The bright line rules have been called a capital gains tax by stealth, designed to tax realised gains on residential property sold within a few years of purchase.
The new bright line rules announced on 23 March 2021 apply from 27 March 2021 and are likely to trip many people up.
Prior to 27 March 2021
The bright line rules do not apply to the “main family home”. Until 27 March 2021 the “main family home” was the home that you lived in for more than 50% of the time you owned the property. If you sold the property within the bright line period (2 or 5 years depending on when you bought it prior to 27 March 2021) the capital gain was not taxable so long as you lived in the home for more than 50% of the time you owned the property. It was an “all or nothing” test.
Therefore, if you sold the main home within say 5 years of purchase, living in it for say 24 months and renting it out for say 18 months the capital gain would not be taxable (as you lived in the property as your main home for more than 50% of the time the property was owned).
But if you lived in the home for 29 months and rented it out for 30 months, then you would be taxed on all the capital gain as you lived in the property as your main home for less than 50% of the time it as owned, and sold it within the bright line period.
From 27 March 2021
The bright line rules from 27 March 2021 extended the bright line time frame from five years to ten years, and changed the main home test from a predominant use test (over 50%) to predominant time gone test.
For example, say you bought a property on 1 April 2021 as your main home and lived there for 6 years, then for some reason you moved out and finally sold it after 9 years of ownership. Then 3/9 of the capital gain would be taxable as you sold the property within 10 years and under the new rules the capital gain is calculated on the proportion of time it was not your main home and total time it was owned.
However, if you bought a property on say 1 April 2021 as your main home and lived there for 6 years then for some reason moved out and subsequently sold after 11 years of ownership, then the capital gain is not taxable. That is because you did not sell the property within 10 years of purchase, even although you lived in the property less than 50% of the time it was owned.
Calculating the Taxable Capital Gain
Under the bright line rules the capital gain is calculated as follows:
- Subtract the purchase price from the sale price
- Subtract the cost of capital improvements made
- Subtract the costs to buy and sell the property
- Multiple the result by the proportion of time the property was not being used as the owner’s main home.
Ten years is a long time and people die/get sick, jobs change, children and grandchildren arrive, divorce happens, and the unexpected can occur! Sometimes a “forever” home will be sold within 5 or 10 years of purchase. To minimise potential bright line tax you must keep good records, even when buying what is intended to be “your main home”.
The onus of proof is always on the taxpayer. So, whether you are buying a residential rental property, a bach, or a main home – keep good records, including the dates you lived there and invoices for improvements made, just in case.