Holiday home of bottomless pit?

Intellectual Property Magazine
Thu, 10 Aug 2006

Holiday, or second, homes can become an expensive indulgence. But there are ways to offset the costs

Judging by the steady activity in the country’s coastal areas, notably KwaZulu-Natal, the demand for holiday homes continues unabated. People still take the view that there’s only so much beachfront.

But is a house or apartment at the coast a worthwhile investment, or is it a foolish indulgence, a bottomless pit, a black hole?

Over the past two years, house price growth has been particularly strong along both our coastlines, West as well as East, so gearing — made attractive through low interest rates — and freely available from financial institutions eager to lend, became the order of the day.

If you spotted the property take-off early enough you didn’t have to be a rocket scientist to deduce that buying a second home with money borrowed at two percent below prime, the value of which was doubling every three years, made sound business sense — as long as your cash flow could handle it.

Even the dark cloud of capital gains tax on any future sale was an issue to be shrugged aside. The benefits of owning a holiday home are both real and imagined.

At what cost?

The downside is real enough. Maintenance costs can get out of hand. How do you take care of a sea-facing freestanding house and garden in Margate when you live in Johannesburg and take the family there maybe twice a year?

The answer is usually to employ someone on a maintenance contract, who’ll keep an eye on the place and perhaps supply a housemaid once a week. You’ll also probably need a gardener or (easier) a garden service; if there’s a swimming pool then you’ll require a pool service. And — absolutely essential — you’d better sign up a security company.

Now the costs are building up. If the property is in a complex, perhaps an apartment block, the external costs will be handled by the body corporate. Of course, you’ll pay a levy — and hope that it doesn’t get out of control.

A holiday home can be a fulltime job

You’ll still need someone to clean and dust regularly — and you’ll still need a security service. As the costs mount the HHO (holiday home owner), turns his thoughts to improving his cash flow, i.e. "Let’s rent the place when we’re not there!"

Trouble is, all the other HHO’s are doing the same thing. And there’s just one further tiny snag. The seasonal holiday high spots when you get the most money for renting out your beach paradise are when you and the family want to be there; that was the motivation in the first place!

Nevertheless you decide to holiday in the rainy season and employ a local letting agent. The agent finds the tenants, checks the inventory (and let’s you know what is missing, broken, or needs to be replaced) while collecting the rent. Bear in mind, however, that the charge to the bucket-and-spade brigade is your gross rental income.

Deduct the agent’s commission, cost of cleaning, replacing, fixing and, don’t forget, your other ongoing costs such as, if you’re in a gated complex for instance, that portion of the monthly levy! As you may now have noticed, owning a holiday home can become a fulltime occupation.

To handle it properly, you need to know the ropes. In other words, how tax-efficient can you make the whole operation? As a general rule you can claim expenses incurred in production of income as long as you are carrying on a trade.

Tax implications

Standard principles apply with regard to capital and revenue — you can claim for repairs, but not for improvements. However, costs which are not deductible can be added to the base cost (for CGT purposes), so you have to keep the paperwork.

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Published courtesy of Intellectual Property Magazine.

Presuming that over a tax year your rental income adds up to woefully less than the costs of your holiday haven you can claim the shortfall against your total income — with certain caveats. You can claim bond interest, levies, insurance, letting costs and maintenance. Additional assets such as furniture and fittings you can depreciate.

You have be careful that the shortfall is not ring-fenced. But note: you and any relatives cannot use the accommodation for more than 20% of a year. The Receiver, however, has ring-fenced the practice in that you can’t claim losses forever.

Ring fencing works quite simply by stating that under certain circumstances, losses for more than three years in any five-year period will be disallowed. Another issue you have to watch for is if you decide to sell the property you have been renting.

If the Receiver decides that you have made a speculative investment, any profit could be deemed revenue and not capital, and taxed at your marginal rate (maximum 40 percent). For example, if you buy that apartment in Margate and then sell it a year later, SARS would probably deem the profit as revenue — unless you can put up a case, i.e. you’re going broke and need the cash.

Article from: www.iafrica.com