CGT was introduced on September 20, 1985, and is the tax payable on the difference between the purchase cost of an asset and the amount received when it is sold. For investment properties, this is the difference between the original purchase price of the property, including any capital buying costs, and the price it is sold for, plus any selling costs. When an asset like a property is sold, it triggers a “CGT event,” and the owner either makes a capital gain or loss on the property.
Here are six essential facts investors should know about how property depreciation affects CGT:
How do capital works deductions affect CGT?
Capital works deductions are available for the wear and tear on the structure of the building. Examples of items that can be claimed include bricks, walls, floors, roofs, windows, tiles, bathrooms, kitchen cabinets etc. Capital works deductions will reduce the cost base of the property, which will add to the capital gain and therefore increase the amount of CGT applicable for the property owner.
What is property depreciation?
Property depreciation refers to the wear and tear of a building and the plant and equipment items within it. The Australian Taxation Office (ATO) allows owners of income-producing properties to claim this depreciation as a deduction in their annual tax return, meaning they pay less tax. Property depreciation is made up of two main parts: capital works deductions and plant and equipment depreciation.
How do capital works deductions affect CGT?
Capital works deductions are available for the wear and tear on the structure of the building. Examples of items that can be claimed include bricks, walls, floors, roofs, windows, tiles, and electrical cabling. Capital works deductions will reduce the cost base of the property, which will add to the capital gain and therefore increase the amount of CGT applicable for the property owner.
How does plant and equipment depreciation affect CGT?
Depreciation deductions can be claimed for the mechanical and easily removable plant and equipment assets contained within an investment property. When a property is sold, a gain or loss is calculated separately on these items because these assets often get updated, removed, or replaced over time. If an investor increases the value of plant and equipment during the time they own the property, for example, by replacing carpets or completing a renovation, it could increase the cost base of these assets and may, therefore, reduce the CGT when the owner sells the property. If the value of assets in the property when sold is less than when purchased, the cost base will be reduced, therefore increasing the amount of CGT.
What CGT exemptions apply for a principal place of residence?
Properties that someone resides, occupies, or lives in as their home are exempt from CGT as long as the dwelling is mainly used for residential accommodation and is located on land under two hectares in size. If the owner of a primary place of residence moves out and rents it out, a CGT exemption is available for up to six years after they have moved out, as long as they don’t own another primary place of residence. If the owner moves back into their investment property, then moves out and rents the property again, a new six-year period will commence from the time they last moved out of the property. Only one property can be classified as a primary place of residence and exempt from CGT at any one time, except for specific rules that apply if both properties are treated as the owner’s primary place of residence within a six-month period.
Are property investors eligible for a discount?
A 50% exemption on CGT is available to individuals or small business owners who hold an investment property for more than twelve months from the signing date of the contract before selling the property.
Is it still worthwhile claiming property depreciation if it will later add to the capital gain?
Certainly.Throughout the ownership period, an investor can claim capital works and plant and equipment as deductions at their individual tax rate. As a result, these deductions decrease tax obligations, generating supplementary annual cash flow for the investor.
In the event of a property sale, if the owner has owned the property for more than twelve months, they can qualify for a 50% exemption. Therefore, only half of the capital works deductions during ownership will be applicable during the “CGT event.” Consequently, it is highly advantageous for property investors to claim the capital works deductions and capitalize on the extra cash flow during the ownership period. Additionally, depreciation claims present an opportunity for the property owner to further invest or decrease loan obligations.
