Government reverses interest deductibility limitations

With the new Government now firmly settled in, legislation has been passed which reverses the interest deductibility limitation rules that were introduced by the previous government in 2021.

As previously introduced, the rules phased out the ability to deduct interest on loans drawn down before 27 March 2021 to purchase residential property over a period of five years. For loans drawn down after 27 March 2021, no interest deductions were allowed unless the property qualified as a ‘new build’.

Under National’s tax policy released as part of the election process the deductibility percentage was to increase to 50% for the 31 March 2025 year (as opposed to 25% under the then-current legislation), then phase it back in over the following two years. As detailed in the legislation, the restoration is being sped up, with the new rates as follows:

Date interest incurred
% of interest claimable
1/04/24 to 31/03/25
1/04/25 onwards

This phasing applies to all taxpayers, regardless of whether their lending was drawn down prior to 27 March 2021 or not. This means those who are not currently entitled to deduct any interest will go from 100% non-deductible for the year ended 31 March 2024, to 80% deductible for the year ended 31 March 2025.

Under the old rules, there were various exemptions which meant the rules did not apply to some taxpayers, the most common being a property falling under the definition of a ‘new build’. These exemptions continue to apply, with the rules being completely repealed from 1 April 2025 once all taxpayers are entitled to the same 100% deductibility.

Also under the old rules was a provision that would allow taxpayers to claim a deduction for any previously denied interest amounts, if the eventual sale of their property was subject to tax. Importantly, this provision still applies. This means that any taxpayers with denied interest amounts should continue to keep track of these if there is a chance the future sale of their property will be subject to tax.

The phasing back in under this regime should be relatively simple, with only a small amount of complexity existing for those with non-standard balance dates. For example, for someone with a 30 June balance date who has a pre-27 March 2021 loan, when preparing their 2024 income tax return, they would claim 50% of their interest from July 2023 – March 2024, then 80% of their interest for the remaining 3 months.

These changes see the treatment of residential property become more aligned with normal tax principles, reducing complexity and compliance costs for ‘Mum and Dad’ investors.

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