I
SPECIAL
PROPERTY
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL
BONUS SPECIAL THREE: SECOND EDITION
A SUMMARY OF TAX
EFFECTIVE PROPERTY
INVESTMENTS
DESIGNED TO GIVE
YOU A GREATER
UNDERSTANDING OF
DEVELOPING A
PLATFORM FOR SELF
FUNDED RETIREMENT
CHOICE THROUGH
EFFECTIVE PROPERTY
PORTFOLIOS
A HANDBOOK FOR
TAX EFFECTIVE PROPERTY
INVESTMENTS &
FUNDAMENTALS FOR BUILDING
A PASSIVE PROPERTY PORTFOLIO
WHY CHOOSE TO INVEST
WHAT TO CONSIDER
ACCELERATED GROWTH
MODELS
BUILDING A PASSIVE
PORTFOLIO
FINANCING INVESTMENTS
LOAN STRUCTURES FOR DEBT
CONSOLIDATION & MORTGAGE
REDUCTION
SELF FUNDING
INVESTMENTS FOR
WEALTH CREATION
PILLARS OF GROWTH
UNDERSTANDING GROWTH
FACTORS INCLUDING
POPULATION, SUPPLY AND
DEMAND, AND THE ECONOMY
RENTAL INCOMES
TYPES OF INCOMES
RENTAL DEDUCTIONS
IMMEDIATE DEDUCTIONS
DEDUCTIONS OVER TIME
DEPRECIATION SCHEDULES
CAPITAL GAIN TAX
PROUDLY SPONSORED BY:
MERLOT INVESTMENTS AUSTRALIA
www.merlotinvestments.com.au
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 2
A special thanks to all the specialist team at
Merlot Investments Australia for their expertise,
input and ideas to this Tax IQ Bonus Special
DISCLAIMER
The information contained in this publication is for guidance only and should not be relied upon without obtaining professional advice having
regard to your direct circumstances. No responsibility for loss occasioned directly or indirectly to any person acting or refraining from acting
wholly or partially upon or as a result of the material in this publication or for any error in or omission from this publication can be accepted by the
publisher, or any author, editor, contributor or consultant or any company referred to herein.
Nothing in this publication is intended nor should it be interpreted as in any way sanctioning, advocating or condoning directly or indirectly the
commission of any unlawful act or omission by any person or company in any jurisdiction for any illegal or fraudulent purpose. This publication is
made available on the understanding that the publisher is not engaged in rendering legal, accounting, tax or other professional advice or
services.
© Copyright Dwade Sheehan MBA (Laws), Media IQ Pty Limited, Merlot Investments Australia Pty Limited. All Rights Reserved.
No part of this publication may be reproduced in any form or by any means, electronic, photocopying, recording or otherwise without prior written
permission.
Tax IQ 2009 Property Investment Special Second Edition published by
Media IQ Pty Limited
PO Box 9007 GCMC QLD 9726
Email : info@miq.com.au Web: www.miq.com.au
with the assistance of
Merlot Investments Australia Pty Limited
Email: info@merlotinvestments.com.au Web: www.merlotinvestments.com.au
T 1300 MER LOT
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 3
CONTENTS
0. FORWARD
4
1. WHY CHOOSE TO INVEST
Why You May Choose to Invest
What You May Need to Consider
4
4
4
2. TYPES OF COMMON INVESTMENTS
Cash and Fixed Interest (Savings)
Superannuation
Shares
Managed Funds and Listed Property Trusts
Direct Residential Property
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5
5
5
5
5
3. BORROWING TO INVEST - GEARING
6
4. WHY CHOOSE TO INVEST IN PROPERTY
The Property Cycle
6
6
5. FACTORS IMPACTING PROPERTY GROWTH
Population
Supply and Demand
Infrastructure
Employment Diversity
Education
Lifestyle (Standard of Living)
The Economy
Inflation
Employment
Interest Rates
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7
7
9
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9
9
9
9
9
10
Types of Rent Related Expenses
Apportionment of Rental Expenses
Non-deductible Expenses
Acquisition and Disposal of Property Expenses
Deductible Expenses
Expenses for Immediate Deduction
Expenses you can Deduct Over Time
Depreciation for Deduction
Prime Cost
Diminishing Value
Effective Lives - Division 40
Replacement
Low-value Pooling Items
Capital Works Deductions - Division 43
Cost Base
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14
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15
15
16
16
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16
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17
8. OTHER TAXATION CONSIDERATIONS
Capital Gains Tax
Methods of Calculating your Capital Gain or Loss
Goods and Services Tax (GST)
Margin Scheme
Negative Gearing
Income Tax Withholding Variation (ITWV)
Pay As You Go Instalments (PAYG)
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17
17
19
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19
9. RENTAL PROPERTY ASSETS & DEPRECIATION20
Division 40 - Effective Lives Tables
20
Division 43 - Capital Works Deductions
21
A WORD FROM OUR SPONSOR
6. WHY INVESTORS CHOOSE PROPERTY
Direct Ownership and Control
Tangible Value with Leverage Opportunities
Leveraging a Property Portfolio
Income Producing Asset
Tax Effective Asset
Diversification
Strong Capital Growth Over Time
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10
10
10
11
11
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11
7. UNDERSTANDING TAX BENEFITS & PROPERTY12
Who Pays for your Investment Property
12
Sharing the Costs but not the Profits
12
Rental Income
12
Types of Rent Related Income
12
Rent Related or Other Income
12
Ownership Issues of an Investment Property
12
Co-owners of an Investment Property but not in
Business
12
Dividing Income and Expenses by way of Legal
Ownership
12
Partners or Parties carrying on a Rental Property
Business
13
Rental Expenses
13
22
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 4
0
FORWARD
When we first launched Media IQ (MIQ) and our Tax IQ
newsletter and advisory service we had no idea the impact it
would have on our client base, a growing number of
professionals, investors and business owners across Australia.
Over the course of the past few years we have been inundated
with client questions, feedback and suggestions on how to
provide a better more effective service which adds value to our
clients, their business and their lifestyle, every day.
We have never swayed from our original business plan and
ideals of producing the very best easy to use, cost effective taxlaw update publication in the market.
To understand taxation is to understand one of the biggest costs
in your business - and your personal life.
Three years ago many of our clients were reporting significant
improvements in their compliancy and massive savings in
business tax bringing forth greater profits. As our clients were in
a position to increase their personal drawings from the business,
they looked to us for suggestions on personal wealth and asset
protection, and in particular tax effective investments.
After months of research with some of Australia’s leading
financial services firms and ongoing surveys with our clients the
directors of MIQ established Merlot Investments Australia, and in
July 2005 launched the most unique fully integrated investment
product for the residential property sector.
Two years on many MIQ clients and hundreds of other investors
across Australia are investing in Merlot homes to reduce their
personal tax liability and use those tax benefits to fund a property
portfolio for debt and mortgage reduction, wealth creation and
ultimately a more financially secure retirement.
As the cost of living and doing business in Australia increases so
to does the average income. Recent Government and private
reports suggest Australia’s average income will exceed $194,000
in 2026. While the recent Retirement Index Report found that
most retirees feel they would need 70% of the average income to
maintain their desired standard of living during retirement, less
than 10% of those had investments in place that would afford
them approximately $135,000 per year to do so.
The emerging gap between the retirement dream and the Baby
Boomer reality is a concern for many Australians and our
Governments alike. Changes to tax brackets, superannuation
and other rulings designed to encourage Australians to invest are
clear evidence to this.
By investing Australians can begin to take greater control of their
future. By investing in growth assets which are income producing
and tax effective investors can take advantage of geared self
funding investments which accelerate their wealth potential.
Property is a great gearing mechanism and as one of my clients
recently said:
“If the Tax Office and the tenants are going to share the cost of
your investments but not the profits, then why wouldn’t you do
it?”
The answer is up to you.
Investing is about decision making, it’s about action, it’s about
you. Changing your current perspective and changing your
future, today.
This publication looks at some of the reasons Australians choose
to invest and the common investments available to assist you in
becoming self funded during retirement. In particular this
publication looks at investing in residential property and the tax
effective implications of this type of investment in brief.
This publication does not aim to forecast or speculate the
performance of investment types or the performance of
residential property over alternative asset classes. It simply
provides a summary of the choices available for investors and in
particular those seeking residential property and information
pertaining to the tax implications that accompany it.
More information can be obtained by talking with your adviser or
by contacting the publisher.
Remember, do your research, seek professional advice and
above all else, enjoy the journey.
Dwade Sheehan MBA (Laws) , founding director
Media IQ Pty Limited and Merlot Investments Australia
WHY CHOOSE TO INVEST
There’s an old saying:
“You don’t have to be rich to invest, but you have to invest to be
rich.”
While this is not an exact science, its true that many Australians
take compulsory superannuation and the welfare system for
granted when it comes to funding retirement, let alone
maintaining a desired standard of living.
What is important is that investors take the time to understand
their overall lifestyle and financial goals and seek advice about
putting together a plan to achieve what is known as “financial
choice”. The choice to retire comfortably, to work part time if
desired, to enjoy a hobby, or to take frequent vacations. Investing
now can assist Australians to have greater financial choice in
their working lives and retirement.
WHY YOU MAY CHOOSE TO INVEST
•
•
•
•
•
•
•
•
•
create a savings plan for future opportunities,
consolidate debts and pay off the mortgage faster,
develop a foundation for wealth creation and greater financial
security,
implement an estate plan in the case of illness, injury or
death,
reduce tax and other financial liabilities,
has a hobby or part time income producing exercise,
reduce risk and maximise current income or assets,
become self funded in retirement with greater lifestyle choice,
pass on investments or assets to children to give them a
head start in life.
WHAT YOU MAY NEED TO CONSIDER
•
•
the age you and your partner plan to retire,
your health condition and life expectancy,
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 5
•
•
•
•
•
2
whether your home and any other large debts will be paid off
before you retire,
what capital expenses you may have in coming years (new
car, home improvements or renovations, a daughter’s
education or wedding, an overseas holiday),
how you want to spend your retirement years and what sort of
lifestyle you have become accustomed to during your working
years,
whether you may wish to work part time, on a casual basis or
pursue a hobby in retirement,
what is the best investment strategy leading into and during
retirement.
TYPES OF COMMON INVESTMENTS
When it comes to investing there are many alternative to
consider, including but not limited to shares, managed funds,
savings accounts or property. Its important to do your research,
seek professional advice and start with what you are comfortable
with.
Even if you decide to start saving before you invest. Choose how
much you will put away each week ($100, $200 or more), and
gradually commit more over time if your household budget may
afford it.
Your aim is to try and double your investments in terms of asset
growth every 7-10 years.
CASH AND FIXED INTEREST (SAVINGS)
Extra income, savings or lump sums can be placed into a higher
interest earnings account or some kind of fixed interest
investment. A fixed interest security is one which has regular
interest payments and a set rate for a specified period of time. It
is known as a debt security and does not typically include short
term interest rate products such as savings accounts, bank bills,
or 3-6 months fixed deposits at the bank. A fixed interest security
is considered to have a maturity of one year or more.
They are considered low risk and can include:
•
•
•
Commonwealth government and state government bonds,
company debentures and unsecured notes,
mortgages and bank issued convertible certificates of
deposits.
Interest rates and returns are quite low and income after fees and
charges are considered assessable income for tax purposes.
SUPERANNUATION
Employers are required to pay a minimum level of
superannuation to employees. Your superannuation contribution
is not less than 9% of your earnings’ base (industrial award or
ordinary time earnings (OTE)).
In order to encourage low income earners or Australians looking
to invest in their retirement to make personal contributions to
superannuation funds the Government is making co-contributions
of up to $1,500 for members with a total taxable income of less
than $28,000. This amount reduces by 5 cents for each dollar up
to a threshold of $58,000.
You can choose to invest more money into your superannuation
fund or self managed super fund (SMSF) to increase your
exposure to the fund’s investment strategy. There is limited
flexibility and accessibility to this type of investment, especially
during your working years. Contributions and earnings are taxed
and returns like risk on this type of investment are considered low
to medium.
SHARES
You can invest in shares of publicly listed companies on the
Australian Stock Exchange (ASX) or international stock
exchanges through a broker. A share is a basic unit of ownership
in a company. Shares in public companies are commonly traded
through two major categories - Industrial shares and Mining and
Oil shares.
Industrial shares cover a variety of industries, such as
manufacturing, finance and retailing. Mining and Oil shares
operate in the same way as Industrial shares but are considered
to have greater risk due to the uncertainty of exploration,
production and the fluctuation of commodity and oil prices. This
risk element is also evident in companies from sectors such as
technology and biotechnology.
Shares allow investors to have a non-controlling interest is some
of the world’s largest blue chip and high performing companies.
Shares are income producing which provide yield through
dividends paid to shareholders and can provide tax deferred
benefits on capital invested.
This income must be included as assessable income for tax
purposes on your tax return. Acquisition and disposal fees
commonly apply alongside capital gains or capital losses upon
the sale of shares.
MANAGED FUNDS AND LISTED PROPERTY
TRUSTS
You can invest into a managed fund where your money is pooled
with other investors’ capital into a fund or trust. This capital is
managed on behalf of the investors by a fund manager which
chooses a particular investment strategy for the fund. The fund
manager typically adopts a diversification strategy which has
portfolio interests in selected equities of industries and
companies or asset types for a more stable growth performance.
This type of investment provides medium to high risk and return
for investors but allows for a non-controllable passive investment
type. Be sure to research entry and exit fees for this type of
investment.
Listed or unlisted property trusts are structures that invest in a
portfolio of commercial real estate assets. Investors have the
ability to benefit from capital appreciation and distribution income.
The types of property trusts include industrial, office, retail, hotel,
and diversified.
Property trusts tend to be less volatile than equities because of
the relative stability of real estate assets. Property trusts can
provide investors with regular distributions from rental payments,
which may receive favourable tax treatments. Investors can also
realise capital gains or capital losses through changes in the
value of the real estate held in the funds.
DIRECT RESIDENTIAL PROPERTY
Investors can choose to invest in direct residential property by
purchasing real estate or rental properties (outside their principle
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 6
place of residence) and receive regular income streams through
rental income from tenants and significant tax benefits through
deductions gained from expenses and depreciation.
•
•
Residential property, including house and land, units,
townhouses and duplexes provide the investor with direct
ownership and control of the asset which allow considerable
opportunities for improvements and disposal, and leverage when
choosing to borrow against the asset for alternative investments
or increasing a property portfolio.
Residential property is perhaps the most hands-on of all asset
types but has historically provided greater long term returns for
lower risk because of the stability of real estate assets. Property
tends to move in opposite cycles to most other asset classes
including stocks and bonds and provide a secured vehicle for
gearing (larger returns through increased exposure achieved by
borrowing to invest).
Be sure to research the type of property investment that is right
for you and the leading factors which underpin the growth of
property.
3
BORROWING TO INVEST - GEARING
Borrowing to invest is known as gearing. Gearing can be an
effective strategy to accelerate your accumulation of wealth by
receiving returns calculated against a larger portfolio than
otherwise achieved using your own funds.
For example a $350,000 rental property growing at 10% per
annum will produce better returns than a $20,000 share portfolio
growing at 20% per annum (returning $35,000 and $4,000
respectively in year one).
Figure 3.1 illustrates the benefits of gearing through greater
returns on larger geared assets for the same weekly cash input.
Figure 3.1. Compound Gearing Model
reducing current tax liabilities as the costs associated with
borrowing to funds to invest are typically tax deductible
against assessable income,
achieving greater returns on investments because after
considering tax and other associated borrowing costs, returns
are greater than those that may be achieved without gearing.
Investments in gearing facilities can include:
shares,
managed funds or listed equities or both,
listed and unlisted property trusts,
direct residential property.
Remember: adding borrowed funds to that of your own can
increase your total returns but also your risk. It is important to
choose an investment that best suits your gearing options and
cash flows.
•
•
•
•
Gearing with investments that provide ongoing returns (tax
benefits and regular income streams) can reduce the risk and
impact on cash flow.
Direct residential property is a popular choice of geared
investment type for many Australians because the tax benefits
(increased net income) and the rental income help fund the
investment with minimal to no cash input by the investor.
Furthermore choosing the right product type (house and land,
apartments, commercial) can produce excellent long term capital
gain through property cycles.
WHY CHOOSE TO INVEST IN PROPERTY
Property remains one of the most popular asset classes for
investment by Australians. Outside of the main residence
property provides an excellent platform for leveraging a
diversified investment portfolio for greater financial security.
Most Australians like property because unlike other asset types it
is familiar and perceived safe. They can touch it, feel it, move into
it, rent it, sell it, and or borrow against it if need be. Most people,
at some time in their life have bought (or known somebody that
has bought) a property, and over time that property has passively
grown in value.
THE PROPERTY CYCLE
There is a lot of talk about the “property cycle” which in simple
terms is the time period in which property growth rates peak, then
slow down to a flat period, then peak again.
Many investors and institutions suggest the property cycle is the
period in which properties tend to double in value (in
circumstances of location in sustainable communities) . Factors
driving this cycle are many but generally in the past 30 years a
typical house and land asset may double in value every 7-10
years.
For a property to double in value in just 10 years it needs to
achieve an average of 7.18% growth per annum during that
cycle.
The benefits of gearing include:
•
building a larger investment portfolio than would be possible if
using your own funds,
While this is a fairly conservative growth rate for many high
growth diversified communities (capital and coastal regions) it
gives an indication of the type of wealth creation that is possible
by combining sound property investing with gearing.
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Figure 4.1. The property cycle
POPULATION
Population growth affects the growth rate in property prices. As
population grows so too does the demand for goods and services
in a market.
As of June 2007 Australia’s population is 21 million people. While
our population continues to grow, so too does our rate of growth.
Australia as a nation is also experiencing what is known as
“coastal drift”. According to IBISworld, over the course of the last
100 years the rate of people moving from rural regions (off the
land) to coastal and capital regions has increased.
This trend is expected to continue as people move in search of
education and employment diversity, business opportunities and
lifestyle.
When understanding the impact population has on property
growth we may consider that while our nation’s population and
markets continue to expand our country as land mass remains
constant.
Supply and demand
5
FACTORS IMPACTING PROPERTY
GROWTH
Mark Twain once said:
“Buy land, they have stopped making it!”
While the determining factors contributing to the ongoing growth
in property prices are a little more complex, the basic principles
of this ideal certainly does apply.
Ongoing Government policies impacting population trends, the
need for infrastructure, employment diversity, education and
health facilities alongside lifestyle desires all fuel demand for
goods and services, and above all else property.
These pillars of growth underpin regional economies and impact
demand by residents and businesses for usable property in such
regions.
Figure 5.1. Pillars of growth
The supply and demand phenomena will go on forever. But in
property terms, what does it mean?
Supply of property in a residential market means the total stock
of dwellings available in that market. Demand in a property
market relates to the number of households which require a roof
over their heads, and how that may change over time.
Generally as population grows so too does demand for goods
and services, in particular housing and infrastructure. As demand
for these goods and services increase so does price.
As population shrinks so does the demands for goods and
services which may now be in over supply. Ultimately this causes
the price to go down.
If the rate of supply outweighs demand the price for goods and
services will go down.
For example house and land properties will always grow in value
because of increasing population growth and land content (which
is a non-reproducible supply).
Apartments in residential towers are considered higher risk
because a market place can become over supplied within the
same land content (as buildings are built higher and higher
creating more dwellings).
In a perfect market we call the intersection of supply (S1) and
demand (D1) the equilibrium (E1). The price of an item at this
point is known as the equilibrium price (P1) and the quantity
demanded at this point is called (Q1).
Figure 5.2. on the following page illustrates the balance of supply
and demand in a perfect market where there is perfect
competition.
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 8
Figure 5.2. Perfect Market
This decision can push the supply curve upwards to the left and
can again affect the equilibrium quantity demanded and price.
Figure 5.4. Strong Demand with reduced Supply Market
History tells us that a perfect market can rarely ever exist despite
the efforts of proxy regulatory bodies including the ACCC. Supply
and demand and fair market pricing will always be adversely
affected by many factors including but not limited to:
•
•
•
•
the presence of competitors and alternatives,
pricing models and promotion,
supply shortages by council land release and development
approvals,
over supply by approval and development of multi-dwelling
complexes (residential apartment towers).
As population grows so does the demand for property in a
market. Figure 5.3. below illustrates how an increase in demand
which pushes the demand curve upwards to the right can affect
the equilibrium quantity demanded and price.
Figure 5.3. Strong Demand Market
Figure 5.4. below illustrates how the increase in demand and
price is affecting with Governments (councils) limiting the supply
of land available for development.
Alternatively there is a risk of over supply to the market. If
populations leave a region and there is a surplus of properties in
the market the price will drop.
This may also happen if councils approve the development of
large residential apartment towers which dramatically increase
the number of dwellings available on a single lot.
Figure 5.5. illustrates what happens when there becomes an over
supply in the market. The supply curves downwards to the right
which can affect the equilibrium demanded and the price
negatively.
Figure. 5.5. Over Supplied Market
Population growth is the primary factor which impacts the need
for other leading indicators for property growth, listed below.
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INFRASTRUCTURE
dwellings. This improves the likeliness of ongoing demand for
housing in such areas.
Infrastructure refers to the general facilities and services required
by a community and for general economic production including:
LIFESTYLE (STANDARD OF LIVING)
•
•
•
•
transportation including road systems, metro and regional rail
networks, domestic and international airports,
economic power sources including gas and electricity,
telecommunications and communications services including
terrestrial telephone land lines, mobile coverage, broadband
internet services, radio, free-to-air and pay television
networks,
town water supply and sewerage services
Government bodies allocate infrastructure spending based upon
population growth forecasts regions and communities across
Australia.
Areas where there is significant Government investment
earmarked for the next 20 years give an indication of strong and
sustainable growth to those areas.
While improved and adequate infrastructure provide a better
standard of living for existing populations, such opportunities
attract people from other areas fuelling ongoing demand.
The more effective and efficient the infrastructure, the better our
standard of living, the greater the growth in property values.
EMPLOYMENT DIVERSITY
People need to work, and economies which are underpinned by
multiple industries create more opportunities for both skilled and
unskilled workforces.
Regions with industry and employment diversity tend to maintain
steady growth rates while those typically underpinned by only
one or a few industries risk high growth during industry boom
periods and low to negative growth during down periods (or if
work runs out).
Capital coastal regions (metropolitan centres) have historically
provided investors with more sustainable and consistent long
term growth rates (7-10%+ per annum average over 10-20 year
cycles).
Regional epicentres tend to experience periods of high growth
and yield (higher rental incomes) during industry boom periods
(primary resources for exportation) but often experience severe
negative growth in times of low industry demand and community
unemployment.
Depending upon your investment strategy and investment life
cycle (short, medium, long term) you may want to research
alternative regions and growth cycles.
EDUCATION
Areas with a combination of primary, secondary and tertiary
education with choice of facility provide sustainable population
growth and generally add value to property in the area.
Residential property developments within walking and short drive
distances to day care centres, primary schools and secondary
schools tend to create a more family orientated environment.
While singles and young couples may choose to live in apartment
buildings closer to the CBD, families require house and land
People will tend to relocate to areas which provide a better
standard of living for themselves and their families. Factors which
affect a persons general standard of living include:
•
•
•
•
•
•
reasonable access to employment and education,
comparable income levels and reasonable living costs,
fair market price of goods and services in an area,
a desired standard of dwellings (typically of greater quality
and cost effectiveness to their previous location),
a safe and secure environment with strong community bonds,
networks, clubs and associations,
consistent weather typically in warmer regions which improve
options for extra curricular activities and entertainment.
Areas which consistently provide all or many of the factors above
tend to achieve greater long term property growth than areas
which lack many of these lifestyle factors.
By investing in areas which provide a greater standard of living
investors can achieve greater returns and equity growth building
a more secure property portfolio for greater financial choice.
THE ECONOMY
The overall general health of the economy can have short to
medium term impact on property cycles and the growth in
property prices.
Inflation
Inflation is the increase in the prices of goods and services in an
economy and is typically measured by examining a basket of
goods and services from time to time using the Consumer Price
Index (CPI).
As the price of goods increase so too does the cost of living. As
fixed household budgets spend greater amounts on the usual
items, household budget surpluses diminish reducing the overall
demand for many other goods and services not necessarily
required to maintain a secure standard of living.
The Reserve Bank of Australia (RBA) closely watches the
relationships between inflation, consumer demand and in
particular consumer credit spending. As inflation pushes above
the ideal equilibrium the RBA may impose a rise in interest rates
to curb consumer spending and credit ratios.
This may ultimately impact the affordability of housing (especially
for first home buyers) and therefore underlying demand and price
growth.
Employment
A strong economy manages to balance the “inflation employment” see-saw. As unemployment drops and more
Australians seeking work are gainfully employed and producing
greater household incomes the general demand for goods and
services increase.
Strong employment figures generally provide for strong
consumer sentiment driving business productivity and the
ongoing need for more skilled workers.
During such periods income earners generally tend to spend
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more on luxury items but are typically proactive with respect to
making investments in the shares or property markets.
Interest rates
There is always a direct correlation between the demand for
property and interest rates. While interest rates impact the
affordability of housing it most affects Australians in their own
home.
As inflation rises and the RBA increases interest rates the cost of
paying the mortgage on our home becomes greater (unless we
fixed interest rates on our home loan). The interest cost on an
investment property however is a component of the tax
effectiveness of the property. Meaning as interest rates rise so to
does the tax deductions on an investment property.
Ultimately a rise interest rates may lessen the demand for
property therefore reducing property prices or at least price
growth rates.
A bank registered valuation is the most conservative valuation on
the property, typically the value that the bank knows it can
dispose of the property tomorrow.
This differs to the market or retail valuation which is usually much
higher. This valuation may be suggested by a vendor or agent
and while it may be met by the buyer might not reflect the actual
value of the home.
The bank will always hold a security of 20% over your property
for as long as you have a mortgage (unless you pay lenders
mortgage insurance (LMI)).
This is considered the 20-80 Rule of borrowing money for
property from the bank (ie: for every $20,000 you present to the
bank, the bank will lend you $80,000, given you can afford the
debt servicing repayments and meet other lending criteria).
With this in mind your revised calculation for “usable” equity
should be:
bank valuation ($280,000 x 80% = $224,000)
($200,000) = “usable” equity ($24,000)
6
WHY INVESTORS CHOOSE PROPERTY
DIRECT OWNERSHIP AND CONTROL
The state department of revenue and lands office will issue title
when you purchase real estate (property). Unlike shares or
managed funds you have complete title and control over your
rental property.
This means the risk of investment is limited to market and
economic factors not that of the decisions of board members and
executive managers and performance of publicly listed
companies. In other words the basic principles of research before
investment apply.
At any stage during title you may rent your property, manage and
maintain the property, move into the property and or dispose of
the property without the risk of exit fees that may be imposed by
some managed investments.
TANGIBLE
VALUE
OPPORTUNITIES
WITH
-
mortgage
In this case you have up to $24,000 in usable equity to leverage
into other investments (before paying lenders mortgage
insurance (LMI)).
Over time and as your property increases in value and your
mortgage decreases, you will have more usable equity available
for leveraging into other investments including:
•
•
•
investment properties (building a portfolio),
shares and managed funds through equity or margin loans,
small business investments and private equity loans.
Leveraging a property portfolio
If you have a property portfolio that continues to grow in value
you may like to tap into your equity for lifestyle or retirement
funding purposes.
Figure 6.1. Portfolio Leverage Model
LEVERAGE
You can use the equity in your property to leverage (borrow to
invest) into other investment types or more properties.
The equity in your property is the difference between the value of
the property and the mortgage owing on the property. For
example:
valuation ($300,000)
($100,000)
-
mortgage ($200,000)
=
equity
You must remember however when calculating your “usable”
equity that the bank will impose two factors:
•
•
bank registered valuation,
20% security over mortgage.
Your bank will always conduct an independent bank registered
valuation on your property for the purpose of lending money
against it.
Many leading banks now offer reverse mortgage products which
allow home owners to set up a reverse mortgage, paying them a
monthly allowance from the funds available in the equity of their
home (or investment portfolio).
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 11
INCOME PRODUCING ASSET
Property assets including residential, commercial, industrial, hotel
and resort all have the capacity to produce regular income
streams through rental payments from tenants. Different property
classes produce different yields and capital gains due to their
nature and location.
Yield is the sum of the annual rental income divided by the
purchase price of the property.
Typically commercial property will produce higher yields but
attract greater management and maintenance costs which offset
this yield.
Short term accommodation property (hotel or resort) may offer
high rental income potential but will lack regularity (due to
seasonal or holiday vacancies) and capital gain (due to limited
differentiation). Ongoing body corporate, management and
maintenance fees may also impact yield.
House and land residential properties offer the potential for more
regular rental income at medium yield. While vacancy rates may
risk total annual rental incomes management and maintenance
fees are typically less than alternative property classes.
Capital gain is potentially greater in areas of high population
growth, and sustainable economies with ongoing infrastructural
development.
Income producing property investments allows you to build a well
geared portfolio largely funded by your tenant and the Tax Office.
TAX EFFECTIVE ASSET
There are significant tax benefits available for investing in
economic driving assets, in particular residential property. After
all the cost of tax relief for investors is far less than the cost of
providing housing for Australia’s growing population base which
hit 21 million people in July 2007.
Tax deductions from losses produced from a rental property are
generally made up of:
•
•
•
interest cost of borrowed funds to purchase the rental
property,
acquisition and associated management costs of the rental
property,
depreciation of building and income producing items within
the rental property.
For example Duncan earns $100,000 per year and recently
purchased a $360,000 house and land investment property in
south east Queensland which has a secured tenant paying $340
per week (4.9% yield). After offsetting the rental income against
all associated deductible costs and fees the losses are
approximately $26,000 per annum which gives Duncan a tax
return of approximately $11,500 each year.
After lodging an PAYG income tax withholding variation to the
Tax Office Duncan’s employer changed his withholding rate so
that he received his tax benefits weekly ($11,500 / 52 = $221
pw). This $221 per week alongside the weekly rental income of
$340 per week helped fund the investment which has total
weekly running costs (including mortgage, rates, insurances,
management and accounting) of $620 per week. Which means
Duncan’s total out of pocket cost was less than $60 per week.
Tax effective income producing assets are a great way to
building a well diversified investment portfolio which takes
advantage of your current income levels without impacting your
current lifestyle or standard of living. Ultimately the tenant and
the Tax Office help you to fund the investment.
DIVERSIFICATION
You should develop a plan that allows you to build a well
diversified investment portfolio. This means you should try and
spread your investment exposure (and risk) over a variety of
asset classes and industries.
For example some investors may diversify their investment
strategy to have interests in property (main or rental residence),
shares and managed funds (across difference industries), cash
savings and compulsory superannuation.
You may build a diversified property portfolio by investing in
residential property alongside your main residence (family home).
Many investors consider their main residence an investment in
one particular market, and choose other rental properties in other
markets to diversify their exposure and take advantage of growth
factors those markets offer.
For example Kevin is a miner who owns a $400,000 home with a
$200,000 mortgage in central Queensland. Kevin has
experienced considerable capital growth in his home in recent
years because of the resources boom but acknowledges the
current growth which is underpinned by one industry cannot be
sustained. He chooses to invest in a house and land rental
properties in greater Brisbane and greater Melbourne to diversify
his property portfolio and take advantage of two markets which
are underpinned by hundreds of industries and sustainable
population growth.
Kevin’s aim is to use the two investment properties for tax
benefits and long term capital gain while using increased cash
flows to reduce his mortgage and risk at home.
By building a property portfolio which has interests in different
regional markets investors can achieve greater more sustain
returns over time with reduced risk.
STRONG CAPITAL GROWTH OVER TIME
Property tends to grow in value over time and typically moves in
opposite cycles to other major asset classes (bonds and shares).
A good tax effective rental property may allow you passive capital
growth over many years. In other words the property will grow in
value (typically double in value every 7-10 years depending on
location) while the Tax Office and the tenant share the cost of
maintaining the property with you.
Investors can build a passive property portfolio in which over time
the equity can be used to fund other investments, supplement
incomes, and a range of lifestyle choices.
For example PJ purchased three investment properties over a 6
year cycle. In 2026 her investment property portfolio will be worth
approximately $4 million (approximately $1.3 million each) with a
total investment debt of approximately $1.3 million providing tax
effectiveness. The property portfolio has an ongoing average
growth rate of just 7% per annum (or approximately $280,000 in
2026).
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 12
PJ may choose to have her mortgage broker structure a reverse
mortgage facility against her property portfolio which allows her
to supplement income against the equity in the portfolio by just
$100,000 per year. Considering the size and growth of the
portfolio this strategy if an ideal way for PJ to maintain a standard
of living she desires without increasing her overall loan to value
ratio (LVR) of around 35%.
7
UNDERSTANDING TAX BENEFITS
& PROPERTY
the monetary value for these and have some evidence to
substantiate the claim.
For taxation reporting purposes you must include the full amount
of rent or incomes earned in your next / annual tax return.
Rental related or other income
Rental bond must be included as income in the case where you
have become entitled to it. For example a tenant may have
absconded, not paid due rent, or may have caused damage to
the property requiring repairs and maintenance.
Letting and or booking fees must be included as income.
More Australians are investing in property than ever before and
while most investors are achieving excellent returns very few are
aware of the dynamics of tax with concern to their properties.
There are significant tax benefits available for investing in
property, especially new house and land packages and making
the right decisions early can make a big difference when it comes
time to receiving your tax return.
WHO PAYS FOR YOUR INVESTMENT PROPERTY
The costs of owning and maintaining your rental property can be
offset against a few general income streams. By choosing the
right property to meet your financial or tax needs the rental
income and tax benefits may be as such that your out of pocket
input can be quite minimal.
Sharing the costs but not the profits
Figure 7.1. Who Funds the Investment
There are cases where insurance payout sums must be included
as rental income. For example if you have been compensated for
loss of rent through some sort of landlord insurance policy this
amount is considered rent related income.
Associated payment include any amount you receive or become
entitled to during the natural course of recurring activities
conducted for the purpose of generating income for your rental
property.
In which case, in relation to your rental property and activities,
you receive reimbursements for deductible expenditure you have
incurred you must include that amount as income. For example if
a tenant pays you an amount to cover the cost of repairs or
maintenance to some part of the rental property and you can
ultimately claim a deduction for the repairs (see Rental
expenses).
OWNERSHIP
PROPERTY
ISSUES
OF
AN
INVESTMENT
Before purchasing an investment property or investing in any tax
effective income producing asset it is important to determine the
structure of ownership of the asset (rental property).
Typically rental income, expenses and therefore tax benefits are
shared between owners or partners pro rata to the ownership. In
the case of a married couple where one partner earns all of, or
greater income, and therefore has a greater income tax liability
than the other partner, the ownership would be majority (if not all)
to the higher income earner. This would ensure greater tax
benefits (returns) from the rental property.
The way that rental income and expenses are divided between
co-owners of a rental property can vary depending on whether
the parties are joint tenants or tenants in common, or there is a
partnership carrying on a rental property business.
RENTAL INCOME
Types of rent related income
Property, and or rental properties are income producing assets
meaning that you should be receiving rental income from tenants.
Rental and other rental-related income is made up of the full
amount of rent received from the tenant and any other associated
payments you receive or are entitled to during the course of
ownership – regardless of whether it is paid directly to you or
your agent.
From time to time other associated payments may be in the form
of goods and services. If this is the case you will need to work out
Co-owners of an investment property (or properties) –
but not in business
A person who co-owns a rental property or several rental
properties is typically regarded as an investor who is not carrying
on a rental property business, either alone or with co-owners.
This is determined by the limited scope of the rental property
activities and the limited degree of time to which the owner or coowners participate in the rental property activities.
Dividing income and expenses by way of legal
ownership
Co-owners who are not carrying on a rental property business
must divide the income and expenses generated for the rental
property or properties pro rata to their legal share of the property.
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 13
If they are:
•
Joint tenants: they each hold an equal interest in the property,
•
Tenants in common: they may hold unequal interests in the
property. For example one party may hold 80 percent and the
other party may hold 20 percent (depending on their
investment strategy).
You cannot claim a deduction for expenses of a capital or private
nature, nor for the duration or period which you may have spent
time living in the property yourself. You may however be able to
claim a deduction for depreciation or include certain capital items
as part of the cost base of the rental property against capital
gains tax (CGT) should you ever choose to sell the property.
The Tax Office tells us that rental income and expenses must be
distributed pro rata to legal interest and ownership, regardless of
any secondary agreement between co-owners, expressed either
verbally or by writing stating otherwise. Meaning the Tax Office
will not accept alternative incomes and expenses claimed in your
tax return.
Types of rent related expenses
For example Mr and Mrs Bailey are joint tenants in a rental
property. They are not carrying on a rental property business. Mr
Bailey earns $35,000 per annum while Mrs Bailey earns $80,000.
Considering that the majority of expenses are paid from Mrs
Bailey’s income she believes that she should be able to claim up
to 80 percent of the expenses as deductions against income,
therefore saving more tax than otherwise pro rata 50 percent.
•
The Tax Office however informs Mrs Bailey that considering her
and her husband are joint tenants in the property the relevant
reductions must be shared in line with their equal legal share in
the property. Therefore the Bailey’s must claim 50 percent of the
total income and expenses in their next tax return.
If Mr and Mrs Bailey had established a tenants in common
structure when purchasing the investment property, they could
have made Mrs Bailey’s share 80 percent of the legal interest of
the property with Mr Bailey holding the remaining 20 percent.
This structure would allow Mrs Bailey to claim 80 percent of the
total and expenses in her next tax return (providing a greater
return and reducing their overall out of pocket cost to maintain
the investment property).
Partners or parties carrying on a rental property
business
When you are carrying on a rental property business in a
partnership with other parties, you must divide the total incomes
and expenses (net gain or loss) according to the partnership
agreement regardless of the legal interest (share holding) in the
said property.
The Tax Office provides three types of rental property expenses:
•
•
non-deductible expenses,
deductible expenses which you may claim in the year the
expense was incurred, and
deductible expenses which you may apportion the claim over
a number of years.
Apportionment of rental expenses (deductions)
You will need to ascertain the deductible portion of rental
expenses where there are situations where not all of your
expenses are tax deductible.
Simply subtract the non-deductible expenses from the deductible
expenses to ascertain your total rental expenses for a tax
deduction.
Situations where this may occur can include:
•
•
•
when or if your property is available for rent for only part of
the year,
when only part of your property is used for rent, or
when you rent your property at non-market or noncommercial rates (ie: to family).
For example Katie owns a holiday house on the Tweed Coast.
Each year she rents out the property during the period 1
November to 30 March the following year being a total rentable
period of 150 days. She lives alone in the holiday house for the
rest of each year fishing along the Tweed River.
The council rates on the property are equal to $1,500 per year
which Katie apportions over the time the property was rented.
Rental expenses x portion of year rented = deductible amount
If you do not have a partnership agreement, the Tax Office
suggests that you should divide the total income and expenses
between the parties equally.
Therefore she can claim:
See you adviser about putting in place a partnership agreement
for the purpose of carrying on a rental property business.
Any other general expenses such as telephone and electricity
may also need to be apportioned on a reasonable basis.
The Tax Office says you are carrying on a rental property
business if:
NON-DEDUCTIBLE EXPENSES
•
•
•
•
the size and scale of your rental property activities are
significant,
there is a considerable number of hours spent on the
activities,
extensive personal time is dedicated to the involvement of the
rental properties, and
there is a clear and present business strategy / plan put in
place with concern to the rental property activities.
RENTAL EXPENSES
A rental property is a tax effective investment. You can claim a
tax deduction for certain types of expenses you incur during the
period your property is either rented or available for rent.
$1,500 x 150/365 = $616
Rental property expenses for which you are not able to claim a
deduction include:
•
•
•
property acquisition and disposal costs, including but not
limited to advertising expenses, conveyancing costs and
stamp duty,
expenses not actually incurred by you as the owner of the
property including water, telephone and electricity costs being
a responsibility of the tenant, and
expenses which are not related to the rental property,
including expenses in relation to your own personal use of the
property (holiday home that you may rent out for only part of
the year).
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 14
Acquisition and disposal of property expenses
You are unable to claim an immediate deduction for the costs of
acquiring or selling (disposing) of a rental property, including the
cost of the property, stamp duty of the transfer of title, advertising
and marketing fees and conveyancing fees.
Many of these expenses may make up part of your cost base of
the rental property for the purpose of offsetting capital gains tax
upon sale.
DEDUCTIBLE EXPENSES
Expenses for immediate deduction
As rental properties can be a tax effective investment, there are
many expenses for which you can claim an immediate deduction
in the income year for which you incur the expense.
These can include:
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
advertising and marketing for tenants
bank charges, fee and borrowing costs
body corporate fees and charges
cleaning and general tidiness expenses
council rates and water charges
electricity and gas
gardening, yard maintenance and lawn mowing
audio-video service charges
insurance costs:
•
building
•
content
•
landlord
•
public liability
interest on loans (lines of credit)
land tax
rental, tenant or lease contract / documents:
•
preparation fees
•
registration
•
stamp duty
legal expenses (but not conveyancing fees)
mortgage discharge expenses
pest management
property agents fees and commissions
property management fees
quantity surveyor’s fees
routine repairs and maintenance
property bookkeeping fees
security fees
servicing costs to household items
stationary and postal
telephone calls and line rental
tax and accounting related expenses
travel expenses:
•
rent collection visits
•
routine property inspections
•
general maintenance of property.
You can only claim expenses if you actually incur them. Some
expenses may be claimed in full in the income year in which they
incur, while others may be apportioned over a number of years
(which are examined in more detail following).
Body corporate fees and charges
You can claim a deduction for the body corporate fees and
charges you incur for your rental property. Body corporate fees
and charges are incurred to cover the administrative and
maintenance costs with respect to the property (or building or
development). Sometimes they may apply to a special purpose
sinking fund.
Generals payments made to the body corporate and general
purpose sinking fund are considered to be payments made for
the services administrated by the body corporate and can
therefore by claimed as a deduction at the time you incur them.
Payments to a special purpose sinking fund however may not be
deductible if they are to pay for particular capital expenditure.
Likewise special contributions made from the general purpose
sinking fund used for major capital expenses are not deductible.
This is because payments to cover the cost of capital repairs or
improvements are not deductible.
These expenses however may make up part of your cost base
for the purpose of offsetting capitals gains tax upon sale of the
rental property.
Interest on loans (lines of credit)
If you borrow money to invest (gearing), you can claim the
interest or a portion of the interest charged in the loan as a
deduction.
The rental property must be an income producing asset. Meaning
you can only claim a deduction if the property is rented or
available for rent in that income year.
If or when you start to use the rental property for private
purposes, you cannot claim interest expenses incurred after you
start using the property for private use. You must therefore
apportion the expenses for the purpose of claiming your
deduction.
If you borrow money to purchase vacant land for which to build a
rental property, or to finance the cost of renovations to a property
you intend to rent out, the interest expense on the loan will be
deductible from the time in which you took out the loan.
If however your intentions change and you decide to ultimately
use the property for personal or private use then you cannot
claim the interest expense as a deduction from the time in which
you changed your intentions.
You may also claim deductions for interest claimed on loans
taken out to:
•
•
•
purchase depreciating assets for the rental property
conduct repairs
conduct renovations
only if the property is rented or available for rent.
It is important to consult a recognised mortgage broker, tax agent
and or the Tax Office about the right loan structures for clearly
identifying and calculating the correct deductions with respect to
your rental property.
For example Indiana decides to contact her mortgage broker and
take out a loan for $330,000 for which $300,000 is to be used for
a rental property and $30,000 is to be used to put a pool in her
principle residence. The Tax Office advises her that she will need
to work out each year the total interest costs towards the rental
property for a tax deduction.
If broker gives her a fixed rate of 6.7%, and the property is rented
from 1st July, then the apportionment of interest payments
relating to the rental property will be:
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 15
Total interest expense x rental property loan / total borrowings
= deductible interest
$22,110 x ($300,000 / $330,000) = $20,099
Legal expenses
Many legal expenses are of a capital nature and are therefore not
tax deductible including:
•
•
the costs of purchasing or selling your rental property,
resisting land resumption, or searches for title disputes.
Some expenses incurred in producing rental income from your
rental property are deductible including the cost of evicting a nonpaying tenant or taking legal action to recover lost rent or the cost
of damages and repairs.
Routine repairs and maintenance
The expenses relating to the routine repairs and maintenance
you make to a rental property may be tax deductible. Expenses
must be related to repairs for general wear and tear and or
damages which occur as a result of renting out the property.
Repairs generally include the replacement of new items/parts
and the costs of installation.
Major works including replacing structures, major improvements,
renovations and extensions are of a capital nature and are not
deductible during the course of maintaining the rental property.
Repairs and maintenance to a rental property are typically
deductible if:
•
•
the property continues to be rented on an ongoing basis,
the property is available for rent but there is a short period
when the rental property is unoccupied, for example where:
•
weather or other natural/seasonal occurrences causes
cancellations of bookings,
•
reasonable marketing and advertising fails to attract
tenants.
In the case where you may no longer rent the property, the cost
of repairs may still be deductible:
•
•
if the need for repair is related to or from the period in which
the property was used to generate income,
if the property was income producing during the year the cost
was incurred.
Examples of repairs which are deductible:
•
•
•
maintaining pluming,
repairing or maintaining electrical appliances,
replacing broken windows or doors.
Examples of repairs which are not deductible:
•
•
•
landscaping the grounds of the rental property,
insulating the rental property,
major structural amendments, major renovations or adding
another room.
Travel expenses
You may be able to claim a deduction for the cost of travelling to
inspect, maintain or collect rental income from your rental
property.
If the sole purpose of your trip relates to the rental property you
may claim all of the associated costs where you may only claim
part of the trip (apportion costs) if you are planning other
activities.
For example if you fly to inspect your rental property, stay
overnight in a hotel and return home on the following day, all of
the travel and accommodation expenses would be allowable
deductions.
If the main purpose of your trip is a holiday then you may not
claim the travel costs, only those local costs relating to the day of
inspection and a portion of accommodation.
Expenses you can deduct over time
While there are immediate tax benefits through deductible
expenses with relation to your rental property there are three
mains types of expenses you may incur which can be claimed
over a number of years:
•
•
•
borrowing expenses,
amounts for a decline in value of depreciating assets,
capital works deductions.
Borrowing expenses
When taking out a loan to purchase a rental property there are
expenses including:
•
•
•
•
•
loan establishment fees,
general mortgage broker fees,
title search fees,
mortgage duty charged,
costs of preparing and lodging mortgage documents,
which may be deductible over time.
Borrowing expenses may also include costs the lender imposes
upon a borrower as a condition of finance approval including
mortgage insurance.
If your total borrowing costs are greater than $100 (which is more
than likely) these expenses may be deductible over five years (or
the term of the loan, whichever is less). If the borrowing costs are
$100 or less they may be deductible in the year they were
incurred.
If you are able to pay back the loan in less than five years, you
will be able to claim the balance of the borrowing expenses in the
year of the repayment of the loan.
DEPRECIATION FOR DEDUCTION
Each year the Tax Office issues an effective lives schedule for
the purpose of calculating the depreciation of plant and
equipment.
Like companies receive a tax deduction for the depreciation of
assets used to produce income, property investors can also claim
a deduction for depreciation of building and internal items.
A deduction is allowable to the extent that the rental property
(asset) is used for a taxable purpose. If you own a rental
property, the taxable purpose is generally for the purpose of
producing rental income. Investors can work out the deduction for
the decline in value of a depreciating asset by using either the
prime cost or diminishing value method. Both methods are
calculated using the effective life of the asset.
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TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 16
Prime cost
Prime cost assumes that the value of a depreciating asset
declines in value evenly over the course of its effective life.
A low-cost asset is a depreciating asset whose cost is less than
$1,000 at the end of the income year in which you start to use it.
A low-value asset is a depreciating asset that is not a low-cost
asset and:
Asset’s cost x (Days held / 365) x (100% / Asset’s effective
life)
•
Diminishing value
•
Diminishing value method assumes that the decline in value each
year is a constant proportion of the remaining value which
produces a progressively smaller decline over time.
Base value x (Days held / 365) x (150% / Asset’s effective life)
Regardless of the method used, the decline in value of an asset
cannot be more than its base value in any year. Further to this if
you use a depreciating asset for any other purpose other than
exclusively at the rental property (ie: a lawn mower used both at
home and at the rental property), you must apportion the
allowable deduction based on the percentage of use of the asset
at the rental property.
Effective lives (Division 40)
The effective life of an asset is how long it can be used by an
entity for a taxable or income producing purpose. It is expressed
in years.
For example if a company bought a boardroom table for $1,000
which had an effective life of 10 years, then using prime cost
method the table would decline in value by $100 per year
creating a tax deduction of the same for each year.
Each year the Tax Office issues a set of tables outlining the
effective lives (depreciation rates) for common assets. Effective
lives are considered:
•
•
•
having regard to the wear and tear you would reasonably
expect from your expected circumstances of use,
assuming that it will be maintained in reasonably good
condition or order under expected activities of use,
having regard to the period within which it is likely to be
thrown away, sold for a small value or passed along.
Replacement
has an opening adjustable value for the current year of less
than $1,000,
which you have worked out any available deductions for
decline in value under the diminishing value method.
Once you have established a low-value pool and have allocated
assets to that pool, you must pool all other assets you start to
hold in that income year. An item remains in the pool once it has
been allocated.
Only one calculation for the decline of depreciating assets in the
pool is required.
When you allocate a low-cost asset to the pool you may calculate
its decline in value at a rate of 18.75%.
You work out the deduction for the decline in value of the lowvalue pool using a diminishing value rate of 37.5% (ie: for a new
item, it is depreciated by 18.75% in the first year and 37.5%
thereafter).
Depreciation of assets using diminishing value (example only):
Immediate deductions for items costing $300 or less:
The immediate deduction is available if the following conditions
are met:
•
•
•
•
the asset cost $300 or less,
it is used mainly for the purpose of producing rental income,
it is not part of assets you start to hold in the income year that
costs more than $300,
it is not one of a number of similar items (part of a set) which
cost more than $300 in total.
Low-value pooling items
You can allocate low-cost or low-value items which relate to
producing rental income to your low-value pool.
Deduction for
decline
in value
Cost of
the
asset
Lounge
suite
$2,000
$2,000
300/365
150%/10yrs
$247
$1,753
Carpet
$3,000
$3,000
300/365
150%/12yrs
$308
$2,692
Air-con
$1,500
$1,500
300/365
150%/7yrs
$264
$1,236
Totals
$6,500
$6,500
$819
$5,681
Base
value
150% /
effective
life
Adjustment
value
Depreciation for low-value pool (example only):
Percentage
of cost or
adjustable
value
Deduction
for decline
in value
Closing
pool value
37.5%
$938
$1,562
18.75%
$225
$975
Low-value
pool rate
Low-value assets:
Pool
An immediate deduction can be claimed for depreciating assets
costing $300 or less which are used to produce rental income if
certain conditions are met. Alternatively you may depreciate
assets costing less than $1,000 through a low-value pool (lowvalue pooling items).
No. of
days
held /
365
Item(s)
$2,500
Low-cost assets:
Microwave oven
$450
Television
$750
Total low-cost assets
Total deductions for
year end
$1,200
$1,163
Total pool value for
year end
$2,537
Capital works deductions (Division 43)
Building a house on a piece of land is considered improvements.
The Tax Office tells us that in general a house (or rental property)
has an effective life of 25 or 40 years, depending on when it was
constructed. A deduction for the depreciation of such are called
capital works deductions.
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 17
Capital works deductions cannot exceed the construction
expenditure, nor can you claim a deduction until the construction
is complete.
CAPITAL GAINS TAX
A typical goal for many investors is to create a larger return or
However, you may be able to claim interest costs associated with
financing construction costs during the construction period.
OTHER TAXATION CONSIDERATIONS
Capital works expenditure applies to work such as:
•
•
•
capital gain. There are however certain liabilities that may come
with capital growth.
a building or extension,
alterations or major renovations,
structural improvements to the property.
The amount of the deduction and how it is calculated depends on
the type of construction and the date construction started:
Date construction started
Before 22 August 1979
Rate of deduction
per year
Number of years for
deduction
Nil
N/A
22 August 1979 to 21 August 1984
2.5%
40 years
22 August 1984 to 15 September
1987
4%
25 years
2.5%
40 years
After 15 September 1987
•
•
You may also make a capital gain or capital loss of some capital
improvements made after 19 September 1985 (regardless of
when you acquired the property) when you cease to own the
property.
•
•
Construction expenditure for tax purposes is the actual cost of
constructing the building or rental property. Costs you may
include as construction expenditure are:
•
Upon selling or disposing of a rental property you acquired after
19 September 1985 you may make a capital gain or capital loss.
pre-construction expenses including architectural,
engineering and excavation fees,
progress payments to builders, carpenters, bricklayers and
subcontractors for the construction of the house,
payments for the construction of driveways, retaining walls
and fences.
•
The cost base of the rental property includes the purchase price
of the property plus associated acquisition, holding and disposal
costs (including legal fees, conveyancing fees, stamp duties and
real estate agent fees).
General rule of thumb when understanding capital gains:
•
Construction expenditure that cannot be claimed:
•
•
•
the cost of the purchase of the land that the house is to be
built upon,
the cost of clearing the land prior to construction,
major earthworks and landscaping.
•
•
Cost base adjustments for capital works deductions
When determining a capital gain or capital loss upon the sale or
disposal of a rental property, the cost base and reduced cost
base of the property must be reduced to the extent to which you
have claimed a capital works deduction.
Cost base
You must exclude from the cost base of an asset the amount of
capital works deductions you have claimed in relation to the
asset if:
•
•
you acquired the asset after 7.30pm on 13 May 1997,
you acquired the asset before that time and the expenditure
that gave rise to the capital works deductions was incurred
after 30 June 1999.
Reduced cost base
The amount of capital works deductions you have or can claim
for expenditure you incurred in relation to an asset is excluded
from the reduced cost base
you will make a capital gain on the sale of a rental property to
the extent that the capital proceeds exceed the cost base of
the rental property,
you will make a capital loss on the sale of a rental property to
the extent that the property’s reduced cost base exceeds the
capital proceeds on the sale of a rental property,
you will make a capital gain or a capital loss pro rata to your
interest in the property.
you are exempt from capital gains on the sale of your main
residence (if you have used the property as your main
residence for the whole period you owned it),
you may apply the indexation or discount method to
determine a reduced capital gain if you have owned the
property for longer than 12 months,
if you used a property as your main residence and then
rented it out as a rental property you may only be capital
gains exempt pro rata for the time you used the property as
your main residence (indexation and discount methods may
apply if you owned the property for longer than 12 months).
Methods of calculating your capital gain or loss
There are three methods available to calculate your capital gain
or capital loss. While they range from relatively easy to quite
complex you should always have your professional overlook any
complex calculations with respect to capital gains tax liabilities.
The three methods include:
•
•
•
the “other” method,
the indexation method,
the discount method.
The “other” method
The “other” method is perhaps the easiest of the three methods
and applies when you have bought and sold (acquired and
disposed) of a CGT asset within a 12 month period.
In this case neither the indexation nor discount methods will
apply.
8
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 18
To apply the “other” method, simply subtract your cost base
(what you bought the property for) from your capital proceeds
(how much you sold it for). The remaining proceeds make up
your capital gain.
For example Candice bought a property for $300,000 under
contract dated 20 June 2006, settling on 2 August 2006. Candice
paid stamp duty of $7,000 and legal fees of $2,000. Candice sold
the property on 20 November 2006 (the date the contract) for
$350,000 with expenses of $5,000 in agent fees and $1,500 in
legal fees.
As she bought and sold the property within 12 months, Candice
must use the “other” method to calculate her capital gain.
Purchase
Example for using the indexation method versus the discount
method:
Cruz bought a property for $100,000 under contract on 19 June
1991, settling on 4 August 1991. Cruz paid stamp duty of $3,000
and legal fees of $1,000. Cruz sold the property on 15 October
2006 (the date the contract) for $350,000 with expenses of
$5,000 in agent fees and $1,500 in legal fees.
As Cruz owned the property for greater than 12 months he may
apply one of either the indexation or the discount method to
calculate his capital gain:
Indexation method calculations:
Purchase x indexation factor
$100,000 x (123.4 / 106.0 = 1.164)
$300,000
$116,400
$7,000
Purchase stamp duty x indexation factor
$3,000 x (123.4 / 106.0 = 1.164)
$3,492
Purchase legal fees
$2,000
Purchase legal fees x indexation factor
$1,000 x (123.4 / 106.0 = 1.164)
$1,164
Sale legal fees
$1,500
Sale legal fees x indexation factor
$1,500 x (123.4 / 106.0 = 1.164)
$1,746
Agent fees
$5,000
Agent fees (indexation does not apply)
$5,000
Stamp duty
Cost base (total)
$315,000
Cost base (total)
Candice calculates her capital gains as follows:
$127,802
Cruz calculates his capital gain as follows:
Sale proceeds
$350,000
Sale proceeds
$350,000
less cost base
$315,500
less cost base
$127,802
Capital gain
$34,500
Capital gain
$222,198
The indexation method
Discount method calculations:
You may use the indexation method to calculate your capital gain
if a CGT event happens to an asset you required before 11.45am
on 21 September 1999, and you owned the asset for more than
12 months.
Purchase
When applying the indexation method, you increase each the
amount of each element of the cost base by an indexation factor
– for example, the consumer price index (CPI).
If the CGT event happened on or after 11.45am on 21
September 1999 you can only index the elements of your cost
base up to 30 September 1999:
Indexation factor
=
CPI for quarter when CGT event
happened / CPI for quarter in which expenditure occurred
The discount percentage is the rate by which you may reduce
your capital gain. The discount rate is 50% for individuals and
trusts and 331/3% for complying superannuation entities.
$3,000
Purchase legal fees
$1,000
Sale legal fees
$1,500
Agent fees
$5,000
$110,500
Cruz calculates his capital gains as follows:
If the CGT event happened before 11.45am on 21 September
1999:
You may use the discount method to calculate your capital gain if
a CGT event happens to an asset you own, the CGT event
happened after 11.45am on 21 September 1999, you acquired
the asset at least 12 months before the CGT event, and you did
not choose to use the indexation method.
Stamp duty
Cost base (total)
Indexation factor = CPI for quarter ending 30/09/99 (123.4) /
CPI for quarter in which expenditure occurred
The discount method
$100,000
Sale proceeds
$350,000
less cost base
$110,500
Capital gain (before applying discount)
$239,500
less CGT discount (50%)
$119,750
Net capital gain
$119,750
Considering the discount method provides Cruz with a lessor
capital gains tax liability, he will apply the discount method on his
tax return rather the amount calculated when applying the
indexation method.
You may refer to your latest edition of the Tax IQ Australian
Taxation Manual for more information on CGT exemptions
including:
•
•
small business retirement exemption,
15 years exemption,
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 19
•
•
•
rollovers to companies,
marriage breakdown rollovers,
in the event of death,
and more.
GOODS AND SERVICES TAX (GST)
If you are buying and selling rental properties in a business and
you are registered for GST you may be able to claim certain GST
liabilities associated with buying property.
If you are registered for the GST and it was payable or charged
in relation to your rental income and property management do
not show it as part of your income or input tax credits on your tax
return.
Typically you will be purchasing a rental property as an individual
(not through a business) for the purpose of tax effectiveness or
negative gearing where the greater marginal tax rates provide
increased tax benefits.
In this case you may be able to use the margin scheme when
acquiring land or property where the GST may apply.
MARGIN SCHEME
The margin scheme may be used for all types of property
including residential, commercial or retail and is relevant where
the purchaser is not entitled to an input tax credit on GST paid in
an acquisition.
Typically you would pay the amount of GST being 1/11th of the
purchase price. Under the margin scheme however you would
pay the revised GST amount being 1/11th of the margin for the
supply. In this case the amount is calculated only on the
difference between the final purchase price and the value of the
property as at 30 June 2000 (or, if purchased by the vendor after
that date, the vendor’s original purchase price, ie: 1/11th of the
margin).
NEGATIVE GEARING
A rental property is negatively geared if it is purchased using a
debt or finance facility and the net rental income, after
deductions, is less than the interest cost of finance.
The overall taxation result of a negatively geared property is a
net rental loss. If this is the case, you may be able to claim a
deduction for the rental expenses against your overall incomes,
being rental income, wages, salaries and other incomes when
completing your tax return.
Negatively gearing allows investors to purchase a brand new
rental property and combine the rental income with the overall tax
benefits (increased net income) to help fund the cost of
maintaining the property.
By researching and choosing a rental property with the optimum
balance of yield (rental income) and factors contributing to tax
effectiveness (size for depreciation, deductible expenses
including finance and other servicing costs) an investor can
control their out of pocket expense (personal injection) required
to fund the investment, thereby maintaining their current or
desired standard of living.
In many cases negative gearing will produce a significant tax
refund on your tax return. If this is the case you may reduce your
rate of withholding by your employer to better match your end of
year tax liability.
You can do this by applying to the Tax Office for a withholding
variation using the PAYG income tax withholding variation
(ITWV) application.
INCOME
(ITWV)
TAX
WITHHOLDING
VARIATION
You can reduce the burden of funding your rental property
investment during the year by applying for a withholding variation
using an ITWV application. This process allows you to reduce
your PAYG withholding rate and receive your tax benefits in your
net pay each period throughout the year rather than receiving a
lump sum in your tax return at the end of the financial year.
This is a good tool for those who have difficulties managing cash
flows and tend to spend the lump sum on other costs or items
(plasma TV, Jet ski or bits and pieces) rather than using the tax
benefits for funding the investment property.
For example if a rental property owner typically received an end
of year tax refund of $11,500 because of the deductions
produced from their rental property against their overall
assessable income, they would receive approximately $221 per
week ($11,500 / 52 weeks) increased net pay after lodging an
ITWV.
The increased net income plus the rent will assist in funding the
investment throughout the year.
Remember: an ITWV means the Tax Office is not giving you an
extra $221 each week. It means the Tax Office is taking $221
less each week because of your deductions and withholding rate
change. Therefore, you are not taxed on this money.
The ITWV allows you to forecast your deductions for the
upcoming financial year and the Tax Office can adjust your
withholding rate accordingly. Upon lodgement the Tax Office will
send a letter to your payroll office advising your employer to tax
you at the new rate.
PAY AS YOU GO INSTALMENTS (PAYG)
If your property investment strategy does not include tax
effectiveness you may be choosing to invest in cash flow positive
properties (you make a profit from renting your property). If this is
the case then you may have to pay PAYG instalments to the Tax
Office each quarter throughout the year.
While cash flow positive properties make funding the rental
property easier for the investor, their higher yield usually comes
at the cost of increased maintenance (typically older properties)
and forgoing significant tax benefits and capital gain for portfolio
growth.
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 20
RENTAL PROPERTY ASSETS
AND DEPRECIATION
9
EFFECTIVE LIVES TABLES
The following items are considered by the Tax Office to be
depreciable plant and may be claimed under Division 40.
Remember if you are applying the prime cost basis, divide 100 by
the effective life in years, and if you are applying the diminishing
value basis you must divide 150 (or 200 for plant acquired from
10 May 2006) by the effective life in years.
ASSET
ACQUIRED
AFTER
Air conditioning assets:
Air handling units........................................1/7/03
Absorption chillers......................................1/7/03
Centrifugal chillers......................................1/7/03
Air cooled chillers .......................................1/7/03
Water cooled chillers..................................1/7/03
Condensing sets ........................................1/7/03
Cooling towers ...........................................1/7/03
Damper motors ..........................................1/7/03
Fan coil units ..............................................1/7/03
Mini split systems .......................................1/7/03
Packaged units...........................................1/7/03
Pumps........................................................1/7/03
Room units.................................................1/7/03
Ceiling Fans......................................................1/7/04
Clocks, electric..................................................1/7/04
DVD players......................................................1/7/04
Door closers......................................................1/7/04
Door stops, freestanding...................................1/7/04
Escalators .........................................................1/1/03
Evaporative Coolers:
Fixed ...................................................................1/7/05
Portable ...............................................................1/7/05
Floor coverings:
Carpet..................................................................1/1/01
Floating timber....................................................1/7/04
Linoleum.............................................................1/1/01
Vinyl ...................................................................1/1/01
Furniture, freestanding......................................1/1/01
Garbage bins ....................................................1/7/04
Garbage compacting systems ..........................1/1/01
Generators........................................................1/1/01
Gym Assets:
Cardiovascular ....................................................1/7/04
Resistance ...........................................................1/7/04
Hand dryers, electrical ......................................1/1/01
Heaters:
Electric - fixed ....................................................1/7/04
Gas – ducted central heating unit .......................1/7/04
Gas - other...........................................................1/7/04
Freestanding........................................................1/7/04
Hot water systems:
Electric ................................................................1/7/04
Gas ......................................................................1/7/04
Solar ....................................................................1/7/04
Intercom system assets ....................................1/7/04
Lifts (including hydraulic and traction)...............1/1/03
Lights:
Fittings (excluding hardwired) ...........................1/7/04
20
25
20
15
20
15
15
10
15
10
15
20
10
5
10
5
10
10
20
20
10
10
15
10
10
13⅓
10
6⅔
20
5
10
10
15
20
15
15
12
12
15
10
30
5
LIFE
YRS
ASSET
ACQUIRED
AFTER
Freestanding........................................................1/7/04
Shades, removable ..............................................1/7/04
Linen ................................................................ 1/7/04
Master antenna television (MATV)
assets............................................................... 1/7/04
Mirrors, freestanding ........................................ 1/7/04
Radios .............................................................. 1/1/01
Rugs................................................................. 1/7/04
Solar power generators .................................... 1/7/04
Stereo systems................................................. 1/7/04
Surround sound systems.................................. 1/7/04
Telecommunications assets:
Cordless phones ..................................................1/7/04
PABX computerised assets.................................1/7/04
Telephone handsets.............................................1/7/04
Television antennas, freestanding.................... 1/7/04
Television sets.................................................. 1/7/04
Vacuum cleaners (ducted):
Hoses, motors and wands ...................................1/7/04
Vacuum cleaners (portable) ............................. 1/1/01
Ventilation fans................................................. 1/7/04
Video cassette recorders.................................. 1/7/04
Water pumps .................................................... 1/1/01
Window blinds, internal .................................... 1/7/04
Window curtains ............................................... 1/7/04
Window shutters, automatic (controls
and motors) ...................................................... 1/7/04
Bathroom assets:
Accessories .........................................................1/7/04
Exhaust fans........................................................1/7/04
Heated towel rails ...............................................1/7/04
Shower curtains ..................................................1/7/04
Spa bath pumps...................................................1/7/04
Fire control assets:
Heat and smoke alarms.......................................1/7/04
Detection and alarm systems:
Alarm bells..........................................................1/7/04
Detectors .............................................................1/7/04
Fire indicator panels ......................................... 1/7/04
Emergency warning and
intercommunication systems (EWIS) ......... 1/7/04
Extinguishers.................................................... 1/7/04
Hoses and nozzles ........................................... 1/7/04
Pumps (including diesel and electric) ............... 1/7/04
Stair pressurisation assets:
AC variable speed drives........................... 1/7/04
Pressurisation and extraction fans............. 1/7/04
Sensors ..................................................... 1/7/04
Kitchen assets:
Cook tops .................................................. 1/7/04
Crockery .................................................... 1/7/04
Cutlery ....................................................... 1/7/04
Dishwashers .............................................. 1/7/04
Freezers .................................................... 1/7/04
Garbage disposal units .............................. 1/7/04
Microwave ovens................................................1/7/04
Ovens ..................................................................1/7/04
Range hoods........................................................1/7/04
Refrigerators .......................................................1/7/04
Stoves..................................................................1/7/04
Water filters, electrical........................................1/7/04
Laundry assets:
Clothes dryer.......................................................1/7/04
5
5
5
10
15
10
7
20
7
10
4
10
10
5
10
10
10
20
5
20
10
6
10
5
10
10
2
20
6
12
20
12
12
15
10
25
10
25
10
12
5
5
10
12
10
10
12
12
12
12
15
10
LIFE
YRS
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 21
ASSET
ACQUIRED
AFTER
Ironing boards, freestanding ...............................1/7/04
Irons ....................................................................1/7/04
Washing machines ..............................................1/7/04
Outdoor assets:
Automatic garage doors:
Controls .......................................................1/7/04
Motors .........................................................1/7/04
Sliding trays and cookers (fixed
barbecues) ...........................................................1/7/04
Freestanding barbecues.......................................1/7/04
Floor carpet (including artificial
grass and matting)...............................................1/7/04
Furniture, freestanding........................................1/7/04
Garden watering installations .............................1/7/04
Garden lights, solar.............................................1/7/04
Garden sheds, freestanding.................................1/7/04
Gates, electrical
Controls .......................................................1/7/04
Motors .........................................................1/7/04
Operable pergola louvres:
Controls .......................................................1/7/04
Motors .........................................................1/7/04
Sauna heating assets ...........................................1/7/04
Sewerage treatment assets:
Controls .......................................................1/7/04
Motors .........................................................1/7/04
Fixed spas:
Chlorinators.................................................1/7/04
Filtration assets ...........................................1/7/04
Heaters (electric or gas) ..............................1/7/04
Freestanding spas ........................................1/7/04
Swimming pool assets
Chlorinators.................................................1/7/04
Cleaning assets............................................1/7/04
Filtration assets ...........................................1/7/04
Heaters (electric and gas)............................1/7/04
Heaters (solar) .............................................1/7/04
Tennis court assets:
Cleaners, drag brooms, rollers............................1/7/04
Nets .....................................................................1/7/04
Umpire chains.....................................................1/7/04
Security and monitoring assets:
Code pads, door controllers ................................1/7/04
Readers - proximity ............................................1/7/04
Readers - swipe card.........................................1/7/040
Closed circuit television systems:
Cameras, monitors ......................................1/7/04
Digital recorders..........................................1/7/04
Time lapse recorders ...................................1/7/04
Switching units............................................1/7/04
Detectors, GSM units,
noise makers................................................1/7/04
LIFE
YRS
7
5
10
5
10
10
5
5
5
5
8
15
5
10
15
15
15
8
8
12
12
15
17
12
7
12
15
20
3
5
15
5
7
3
4
4
2
5
5
Non Residential Property Operators
Refer to Table B – Assets Used in Commercial Office Buildings
The following items are considered by the Tax Office to be
part of the structure of the building and therefore must be
claimed under Division 43, not as depreciable plant.
Air conditioning ducts, pipes and vents
Cupboards (not freestanding)
Door locks and latches (not electronic code pads)
Fixed door stops
Electric conduits, distribution boards, power points, switchboards,
switches, wiring
Façade, fixed
Fixed floor coverings – cork, parquetry, tiles
Garbage chutes
Grease traps
Hand rails
Heating ducts, pipes, vents and wiring
Fireplaces (including wood heaters)
Robe hooks
Hot water system piping
Insulation
Lift wells
Light fittings (hard wired)
Fixed mirrors
Ramps
Fixed safes
Fixed sanitary fixtures
Satellite dishes
Screens
Shelving, not freestanding
Shutters
Fixed signs
Skylights
Telephone distribution frames
Television antennas, fixed
Ventilation ducting and vents
Water tanks
Window awnings, screens, louvres, pelmets, tracks
Window shutters
Fixed bathroom accessories
Baths, bidets, tap ware, toilets, vanity units, wash basins
Spa baths
Wardrobes, not freestanding
Alarm cabling and reticulation
Fire and separation doors
Fire hose cabinet
Fire hydrants
Exit and emergency lights
Sprinkler systems
Water piping
Water tanks
Kitchen fixtures including bench tops, cupboards, sinks, tap ware
and tiles
Water filters, fixed
Laundry fixtures including tap ware, tiles and tubs
Ironing boards, not freestanding
Garage doors
Fixed barbecues
Fixed bollards
Sealed car parks
Carports
Clotheslines
Sealed driveways
Fencing
Furniture, not freestanding
Garage doors (excluding motors and controls)
Garden awnings and shade structures, fixed
Garden lights, fixed
Garden sheds, fixed
Gates
Jetties and boat sheds
Letterboxes
Pergola louvres (excluding controls and motors)
Paths
Retaining walls
Saunas (excluding heaters)
Fixed screens
Septic tanks
Sewerage treatment assets (excluding motors and controls)
Spas
Tennis court fences, lights, posts and surfaces
Doors and screens
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 22
I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 23
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I
TAX IQ 2009 PROPERTY INVESTMENT SPECIAL 24
Tax IQ is published by:
Media IQ Pty Limited
PO Box 9007 GCMC Queensland 9726 AUSTRALIA
Email: info@miq.com.au Web: www.miq.com.au