How do taxes on investment properties work?
Investing in property can be a great way to build wealth. And whatever your investment strategy, it’s safe to guess that you’d rather have more money than less. That's why you need to get smart about tax.
When you buy an investment property, the Australian Taxation Office (ATO) considers the property to be an income-generating business. As with any other kind of business, the money you spend to keep it is tax-deductible.
But nobody ever said taxes were simple. There is a long list of things you can and cannot claim as expenses. There are also several non-cash expenses you might not know about. This is known as depreciation, and it’s one of the most effective ways to return more money to your pocket, sooner.
In fact, Bradley Beer, CEO at BMT Depreciation, says depreciation is more substantial than people appreciate. “It’s usually the second-biggest deduction after loan interest. The average amount in the first full year after you buy an investment property is $9,000. That’s across the board, including both new and established homes.”
What cash expenses can I claim?
Money that you spend on the property is usually tax-deductible if it falls into one of the following categories.
Interest on your loan
If you have a home loan over your investment property, the monthly interest charge is tax-deductible. Payments on the principal are not.
However, be a little bit careful here. If you took out a larger loan than you needed, you can’t claim the interest on that portion of the loan with the intention of using some of it for private purposes.
Bank fees charged for the establishment of the loan are also tax-deductible.
Marketing costs
The cost of advertising your investment property for rent, including photography, copywriting and advertising fees, is deductible. If you get the home professionally cleaned so that it presents well to attract great tenants, that is also deductible.
The fees charged by your property manager are tax-deductible. This is true both for ongoing fees, which are usually a percentage of the rental income and for one-off fees such as lease signing or renewal fees.
Rates and utilities
Running costs, including council rates and utilities such as water, electricity, or gas supply, are tax-deductible if you’re responsible for paying them. However, you can’t deduct the cost of utilities that your tenant pays.
Strata fees
If your investment property is an apartment, unit, or townhouse in a strata development, you will need to pay strata fees. These cover building insurance, professional management costs, and common property maintenance. They are tax-deductible.
Insurance
Building insurance, contents insurance, and landlord insurance are all tax-deductible.
Repairs and maintenance
Maintenance costs are tax-deductible. Improvements to the property must be claimed through depreciation.
For example, replacing broken roof tiles is maintenance, and the cost of the roofing contractor and materials are deductible. If you replace the roof with a new Colourbond roof, you have improved the property and can’t claim the cost under this heading.
What non-cash expenses can I claim?
Depreciation is a powerful tax-reduction tool for a couple of reasons. It can reduce your taxable income by a substantial amount: BMT Depreciation estimates it as $9,000 on average in the first full year. For a brand new home, it’s even more. Better still, you don’t actually have to outlay any money!
Bradley explains.
“When you buy an investment property, just like when you buy a car, things wear out over time. The ATO allows us to make deductions for the loss in value of those things as they accumulate wear and tear. If the item is used to produce business income, it is claimable against your taxable income.”
And yet, depreciation is widely misunderstood. Bradley estimates that 70-80% of all investors are missing out on possible deductions. “They’re either guessing the initial cost and underestimating it, or they’re not claiming things they can claim. Or, often, both.”
There are two components to depreciation: capital works and plant and equipment.
Capital works
“Capital works make up around 85% of the total claim. This part of the claim relates to the structure of the building — so your roof, your walls, your floors,” explains Bradley.
The building must have been constructed after 16 September 1987 to be eligible.
Capital works are depreciated over 40 years from the time it was built, generally at 2.5% per year. This means that if you buy a brand new off-plan build, you can claim the full 40 years of depreciation (if you hold it for that long). If you buy a property that’s already 10 years old, you can claim for 30 years.
Renovations may also fall under this category, so if you put a new roof on the house you can claim the depreciation for that roof over the full 40 years even if the rest of the building is older.
If your investment property is part of a strata complex, you can also claim depreciation on a percentage of the common property in the same proportions as your unit entitlement.
Plant and equipment
“Plant and equipment are also known as fixtures and fittings. That’s your carpets, your hot water system, your air conditioners. You can claim the depreciation on those at a higher percentage per year because they wear out faster and the effective life is a lot shorter,” says Bradley.
What you can claim depends on when you bought your property. If it was after 9 May 2017, you can only claim depreciation on new plant and equipment. That means that if you buy an existing property, you can’t claim the depreciation on the stove or carpets that are already there. If you put in a new stove or carpets, you can claim depreciation on those.
“This is one huge benefit of buying a brand new off-plan property,” says Bradley. “With new properties, you can claim all the fittings and fixtures from day one. And since the deductions are higher for new equipment, the difference between an established and new property is higher as well.”
What happens if I sell my investment property?
If you sell your investment property, and it has risen in price since you bought it, that is known as a capital gain. You are then taxed on that gain, imaginatively named Capital Gains Tax or CGT.
If you have only owned the investment property for 12 months or fewer, you are taxed on the whole amount of the profit. If the property has increased by $20,000 in that time, that will be added to your taxable income for the year.
For most people, the news is better. If you hold the property for longer than 12 months, you get a 50% CGT discount. You’ll only need to include half of the total gain in your tax return.
How do I maximise my deductions?
For cash expenses, keeping records is key. These include:
- When you bought the property and for how much money, including any incidental costs. Some costs, such as stamp duty, are not claimable.
- Rental income
- Expenses as listed above, including the date of the expense, what the expense was for, and any receipts
- The costs of repairs and improvements
- If you sell the property, the selling costs (including marketing and real estate commission)
For depreciation expenses, the smartest move is to hire a quantity surveyor.
“We’ll have a quick look at the address and the age of the property before we do anything else,” says Bradley. “If we think there is the potential for deductions, we will arrange to visit the property and prepare a depreciation schedule. The schedule identifies all the possible depreciable items with a forecast table for future deductions.
“You can also amend previous tax returns to recoup any deductions you might have missed,” says Bradley.
And yes — the quantity surveyor’s fees are tax-deductible as well.
For more help on minimising your tax, get in touch with BMT Quantity Surveyors. Interested in buying an investment property? Here, you can see our latest listings here, or ask more questions about how to make the most of your investment property here.