Purchasing and repairing investment properties: Timing and process matters
So, you’re considering purchasing an investment property – where to from here? Firstly, this article will outline the general expenses you are able to claim as a rental property owner. Then it will consider some key tax implications of completing renovations to a rental property. Finally, it will discuss negative gearing impacts on taxable income.
Rental property owners are able to claim deductions in the period that the property is rented or available for rent. The deductions available include costs associated with managing and maintaining the property and any interest paid on the mortgage. In contrast, borrowing expenses and depreciation expenses are not immediately deductible and must be claimed over a period of time. Further, you are only able to claim for expenses that you have paid for. This means that if a tenant pays for their water, you will not be entitled to claim for that water. Costs associated with acquiring and disposal of the rental property are not claimable either. Instead they form part of the cost base of the asset upon sale, reducing the capital gains tax payable. This is why it is essential to keep detailed records of all expenses associated with your rental property.
Establishing the difference between a renovation and repair is a key issue in tax preparation and can be a grey area. Generally, repairs are considered as maintaining or replacing what is already there. Whereas renovation is the upgrade or improvement of an asset. The reason it is important to distinguish between repairs and renovations is that repairs are immediately deductible, whereas renovations being capital in nature are generally deductible over the useful life of the asset (depreciation). The useful life of an asset varies between assets, with the longest timeframe being for actual construction (capital works), which is for tax purposes set at 40 years. If the asset is sold prior to the renovation being full depreciated, the residual value will be used in calculating the cost base of the asset, again reducing the capital gains tax payable.
The timing of repairs and advertising for a tenant have implications on your tax. Begining repairs straight away may not facilitate for claims to be utilised. The issue here is in the timing, if the investor commences repairs before advertising and finding a tenant, the repairs are considered initial repairs. Initial repairs are treated as capital and are not immediately deductible. If the repairs are instead made after renting the property, they are considered maintenance and the repairs are immediately deductible. It may be beneficial to perform initial repairs to attract quality tenants, this is something the rental property owner would need to consider.
Negative gearing is when the deductible expenses (including interest and depreciation) of the rental property exceed the rental income. The effect is a net rental loss, which can be used to offset other income, or carried on to later income years. The net rental loss reduces the taxpayers taxable income, resulting in less tax payable.
If you need help with any accounting related issues please contact the friendly, knowledgeable team at The Great Bean Counters.