Our property development team frequently assists owners to subdivide their land, including where they wish to sell part of their land while retaining some of the land for themselves. The figure below illustrates a common example, with the blue area and home being sold and the green area retained for the owner to build a new family home.
Traditionally any sale of the blue area could only take place once the full subdivision process was completed and the new titles issued (which can take many months), requiring the vendor to fund the subdivision process and wait for payment from the purchaser.
However, our property development team have a tested alternative to overcome the funding and delay issues – the entire property (with its existing title – both the blue and green areas) can be transferred to the purchaser with the purchaser paying the full purchase price of the blue area immediately. The vendor then has the resources to continue with the subdivision process to ultimately get the new titles issued and retained land (green area) registered back in their name.
To implement this process safely and effectively, the agreement for sale and purchase requires careful modification. It should record that, although the entire existing title is being transferred to the purchaser, the purchaser is holding the green area in trust for the vendor, that they will sign all of the required subdivision documents, and that they will transfer the green area back to the vendor on the issue of the new titles. Suitable protections also need to be put in place with the purchaser’s bank (if they are registering a mortgage) and by way of caveat to prevent the purchaser transferring the land pending completion of the subdivision.
So how does the bright-line tax rule apply to this arrangement? Under the bright-line rules, income tax can become payable on the capital gain if you sell residential property you have owned for less than the bright-line period (generally 10 years, at the date of this article). On the face of it, the subdivision process appears to involve the purchaser taking ownership of a property and shortly afterwards selling part of that property. This will likely trigger a “please explain” letter from the IRD compliance monitoring team, questioning whether tax should be paid by the purchaser. We are pleased to be able to confirm that, having recently received and responded to such a letter, the IRD has confirmed that bright-line tax does not apply to our adopted process because the purchaser is merely holding that part of the property in trust for the vendor.
This is a very useful mechanism enabling our clients to obtain the full purchase price for the sale of part of their property, prior to completing the subdivision. It is pleasing to know that the IRD has confirmed that it does not trigger unintended consequences under the bright line test.
This process may not be suitable in all circumstances. The outcome of the IRD review highlights the importance of having expert tailored advice and documentation up front. Please contact our property development team if you wish to discuss any property development matters, or think that this process could be of benefit for you.
For expert advice contact one of our specialists.