By Stephen Wright

WELLINGTON, New Zealand--New Zealand's government said it will end tax advantages for property investors, hoping to cool fast-rising house prices that have insulated the economy from the pandemic while also worsening inequality.

Home prices have increased at a double-digit pace in the past year to record highs, spurred by ultralow interest rates and years of tight supply. In February, median prices jumped 23% from a year earlier, outpacing increases in other developed economies.

A "bright line" rule, which is the length of time investors should keep a property to avoid paying income tax on its sale, was doubled to 10 years, the government said Tuesday. An exemption for family homes remains, and the bright-line period will be unchanged at five years for new housing developments.

Taxation rules will also be changed to prevent property investors from offsetting their mortgage interest expenses against rental income to reduce tax.

The government said it will establish a 3.8 billion New Zealand dollar (US$2.73 billion) fund to provide infrastructure such as roads and pipes for new housing developments. Additionally, income caps for financial assistance for a first-time home purchase will be increased so more people can qualify, it said.

The New Zealand dollar dropped 1.0% against the U.S. dollar, as a cooling of the property market could slow the economy and further delay interest-rate increases.

The housing boom has helped to cushion the country of five million from the economic downturn brought on by the Covid-19 pandemic, but also worsened a problem of home ownership being unattainable for some first-time buyers.

Analysts said the removal of tax advantages for investors could result in prices rising at a slower rate in the second half of this year, but the underlying problem of a short supply of new homes would remain.

The economy might also be slower to recover from the pandemic if the housing wealth effect fades. Meanwhile, rents could rise faster as landlords try to offset the loss of their tax benefits.

"The change will put upward pressure on rents. And too-high rents are also a massive problem in many New Zealand cities," said Sharon Zollner, ANZ's chief economist in New Zealand. "In the long run, the only solution is more housing."

Finance Minister Grant Robertson said the measures will "dampen speculative demand and tilt the balance towards first home buyers."

Prime Minister Jacinda Ardern had promised to clamp down on speculators and improve housing affordability when elected in 2017. A signature policy to build 100,000 homes over a decade was dropped in 2019 as being overly ambitious after homes were built in areas with limited demand from first-time buyers.

The government also said the central bank will provide advice in May on other measures to damp property speculation, including the introduction of debt-to-income restrictions and ending interest-only mortgages.

Write to Stephen Wright at stephen.wright@wsj.com

(END) Dow Jones Newswires

03-23-21 0110ET