Check your tax position now: IRD could be the biggest obstacle to your next bank mortgage

The New Zealand Herald recently reported that economic disruption caused by the Covid pandemic has led to a surge in the number of people with overdue tax. Figures released by Inland Revenue (IRD) show that the number receiving tax relief rose 4-fold in the year to June 2021, jumping from 26,048 to 112,980. Although that number has not risen significantly further this year, it remains 43% above the corresponding period in 2020. Meanwhile, the number required to pay overdue tax in instalments has almost doubled over the past year or two, from 17,460 to 33,478. These figures indicate that nearly 400,000 people in New Zealand currently have tax debt, equivalent to 10% of the workforce.

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As IRD steps up efforts to recover overdue tax, prospective buyers and homeowners with tax arrears may find themselves at risk of being declined when they next apply for a bank loan. Mortgage adviser Lisa Meredith says she sees at least one case each year in which IRD prevents a borrower from obtaining finance. When banks refuse to extend mortgage repayment terms to repay tax debt, borrowers are often surprised to be turned down despite having a strong asset position. When clients ask why a bank has declined their mortgage application even though they own a property worth NZ$1,400,000 with a mortgage of only NZ$300,000, she points to the Responsible Lending Code.

 

 

Experienced local mortgage advisers at Jiayuan Finance say that in these circumstances, homeowners either seek a second-tier loan from a non-bank lender and apply to a mainstream bank once their tax debt is cleared, or have to transfer their mortgage to a non-bank lender and pay higher interest for several years...

 

Meredith recently had a client whose bank declined a home loan application because the client also had a six-figure IRD debt. The client complained that the bank refused to help with finance unless they could prove they could repay the tax debt within a year, which was clearly impossible. The solution was therefore to move them to another, non-bank lender. Meredith says most non-bank mortgage lenders accept applications only through mortgage brokers and do not deal directly with the public. This means some homeowners with IRD debt risk losing their homes if they are unaware that these non-bank lending options exist.

 

Jiayuan Finance mortgage advisers point out that, even for borrowers with good credit, larger non-bank lenders charge considerably higher interest rates than banks, at around 5.29% to 6.89%. IRD usually issues a 'deduction notice' and, in some circumstances, takes money directly from a debtor's bank account. This process follows set procedures, including notifying the person concerned and issuing a deduction notice to their bank or employer to begin regular deductions. These deductions are additional to PAYE, student loan, child support and KiwiSaver deductions. Unsurprisingly, IRD's forceful approach is bound to upset some debtors. A local homeowner recently complained on Facebook that she was shocked when IRD required her to withdraw money from her revolving credit facility that she had set aside for emergency home maintenance.

 

Mortgage adviser Bruce Patten believes more such cases will soon emerge as IRD intensifies debt recovery efforts in ways that would have been unimaginable before the Covid pandemic. Patten says there is little way around it: IRD will require debtors to use funds in their revolving credit facilities to repay what they owe. Like a student loan, it is a debt that must eventually be repaid. Meanwhile, student loan borrowers who choose bankruptcy rather than repaying IRD may also find banks declining their loan applications. One of Patten's first-home buyer clients discovered after declaring bankruptcy that a mainstream bank mortgage was no longer an option, because their student loan had grown beyond their ability to repay while they were living overseas.

 

 

Jiayuan Finance mortgage advisers warn that tax debt could shut many buyers out of the property market, as banks are currently generally unlikely to lend to people in financial difficulty or debt. Self-employed people face the greatest risk. In the difficult economic conditions of recent years, many have had to divert money intended for PAYE, GST or other tax payments to keep their businesses going and get through hard times. This can quickly lead to substantial IRD debt.

 

 

Who counts as self-employed? Jiayuan Finance advisers explain:

 

Self-employed people include those with irregular income who own and operate a business, or whose salary comes from a company in which they are a shareholder; people working mainly on commission, such as real estate, insurance and mortgage brokers or car salespeople; and contractors and workers whose employment and pay are not continuous.

 

Jiayuan Finance advisers say self-employed people should consider the following issues before applying for a home loan:

 

1

Banks require up-to-date financial statements from self-employed applicants

Before the Covid pandemic, banks would usually accept financial statements from the previous eighteen months when self-employed people applied for home loans. However, with many New Zealand businesses now severely affected by the pandemic, banks require the latest financial statements to assess an applicant's business performance. Jiayuan Finance advisers recommend that self-employed people speak to a professional mortgage adviser and accountant early so they can properly prepare the financial statements banks require.

 

2

How applying for the Covid wage subsidy may affect a loan application 

Because of the pandemic in 2020, many businesses applied for wage subsidies during lockdown. When processing loan applications from these businesses, banks will specifically require additional explanatory material. In particular, an accountant will need to provide profit and loss statements for the most recent months so the bank can assess whether business has returned to normal since lockdown ended.

 

3

How construction loan lending ratios are set

Whether or not an applicant is self-employed, banks set construction loan-to-value ratios (LVRs) using the project's valuation on completion. Under current LVR policy, the ratio is 80% for owner-occupied homes and up to 60% for investment properties, with higher ratios potentially available where Reserve Bank of New Zealand exemptions apply. Specialist finance companies are another good option, particularly for small developers and clients who urgently need short-term cash flow. Their income requirements are less strict than those of banks, and an experienced lending manager can sometimes secure a maximum lending ratio of 80%. Self-employed applicants are therefore advised to choose a professional lending agency. This can help them compile application documents quickly and efficiently, while drawing on years of client experience to tailor a loan package to their individual financial circumstances and needs. The agency's service is completely free for loan applicants, so why not use it?

 

 

Finally, Jiayuan Finance advisers recommend that anyone struggling to repay IRD tax debt seek the relevant help on IRD's official website at:

 

https://www.ird.govt.nz/situations/unable-to-pay-my-tax-debt