Setting up and managing your rental

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1 Setting up and managing your rental Once you have a plan in place and you ve narrowed down the types of property you might buy, it s time to think about finances, ownership structures and the way you ll manage your rental property. Once again, understanding all the options will help you to make choices that support your goals and lead to the rewards you have in mind. The decisions you make here could also help you to narrow down your preferred property type and strategy. Getting a deposit There are two main ways to do this. You either save up a cash deposit or use the equity you have in a property you already own. With this second option, the lender agrees that the value of your existing property is well above anything you might owe on it. By using your existing property as security for the new loan, it can be possible to borrow the full purchase price of your rental property. You might also be able to borrow some extra to cover initial expenses for things like renovations.

2 You should think carefully and get independent advice before choosing the equity option. If rents drop, your property is empty for a while or your circumstances change, such as your employment, you might not be able to keep up the loan payments. And if property prices have fallen, the lender might have to sell both of your properties to recover the amount you still owe. Some people are happy to tie their family home to their property investment; others prefer to keep the two completely separate. Choosing the right home loan Your property investment plan will help you to choose a home loan to suit your goals. A combination of different home loans can often give you the best match. Here are just two examples to give you some idea of the possibilities: > > If you re planning to renovate before renting, an interest-only loan for the first few months could help to keep initial costs down until the rent starts to come in If your rental income will be irregular you might have students leaving at the end of each year or seasonal rent from a holiday home then a revolving credit home loan or our TotalMoney 1 home loan could suit To find out more about home loans check our How to finance a house guide, pop into one of our stores, or call us on 0800 BNZ LOAN ( ). 1. Account opening criteria apply. Not for business purposes. Full details, TotalMoney terms and conditions, and disclosure statement may be obtained free of charge from any store or bnz.co.nz

3 Tax considerations Owning a rental property is like running a business and with any business, income (in this case rent) is taxable. This means you ll have to complete a tax return each year. Legitimate expenses are normally tax deductible. They re usually things you have actually paid for that were essential to the running of your rental property. The interest you pay on the home loan for your rental is one example. Repairs and maintenance costs can be another, but not when they become improvements to the property adding to its value or increasing the rent you could charge. Tax laws can change at any time and keep in mind your rental property could be a mid-to-long-term investment. For this reason some property investors don t rely on tax savings in their plan, but simply treat them as a bonus when they occur. For information on taxes visit the Inland Revenue website ird.govt.nz or ask your accountant.

4 Gearing Its not unusual to hear about a rental property being positively or negatively geared. A positively geared property means that the income you receive from your investment property the rent is greater than all of the costs of owning it, including interest, rates, insurances, body corporate fees, maintenance and others. With a negatively geared property, the expenses are greater than the income. The easiest way to influence the gearing of a property is by adjusting your expenses. Normally the only expense you can really change is the interest by either borrowing more or less where possible. Negative gearing Sometimes the rent a property earns will always be less than the ongoing ownership costs (such as the interest on the loan) and management costs. In these cases the owner will need to make up the difference from other sources of income. Some rental property investors are happy to do this. Part of their plan might be to put their own money into the investment with the expectation that the property will increase in value to compensate over the long term. This strategy is called negative gearing. The loss the rental property investment makes might provide some tax savings on the owner s other income but there are no guarantees and a loss will always be a loss. If the property does increase in value to compensate, that money will only be available after the property is sold or if you decide to borrow using the equity you now have in that rental property.

5 Yielding Another term you may hear is yields. One way to compare multiple investment properties is to look at the yield; it can help you decide which property is the better investment. The yield is the return, as a percentage that you will get on the cost of the property after expenses but before tax. Don t include the loan as the amount may differ depending on the property you buy. Any tax advantage, capital gain or loss or loan costs and interest would be additional to the yield and make up your total return. Here s an example: Price of property $240,000 Gross annual rent ($270 x 52) $14,040 Annual expenses Management fees $500 Rates $1,000 Insurance $300 Maintenance $250 Body corporate fees $750 3 weeks vacancy $810 Total $3,610 Annual rent after expenses (Divide rent by the price of the property and multiply by 100) $10,430 / $240,000 = x 100 = 4.35% $10,430

6 Expenses to consider To run a successful rental property you ll need a detailed budget. Here are some of the expenses you might need to include: > Advertising for tenants > Travel to and from the property > Loan interest > Rates > Insurance > Professional services fees (e.g. accountant, lawyer etc.) > Taxes and/or tax returns > Compliance costs to make sure the property satisfies accommodation requirements, especially for converted garages or sleep outs. > Body corporate fees mainly for flats, apartments and townhouses on shared land, these can be quite expensive > Property management fees if you use a property management service > Maintenance floor coverings, interior and exterior painting, exterior cleaning (like gutters, decks, railings and water blasting slippery pathways) bathroom, laundry and kitchen upkeep, and don t forget replacing appliances if they are part of the rental package > Lawn and garden care you might not want to rely on your tenants for this

7 Insurance Compared to normal home insurance, there are additional things you might want to cover as a landlord. Here are a few examples: > Loss of rent because your rental property could no longer be lived in due to some insurable loss such as a fire > Loss of rent because the tenant left without giving notice or you had to evict them > Theft or loss of your own possessions from the property > Deliberate damage or vandalism to the property or your possessions standard home insurance would normally cover accidental damage only If you re thinking of using the equity in your family home to help buy an investment property, you should also take the time to review your life insurance cover. You don t want the family home to have to be sold if something happens to you and your rental property cannot be sold for enough money to fully repay the mortgage. We offer an insurance product called PremierCare 1 which has optional cover specifically for landlords. To find out more call our Property Investment Team on PremierCare is available through Bank of New Zealand (BNZ) and is underwritten by the insurer, IAG New Zealand Limited, a member of the Insurance Council of New Zealand Inc. BNZ does not guarantee the obligations of IAG New Zealand Limited. BNZ receives a commission for arranging PremierCare Insurance.

8 Ownership structures There are many different ways you can own a rental property. Some of the more common ones are personally, jointly, in a partnership, as a trust, as a standard company (Ltd) or as a Loss Attributing Qualifying Company (LAQC). The structures vary in the way that taxes can be calculated and managed. They also offer different levels of separation between the rental property investment and your other possessions and businesses if things go wrong. You should get advice from your accountant, lawyer and/or financial adviser before deciding which structure would best suit your plan and your goals. In the meantime, here are a few points to get you started: > Individual or joint: you buy the property in your own name or joint names and any rental income you have left over, after expenses, is added to your personal income/s for tax purposes. If your rental property makes a loss because the expenses are more than the rental income, it might be possible to deduct that loss from your other sources of income. This can reduce your total taxable income and therefore the tax you have to pay. It won t recover the entire loss, just a percentage of the loss up to the total of any tax you have paid. For the most up to date information on rental income tax visit the Inland Revenue website ird.govt.nz

9 > Trust: some investors choose this structure to help separate the rental property from the rest of their commitments. A trust can also make it easier to share the income from a rental property across other members of the trust, such as other people in your family. The trust will need to have separate accounts and tax returns, which can add to your accounting costs. > Company: you and your partner can establish a company and become its shareholders and directors. The rental property is owned by the company and the income, loans and expenses are all in the company s name. There are two main types of companies that people choose for rental ownership. A Loss Attributing Qualifying Company or LAQC can pass losses to its shareholders, which they can then offset against other sources of income for tax purposes. LAQCs are the most common type of company for rental ownership. A normal limited liability company (Ltd), cannot pass losses outside of itself onto its shareholders. It can only carry those losses forward and off-set them against taxable income when the company makes a profit. Set up costs and ongoing additional accountancy requirements apply for both, such as filing an annual return to the Companies Office and a separate company tax return.

10 Property management Another thing to include in your plan is whether you ll manage the property yourself or pay someone else to do it for you. Most property management companies offer a full range of services, from helping you find the right tenants and taking care of repairs and maintenance to collecting the rent and completing regular property inspections to keep an eye on your investment. Some property investors never see their tenants or visit the property. They simply buy the property and pay someone else to take care of everything else. The services you decide to get someone to provide, if any, will normally depend on a number of factors including the amount of time you have available, how confident you are about some of the skills required and how close you live to your rental property. Either way, it s a good idea to find out about property management services and how much they cost before finalising your plan. Financial management The financial management side of owning a rental property is something you can either do yourself or ask your accountant to help with. You ll need to keep detailed financial records and receipts as well as complete a tax return each year. You ll also need to keep an eye on your cash flow and plan ahead to make sure you ll have enough to pay the bills when they re due or cover unexpected repairs. Having a separate bank account such as a TotalMoney 1 account can help. Again, how much you decide to do yourself will probably depend on your available time and your skills. If you decide to do most of it yourself, an online accounting tool like Xero could be a good idea visit xero.com to find out more. 1. Account opening criteria apply. Not for business purposes. Full details, TotalMoney terms and conditions, and disclosure statement may be obtained free of charge from any store or bnz.co.nz