Investors look at the intricacies of buying well and getting the right tenants, but overlook other areas. Depreciation is something you can't afford to ignore.
Bloggers: Mike Mortlock, director, MCG Quantity Surveyors
When it comes to the taxation side of property investing, depreciation can be the greatest way to minimise your taxable income and put money back in your pocket at tax time.
For the uninitiated, depreciation is a deduction against assessable income, allowing the owner to reduce the amount of taxation payable. Essentially, a depreciation schedule will show your depreciation deductions each financial year. So, for example, if you’re entitled to claim $10,000 worth of deductions in one year, in the eyes of the Australian Taxation Office you’re essentially earning $10,000 less.
The higher your income, the more tax you’re required to pay, so depreciation schedules add value to your investment by reducing your tax and improving your cash flow.
To assist you in getting the most from your investment property, I’ve put together some insider secrets that zero in on the depreciation basics to ensure your entitlements are being maximised.
1. It’s extremely rare for there to be no depreciation available, even in an older property
Many investors own property that they don’t believe is likely to have any depreciation deductions available. One reason for this is a lot of investors are aware that in order to claim Division 43 building works, the building has to be constructed after 17 July 1985. This leads investors to believe that if their property was built in the 1960s, it’s not worthwhile having a report prepared.
Most often, this is simply not true. Even properties constructed in the 60s and 70s are likely to have significant depreciation deductions available, and most properties of this age have had renovations completed over the years. It doesn’t matter if you’ve made no improvements to the property yourself, as renovations completed by the previous owner will attract depreciation deductions that you’re entitled to claim.
2. If you’ve only just purchased a property, don’t wait until next year to organise a depreciation schedule – especially if you plan to renovate
It doesn’t matter how many days prior to the financial year you’ve purchased the property, there are likely to be some great deductions due to tax legislation, such as 100 per cent deductions and low value/cost pooling.
For example, if the asset cost $300 or less, you can claim an immediate deduction for the cost of the asset.
The other reason for having a schedule completed upfront is scrapping. If you’re planning to rent the property then complete a renovation, it’s important to have a schedule completed before the works are done. The reason is that every plant and equipment item – such as blinds, carpets and light shades – will have a residual or written-down value. When you throw away these assets, you’re able to claim the residual value at 100 per cent.
Having a report prepared before the renovation will provide you with the written-down value of all of your assets that will end up in the skip. It’s not uncommon for there to be many thousands of dollars worth of deductions available. Perhaps it might even assist you with the renovation costs!
3. If you’ve never claimed depreciation, you might have a hefty back claim
If you purchased your property a few years ago and you’ve never had a depreciation schedule, chances are you’ve missed out on some deductions.
The bad news is that, in the past, investors were able to access up to four financial years of back claim – but that has changed to two financial years. However, those two financial years can certainly add up.
The good news is that depreciation reports will start at the settlement date and show any depreciation claims you may be entitled to for previous financial years. Your accountant will be able to amend previous returns and you could end up with a few years’ worth of depreciation deductions at tax time.
4. Make sure you itemise your repairs and maintenance costs
Improvements to your property, such as a new driveway, are considered a capital improvement and are depreciated at 2.5 per cent of its value over 40 years.
In comparison, hot water system repairs and touch-up painting are more likely to be considered as repairs and maintenance, and can be claimed by your accountant at 100 per cent of the value. Why wait 40 years to claim the full value when you can do it in one?
Keeping a spreadsheet of your costs is a good way to keep track of your expenditure. A quantity surveyor can easily classify the expenditure that is best to claim as a capital improvement or refer to your accountant to claim at 100 per cent.
5. If you’re renting a room in your house or have a home office, you can still claim depreciation
We recommend clarifying your personal situation with your accountant, but it’s important to note that many investors are unaware they’re entitled to claim depreciation deductions if they have a room rented out or operate a business from home.
In the case of renting out a room in your private place of residence, your accountant will normally use a formula such as the size of the room divided by the total size of the house to calculate the percentage of the property that is income-producing.
It’s important to always check with your accountant to see what you’re entitled to claim.
About the Blogger
Mike Mortlock is a quantity surveyor and director of MCG Quantity Surveyors. MCG specialise in tax depreciation schedules and construction cost estimating for investors.