An array of government measures including better insulation on rental properties, the end of negative gearing for property investors, and the potential introduction of a capital gains tax may force a mass rental stock sell-off, warns property management consultant David Faulkner.

We’ve all seen the headlines. Teachers forced to bunk in with their bosses; over 10,000 households waiting for public housing, up from 4530 the same time last year; even disturbing claims like ‘sex for rent’. Almost daily now, we see stories of tenants struggling to secure properties while rising rents force people out of their homes.

In the last 12 months, rents have skyrocketed, increasing by over 10% in many parts of the country. Queues upon queues of desperate tenants battling to secure a run-down rental property are a common sight. In one case I witnessed in Wellington, around 20 prospective tenants turned up to a viewing for a tiny ‘one bedroom’ flat with a bedroom so small the double bed had to go in the lounge. Although habitable, it was tired and dated, and did I mention tiny? The asking price: a bargain at $410 a week. There was no shortage of applicants.

The young solo parent who lived in the property was being forced to move because she could not keep up with the rent. As I left the property, I couldn’t help but feel a sense of dread about where this rental shortage is heading.

Things were going to get better for renters under this government, weren’t they?

• Housing was Labour’s top priority in the run up to the 2017 election, with campaign promises such as.
• Crack down on property speculators with the removal of negative gearing
• Improved rights for tenants with introduction of new legislation to provide greater security of tenure
• Pass the Healthy Homes Guarantee Bill that raises the standard of rental properties
• Ban letting fees
• Create a level playing field for first home buyers
• And of course, the most famous pledge of them all. Kiwibuild! 100,000 houses to build across New Zealand over the next 10 years

So, halfway through the government’s first term, how are things panning out? If you’re a renter, the answer is ‘not good’. But think things are bad now? You’d better breathe in, as the rental squeeze could get worse – a lot, lot worse, as thousands of rental properties are put up for sale due to non-compliance with new insulation standards. The result: an even greater shortage of rental properties.

Why have things gone so badly wrong?

There are a multitude of factors that have created this situation, but one of the main reasons is that the vast majority of small-scale investors – those who own one or maybe two properties – have found it just too hard. They can see that the prospect of having to invest thousands of dollars to make properties compliant will lead to diminished returns. The numbers simply don’t add up. Then there’s the upcoming end to negative gearing which offsets losses against landlords’ personal income – ie, a tax break.

Why has it become so hard?

There is so much change around legislation and taxation that many small landlords simply no longer see property as a viable investment and have chosen to put their money elsewhere. This is good news for first home buyers, who have more properties to choose from. But meanwhile the pool of tenants has remained the same, meaning even greater competition for rental properties – in particular, for three to four-bedroom housing. The basic rules of supply and demand has led to the inevitable increase in rents.

Surely, though, higher rents make landlords happier? Yes, but the increased rental income is unlikely to cover the increase in expenses facing many landlords across the country.

It seems the government drastically underestimated the potential consequences to some of their housing policies. It’s ironic that the very people they were elected to help are being punished through some of these policies – while the big wealthy landlords, whom they promised to target, are probably laughing all the way to the bank. Cashflow is king for those big landlords, and many of the savvy long-term investors will not face the same debt to equity ratio, or operating expenses as a percentage to their income, as the small-scale investors.

It’s true that it’s not all this government’s fault. The previous government has to take some of the blame, as do many landlords who, it has to be said, have neglected their rental properties for years.

So, let’s examine why things have gone so desperately wrong – and why things are only going to get worse for the foreseeable future.

1st July insulation deadline

Back in 2016, legislation was passed that meant every rental property in New Zealand would have to be insulated where it was practicable to do so. The deadline for completion is 1st July 2019. That date is fast approaching.

The Housing Stocktake of New Zealand compiled last year estimated there were approximately 580,000 dwellings being used in the private rental sector and approximately 37% of the population were living in rental accommodation. Many of these properties were uninsulated. The 2016 legislation gave landlords three years to get their properties compliant and insulated before the standards became mandatory.

Typically, many landlords were oblivious to this or simply just put it off and ignored it. We estimate that around 10% to 15% of rental dwellings are still non-compliant, and the insulation industry simply does not have the capacity to get the work done in time (one leading insulation provider’s best estimate is that 50,000 dwellings can be insulated a year, in total). We believe that there could be as many as 75,000 non-compliant properties when the 1st July 2019 deadline strikes. Any landlord with a dwelling that is not insulated by 1st July could face $4,000 exemplary damages through the Tenancy Tribunal and be issued a work order ensure that the work is done. Ignore that and they could face an extra $3,000 in exemplary damages.

Because many landlords have been slack or have left it too late, we believe we will see a surge of rental properties put on the market for sale as the deadline approaches. The reality is that much of our rental stock is in poor condition and many landlords will not want to ‘throw money away’ spending thousands to make a property compliant. This could be good news for first home buyers and savvy investors but bad news for tenants, leading to an even greater shortage of rental stock.

Tenancy Compliance Investigation Team (TCIT)

Set up in August 2016, the TCIT monitors and enforces compliance with the Residential Tenancies Act. These guys mean business, targeting property management companies up and down the country. Last year, the TCIT warned property managers that they would be held accountable if the landlords they represented did not get their properties insulated.

No property management company wants to face $4,000 of exemplary damages and have their brand negatively portrayed in the media. The only real option they have is to hand back thousands of the properties currently under management. Faced with the challenge of making their properties compliant, many landlords will probably choose to sell. Others will simply form a ‘black market’ of rental properties, gambling on not getting caught.

The Healthy Homes Guarantee Bill

Yesterday came the announcement of a raft of measures to improve the quality of rental housing in New Zealand. It’s a welcome move, as the quality of rental property in New Zealand is well below the standard you would expect from a country of our stature. Literally hundreds of thousands of tenants up and down the country are living in cold, damp rental accommodation.

This bill is probably one of most radical changes to housing legislation in this country’s history. There will always be landlords who try to do as little as possible, and this does need to be legislated against to protect tenants. This bill is good news, but it’s undeniable that there will be big new costs to landlords, including the fixed source of heating in the living area, additional insulation costs, and the moisture barrier underneath the property to prevent rising damp.

The result? You guessed it: a further reduction in the rental stock.

Let’s take Dunedin as an example. Many of the student accommodation in the city is of an age and condition that would probably make if financially unsustainable to invest the tens of thousands of dollars that is required to make the property compliant.

A potential consequence of this is that the landlords simply do not do the work and leave the properties derelict, as to rent them out would be a breach of the Rental Tenancies Act. Many may just land bank, waiting for the opportunity to sell to developers the land their properties are sitting on. In only a few years there could be streets of derelict housing sitting empty, while the thousands of students scramble for what little rental stock there is. If you’re an investor, buying a good quality Dunedin student rental may not be a bad idea.

Attack on negative gearing

When we are demanding that approximately 400,000 NZ landlords invest thousands of dollars into their rental properties, the worst thing we can do is remove the ability to offset rental losses against their own personal income. In many cases, landlords get a significant tax rebate. This rebate could be used to finance many of the much-needed improvements, but when negative gearing is removed later this year the financial return will simply no longer stack up. Approximately 90% of landlords in New Zealand own only one or two rental properties. This tax break is vital for the financial viability of their investment.

In my opinion, this is Labour’s biggest mistake. From the outset, they have said that the largest exponent of negative gearing is large property speculators. That could not be further from the truth. These big landlords probably run their business as a profit and therefore only benefit from the rising rents.

In fact the biggest benefactors of this policy change will be the large landlords Labour set out to target. With rents increasing by 10% a year they’re making more and more money, with little of the downsides experienced by smaller investors.

The best thing the government can do is park this negative gearing change until all properties comply with the Healthy Homes Guarantee Bill. Even better, remove it from the table completely. That, however, is unlikely to happen.

Proposed increase of tenant rights

The increasing debate around tenants’ rights has left many landlords feeling that they have been unfairly targeted with many believing that things have gone too far. I for one have no problem with some of the proposed changes such as being more welcoming to pets, limiting rent increases to once a year, and tighter legislation around boarding houses.

But other changes are questionable. Landlords feel that demanding they give a valid reason to end a tenancy strips them of property ownership rights. Landlords have already been hit with tenants no longer being liable for accidental damages after the infamous Osaki case. The proposed Residential Tenancies Amendment Bill does address this to some extent but it does not go far enough. If a tenant is allowed to have a dog by right, and the dog damages the property, then the landlord should not have to spend a cent in repairs to damage caused by the tenant.

Tenants already have a multitude of rights; the main issue is that many do not know how to exercise them. If things go too far in the tenant’s favour, many landlords again will weigh up their options and if it becomes too hard, throw in the towel.

There are other contributing factors to the rental shortage. A big one is the artificial shortage of land which seems absurd considering fewer than 5 million people live here and our country is not much smaller than Japan, where they accommodate 128 million. Go figure! Then add on the cost of building – is it any wonder that Kiwibuild has been an absolute flop?

The proposed implementation of capital gain taxes will also have many investors nervous with the prospect of having to pay a proportion of the capital gain to the state in taxes.

However well-intentioned these new laws might be, they’re helping to bring us to a potential crisis point with rental accommodation. And things will get worse before they get better.

The government is trying to rush too much policy through without taking stock and looking at the potential fallout. While I support many of the measures, like the compulsory insulation for rental properties and the Healthy Homes Guarantee Bill, the targeting of private rental sector landlords is short sighted. Claiming that speculators are the biggest exponents of negative gearing, meanwhile, is just factually incorrect.

At a time when we need our landlords to invest in their properties, attacking negative gearing is not the right solution. If anything, it is making matters worse. The potential for mass sell-offs of rental stock – leading to huge increases in rents – is a frighteningly realistic prospect.

Whether many on the left like it or not, New Zealand needs a strong and professionally run private rental sector. Targeting them has backfired