Summary
The taxpayer and her husband were found to be carrying on a small, residential property rental business. The scale and volume of the operation, and the commitment of time, effort and finance involved were found to have been considerable and not merely passive investments as the taxpayer maintained. This finding resulted in a consequential re-calculation of their Working for Families Tax Credits ("WfFTC") entitlements.
Impact of decision
The Taxation Review Authority ("TRA"), in determining whether or not the taxpayer was engaged in business, applied the two-limb test in Grieve v The Commissioner of Inland Revenue [1984] 1 NZLR 101 ("Grieve"). Accordingly, the TRA confirmed that Grieve is still the leading case on whether or not a taxpayer is involved in a business.
In that regard, the TRA confirmed that the letting of residential properties will not be merely passive investments if the scale and volume of the operation, and the commitment of time, effort and finance involved are considerable.
Facts
This case involves a challenge by the taxpayer to the Commissioner of Inland Revenue's ("the Commissioner") amended WfFTC and income tax assessment for the tax year ended 31 March 2008.
The taxpayer and her husband have two children. The taxpayer was in receipt of WfFTC based on her "family income" being the combined income of the taxpayer and her husband. The taxpayer also claimed WfFTC in the 2009, 2010 and 2011 years on the same basis as the 2008 year.
In early 2007 the taxpayer and her husband attended a seminar organised by X Ltd relating to the purchase of rental properties for investment purposes. Following this, they became clients of J Ltd, a firm involved in conducting seminars relating to the taxation of rental properties. The firm was listed as their tax agent from 15 May 2007.
In August 2007 they registered for WfFTC. Both the taxpayer and her husband were in full-time employment and had not received WfFTC in prior years as their combined family income exceeded $100,000, making them ineligible to claim.
On 27 September 2007 their accountant sent a fax to the Commissioner stating that the taxpayer and her husband's total 2008 family income was estimated to be $73,936. This calculation included salary/wages of $143,000 less rental losses from residential rental properties of $69,064.
Rental properties
In 2004 the taxpayer and her husband purchased a rental property that was sold on 27 March 2007. Rental losses of $6,022.58 from this property were used in claiming WfFTC for the 2008 year.
In August 2004 the taxpayer and her husband purchased a property that is the family residence but is also occupied by the taxpayer's parents-in-law who lease a portion of the home. No written rental agreement existed, but they pay $250 rental in cash per week.
The taxpayer and her husband also purchased two properties, following the property investment seminar, which are both leased to Housing New Zealand.
The rental losses for the 2008 tax year for each of these four properties were used by the taxpayer and her husband in claiming WfFTC. The gross income claimed for this income year was $42,550.65. The total expenses claimed were $130,897.27.
The Commissioner amended the taxpayer's returns on the basis that the taxpayer and her husband were carrying on a rental property business in the 2008 tax year. The rental losses were added back in the specified "family income" when calculating WfFTC entitlements pursuant to section KD 1(1)(f) of the Income Tax Act 2004.
Decision
In determining whether the taxpayer was in business, the TRA referred to the leading case of Grieve. In that case, Richardson J held that the decision whether or not a taxpayer is in business involved a two-fold enquiry as to the nature of the activities and the intention of the taxpayer in engaging in such activities. His Honour set out the factors to be taken into consideration in determining the nature of the activities carried out as being the: period over which they are engaged in; the scale of operations and the volume of transactions; the commitments of time, money and effort; the pattern of activity; and the financial results.
The TRA found that the second limb of the Grieve test was met as the taxpayer and her husband had a clear intention of making a pecuniary profit. She noted that it does not matter that a taxpayer may have a number of different intentions; as long as one of those intentions is to make a pecuniary profit that is sufficient.
Her Honour considered the principal issue in the case related to the first limb of the Grieve test: namely the nature of the activities carried on, and in particular, whether they are sufficient to constitute a business.
Her Honour noted that the taxpayer was involved in residential property letting, which it is well established can amount to a business.
The taxpayer's position was that the rental properties owned by her and her husband were merely passive investments and that there was insufficient activity to constitute a business.
The Commissioner contended that there was sufficient activity to constitute a business. After referring to the rental operation, the taxpayer's administrative and maintenance responsibilities in relation to the rental properties, and the nature and extent of the activities carried out by the taxpayer, illustrated by the expense claims made by the taxpayer and her husband, the TRA stated at [30]:
- As well as this personal commitment of time and effort, the financial commitment involved for the disputant and her husband was very considerable.
Accordingly, the TRA did not consider on the evidence that the investments were "passive". Her Honour stated at [32]:
- The activities in which the disputant and her husband were engaged (and the associated time investment) were typical of a small rental property business.
Having concluded that the taxpayer was engaged in a rental property business in the 2008 tax year, the TRA found that the taxpayer's rental losses for the 2008 tax year were business losses and should therefore be excluded for the purposes of calculating the disputant's entitlement to WfFTC.
