Build-to-Rent developments: New Zealand is gearing up for change

Currently one third of New Zealand households live in rented residential properties, many of which are family investment properties bought for the capital gain rather than the rental income, and tenanted by low-income households. A wide range of factors – including tax settings, an inflated housing market and construction sector issues – has led to a residential rental market that is highly competitive for tenants, with not enough houses to meet demand and even fewer houses of good quality. Landlords complain about increasing costs of regulation and over-protection of “bad” tenants; tenants complain not enough is being done about the ever-increasing rents, poor quality housing and instable tenure. Both perspectives paint a picture of a rental sector in New Zealand that is fractured, if not broken.

In recent years the property sector has been promoting Build-to-Rent (BTR) developments as a solution to New Zealand’s rental market woes. In this article we discuss what has been achieved to date to address the barriers to the BTR asset class in New Zealand, and the changes that on the horizon for BTR in New Zealand.

What is Build-to-Rent?

A BTR development is a building made up of multiple units, with the development owned by an investor (or investors) and managed by an operator. The investor indirectly profits from the rental revenue from each unit via dividends from shares owned in the development.

Internationally, a BTR rental term ranges from 3 years to 10 (or even 20) years and the tenant can usually give notice to terminate when they wish or within a short period. BTR developments often include amenities such as lounges and gyms and provide tenants with high quality, healthy living conditions with long term security.

New Zealand property sector and social commentators alike advocate for BTR in New Zealand as both:

a levelling of the landlord-tenant playing field, pointing to the quality developments, professional management and security of tenure that a professional BTR development will bring to the market; and
an opportunity to expand and rebrand New Zealand’s rental market as a valued, if not necessary, mode of occupation for a wider groups of society.

To date, New Zealand has seen a very limited number of BTR developments, most in the nature of worker accommodation or small-scale boutique blocks. The first significant BTR development – a 295-unit development by New Zealand-listed property company Kiwi Property – is set to open in 2024 – and will offer units from studios to three-bedroom apartments.

Recent steps towards addressing BTR barriers

While Kiwi Property’s development is progressing at pace, sector commentators have remarked on issues that are preventing others from joining in the BTR market; specifically, uncertainty in the foreign investment regime and imbalance in the taxation regimes. The New Zealand government has made recent progress in eliminating the barriers, albeit incrementally.

New Zealand’s foreign investment regime presented the first barrier,[1] with uncertainty as to how certain key consenting requirements would apply to overseas persons looking to invest in new and existing BTR developments. In response to this uncertainty, in March 2022, the Overseas Investment Office (OIO) released necessary guidance on the application of the OIA to BTR developments. The guidance confirms that the streamlined consent pathway known as the “increased housing test” is available for BTR developments of 20 or more dwellings, depending on the type of land being acquired. Specifically, the guidance clarifies:

The application of the streamlined “increased housing” consenting pathway when foreign investors are looking to undertake new BTR developments. In order for this pathway to effectively apply to a BTR development, the foreign investor must demonstrate they are “in the business of providing new residential dwellings” in the ways set out in the Act.

The OIO guidance confirms that, to evidence being “in the business of”, an investor does not need to have already completed a BTR development, or investments in New Zealand. The OIO will consider the nature of any existing business (including related entities) and what overt steps have been taken to commence providing residential dwellings (and especially overt steps taken to enter the BTR market).

The application of the standard “benefits to New Zealand” consenting pathway when foreign investors are looking to acquire existing BTR developments. The streamlined “increased housing” pathway is usually only available where there will be a net increase in the number of dwellings on the land as a result of the development. It typically cannot be used by an investor wanting to acquire an existing BTR development and maintain the status quo. Yet in these circumstances, the investor will need to seek consent through the standard “benefits to New Zealand” pathway, which typically requires the investor to demonstrate that its investment will bring specified types of benefits to New Zealand beyond the status quo.

The OIO guidance recognises the “reduced risk of illiquid assets” as a benefit to New Zealand. This means that an investor acquiring an asset would benefit New Zealand by ensuring there is a purchaser for assets that might otherwise be stranded. Note that the OIO has not, however, commented on whether providing this benefit, and this benefit alone, will be sufficient for a successful OIO application.

Commentators have argued that the OIO guidance does not go far enough and that legislative changes are needed as a guidance note is not legally binding. However, with appropriate legal advice, we expect those concerns can be managed.

New Zealand’s tax policy settings presented the second barrier, however, the government has recently announced tax policy changes for BTR developments, including a formal definition for the asset class for the purposes of an exemption to the prohibition on interest deduction from rental revenues. An amendment bill is currently making its way through the legislative process and, once enacted, will permit taxpayers who own existing BTR developments and meet the asset class criteria to deduct interest with (retrospective) effect from 1 October 2021. The BTR asset class will also be exempt from changes to interest deductibility rules in perpetuity.

The BTR assets class is defined as follows:

A BTR development must offer tenancy terms of 10 years for tenants. Tenants do not have to accept this term and can terminate tenancies of any length with 56 days written notice;
A BTR development must have at least 20 dwellings in one or more buildings on a single parcel of land or contiguous parcels, held by a single owner;
All BTR dwellings are used or available to rent under the Residential Tenancies Act 1986; and
Residents are able to personalise their rented dwellings to a greater degree than is allowed under the Residential Tenancies Act 1986 (for example, allowing pets and allowing the property to be decorated to suit the tenants’ preferences).

Commentators have again argued that the law should go further and link depreciation benefits, OIA consenting pathways and even resource consenting pathways, to the asset class to make the environment more accessible for foreign investors. Nonetheless, we see the defined BTR asset class as providing a space for BTR developments in New Zealand legislation and encouraging further investment in these developments.

What’s next?

In addressing each of these barriers on the supply-side the New Zealand central government has gone some way to smoothing the regulatory and financial business case for BTR developers in (or entering) New Zealand. But with significant post-Covid19 increases in construction costs, and expectations for a prolonged inflationary environment more generally, new questions are now troubling the sector: will BTR developments be sufficiently affordable for the target market of low-income households? And what role should the housing divisions of central and local government agencies and councils play in enabling BTR affordability and developments generally?

We are aware that New Zealand’s agency for housing, Kāinga Ora – Homes and Communities, as well as many local councils, are currently engaging with the market to understand how private sector BTR developments can support public sector programmes and government aspirations for the housing sector more broadly. So, while these latest questions may be perceived as evidence of further barriers to some, to others they reflect the opportunity that is BTR in New Zealand.