Technology and how it fits with R&M

The lead up to the election saw the condition of New Zealand’s housing stock hotly debated. Houses acceptable in the 1970s are now considered outdated and low quality for 21st century living.

With the introduction of a new Government, we are waiting to see what changes lie ahead for landlords, for example, will we see housing Warrant of Fitness requirements introduced?

Landlords may need to incur significant improvement costs to bring properties up to the required standard, so the inevitable question will arise – are the costs tax deductible, or capital in nature? Because buildings are not depreciable, if expenses are capital, no tax deduction will be available.

The process of determining whether expenditure comprises tax deductible repairs and maintenance work (R&M) is legally in place (by the Courts), but it is inherently a judgement call, and open to interpretation. As a result, it is a common area of review by Inland Revenue during the investigation process.

A change in the character of the asset is generally more likely to be capital in nature – for instance, where new building materials are used extensively, and perform different functions.

Technological improvement is one accepted means of treating expenditure as deductible R&M. The rationale is based on the Privy Council decision in Auckland Gas Co. Limited v CIR which stated:

It often happens that, with improvements in technology, a replacement part is better than the original and will last longer or function better. That does not, of itself, change the character of the larger object or, hence, the appropriate description of the work.

Some objects do not lend themselves so readily to this exercise in characterisation…A house is a simple example of this. Demolition and rebuilding of a dangerous flank wall of a house would normally be regarded as repairing the house. The answer might not be so obvious if an entire derelict wing of a large house were demolished and rebuilt, especially if the new construction were substantially different from the original. Questions of degree may arise in such cases.

IR’s Interpretation Statement on R&M issued in 2012, briefly commented on the issue. IR referred to the Auckland Gas example. In that case, a significant portion of the gas network was replaced with new pipes that performed differently, resulting in a change in the character of the gas distribution system, hence the conclusion by the courts that the expenditure was capital in nature.

Talk to your advisor if you’d like a second opinion on the impact of your next R&M project.

Published summer 2017.

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