Top Tax Tips for Property Investors
An investment property can be a great way to earn income every week for the rest of your life and plan for your retirement. The leverage provided through borrowing money to fund a portion of the purchase price also provides the investor with significant upside if the property increases in value over the longer term. Investors need to understand the tax implications of investing in property as there are pitfalls for the uninitiated. Here are some factors to consider if you are thinking about an investment property.
1. Expenses related to the rental property such as council rates, water rates, repairs and maintenance, interest and agent commissions are deductible expenses. Additionally, costs associated with financing the property such as borrowing costs and bank application fees for example can be deducted over a period of time.
2. Expenses on a vacant rental property can be deducted as long as tenants are actively being sought at the time of incurring the expenditure.
3. Investors should consider pre-paying expenses such as interest for a period of up to twelve months in advance as this expenditure is typically deductible to the property owner in the financial year in which it is paid.
4. The property owner is potentially able to claim depreciation (on individual items that form part of the property) and a capital allowance (on the actual building itself) as a tax deduction against the rental income for the property. These are non cash expense items that reduce the investor’s taxable income.
5. To claim depreciation and the capital allowance, you need to know the original cost of specific items that form part of the investment. If you do not have this information, it may be beneficial to engage the services of a quantity surveyor to provide you with a schedule of available deductions. It is usually well worth the cost involved, as it is a tax saving gained without paying out any additional cash (other than the upfront cost for the quantity surveyor). It is important to remember that recent additions to older properties such as renovations and new fittings and fixtures to the property can also be depreciated. Your accountant can organise a quantity surveyor for you to maximise your tax benefits!
6. Care should be taken with any work done on your investment property to determine whether it is repairs and maintenance or capital in nature as both items are treated differently from a tax perspective. Repairs and maintenance are deductible in the year in which they are incurred. Capital works and depreciable assets, on the other hand, can be depreciated over a number of years, depending on the item. The Australian Taxation Office provides guidance in relation to the useful life of specific assets and the rate of depreciation. Your accountant is well placed to provide you with advice in this area.
7. Negative Gearing occurs when the costs of maintaining your investment, including interest and expenses from the rental property exceed the rental income earned on the property. The result is a reduction in taxable income for the property investor which can potentially be offset against income earned from other sources resulting in a lower overall tax liability. Newly constructed properties are often more heavily negatively geared as you are able to claim significant amounts of depreciation and allowances against the cost of construction. Before investing in property, consider "Should I buy a new or an old property?" Your accountant should be able to give you some guidance in this matter, specific to your individual circumstances.
8. Negatively geared properties often provide significant tax refunds at the time of lodging the property owner’s tax return. Instead of receiving this at the end of the financial year, investors can lodge an application to vary the amount of tax withheld from your regular salary resulting in the cashflow benefit of negative gearing being obtained throughout the year. You can ask your accountant to do this for you, so you receive the refund each pay day!
9. Positive gearing occurs when the income from your investment property exceeds your expenses related to that property, so that your investment generates a positive cash flow. This would occur for example if you bought an investment property which had a high rental yield (income) relative to its purchase price. People sometimes ask if negative or positive gearing is “better”. At Horton Shirlaw Chartered Accountants we believe each strategy has its place and that an investor’s individual circumstances need to be taken into account. It is worth noting that cashflows generated by properties can be significantly impacted by movements in interest rates if the investor has acquired the property using bank borrowings. Investors should be aware that a property that is currently positively geared, can easily become negatively geared if interest rates rise.
10. Sometimes clients move into a property that they previously rented as an investment or rent out a property that was previously their principal place of residence. These changes potentially have capital gains tax implications and if considering this strategy, you will need to discuss your particular circumstances with your accountant.
11. Before you buy a property, get some advice on the best structure. You can buy an investment property under your own name, as joint tenants, as tenants in common, through a trust or in a company. All structures have different tax implications and other advantages and disadvantages that need to be considered prior to entering into a property investment.
Your accountant can also do a financial analysis of your existing property investments to ensure that you are maximising your tax position. If you are thinking of starting to invest in property, it would be prudent to get advice from an accountant who specialises in property investment.
HORTON & ASSOCIATES