of Andrew's friends said to me, well, Ed, I think that's really unethical that you're talking about this because, you know, people should be paying their tax. And I said to her, I absolutely agree with you. People should be paying tax, but it's probably not a good idea to pay more than you need to.
And what I see is that some property investors pay more than they need to because they're just in an inefficient structure. So today we are going to play Pilfered or Protected. I'm going to give you three scenarios and we've got four contestants and we're going to talk about, well, which structures would pilfer your profits and which would protect them.
Now, quick disclaimer before we introduce the contestants, Adra and I, we're not accountants. We don't have the attention to detail for that. We're just some property investors who like to geek out about the stuff and we really like reality TV game shows as well. So Andrew, who are the four contestants? What are the four ways you could own an investment property?
Contestant number one is your own name. So very simple, low costs. Most people do this when they buy their own house, they just put it in their own names and you either own it individually or jointly with a spouse potentially, not through a company, not through a trust, just in your own name. And if you're earning a profit, You're going to pay tax at your income tax rate.
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Chapter 2: What are the four main ways to own an investment property?
You just own it. And so that's what own name is. Contestant number two, give it up for Limited Liability Company, which is just a normal company. The good news about this, the company tax rate is 28%, though that throws up some very interesting things around tax we're going to talk about later. Contestant number three is...
a look-through company or LTC, you might hear it. And that's the same as a company apart from the way that profits are handled. So the profits or losses flow through to the owners based on their shareholding.
And that might sound a bit confusing if you're hearing that for the first time, but it'll make more sense after we go through a few examples. And contestant number four is the trust. Now, trust income is taxed at 39%, so a higher rate than companies, but it's very flexible. And again, all that's going to become very useful as we play pilfered or protected.
Now, just before we do that, what structure are most of your properties in? Your own name, a trust, a different type of company?
So most of mine are owned in companies, but then they're owned by trusts. So there's extra layers of protection there for me. It gets a bit complicated, so I won't bore you with the details. But yeah, that's basically how mine are owned. Not very typical.
Well, I really like that because I know for me as well, I've got some in my own name. I've got some in my trust. I've got some in a company. In fact, I've got one in a company that's owned by a company that's owned by a trust.
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Chapter 3: How can the wrong ownership structure cost you thousands in tax?
And I think what that shows is that the way you buy properties will change over time and And the right answer depends on your circumstances, right? So let's go through scenario number one. I'm going to give you the scenario, Andrew, then you're going to have to tell me which ownership structure you might use.
So let's say you own a property, you've owned it in your own name for a while, you bought it for 700k, it's now gone up in value, it's worth $900,000 today. You've got a bit of a mortgage on it, about $500,000, but because the interest rates have recently come down, you've refixed and now you're making a four and a half grand a year profit and you still have a mortgage on your own home.
So pilfered or protected, which ownership structure might pilfer the profits and which would protect them? Is it an own name, a company or a look through company?
So often this is kind of a fairly typical structure for people that have owned rental properties for quite a long time. They've got the property in their own name because that's just the way that it's been. And they're going to have to pay tax on that profit, that $4,500 profit. So that's probably going to be about $1,500 of tax there.
which might not make sense if they've got a personal mortgage. Now, there's a bit of advice you need to get before going and applying what I'm about to talk about. But often what might happen is you might go talk to your accountant and they might say, right, we want to restructure this by moving the equity from that rental property across to your owner-occupied property. So if we can structure
strip out that $400,000 worth of equity, the difference between the value now, $900,000 and the mortgage, $500,000, and dump that against your personal mortgage. That's going to bring down your personal mortgage. And yes, it increases the investment property mortgage.
Now, the benefits of doing this is it improves your cash flow because the debt, you've still got the same level of debt, but that $400,000 has been moved to the investment property. So it's probably interest only rather than principal and interest. It's got the added benefit of potentially protecting your own home more because now you've got less debt on that.
There is also the additional tax benefit because now we might be making a loss on that rental property rather than making a profit. But the key thing here that I want to get across to you is number one, you can't just move that debt across. There has to be a transaction. You have to sell that property to a trust or probably a look-through company.
And before doing that, go talk to an accountant because there are some implications here. And you can't just do it to save tax. That's not legitimate. There has to be more reason other than I want to pay less tax.
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