When tax time comes round you want to claim every dollar you can to maximise your cashflow and the ROI of your rental property. At the end of the day the more you can claim the less tax you pay. To do this you need to treat your investment as a business and closely monitor your expenses, keep track of every scrap of paperwork and get your head around the tax legislation governing rental properties.
If you’ve got a positive cash flow property where the property is generating you more rental income then you’re paying in expenses chances are you going to have to pay tax. Try avoid this by knowing what you can legitimately claim so you can offset these expenses against your taxable income – and reduce your tax burden.
This article will give you an overview of what you need to take into account, and what you can and can’t claim.
Keeping accurate records
It is crucial you keep every little bit of paperwork that relates to your investment property.
This will allow you to manage your outgoings respond to any query from the Australian Tax Office (ATO) and accurately claim when tax time comes around. Accurate records are also going to help you work out if you make a capital gain or capital loss in a financial year.
If you are using an accountant to manage your finances they will also appreciate a well kept set of records. Look to hang onto the following paperwork and documentation:
- Monthly bank statements
- Purchase and contract of sale documents
- Records of agent, accountant, legal and advertising costs
- Receipts for insurance costs, rates and land taxes and market valuations
- Records of expenditure, including written invoices and receipts for any expenses that relate to your property, such as renovations, repairs, maintenance and new purchases.
- Tenancy agreement and conditions reports
- Rental statements from your property manager
- Selling agent agreement
- Depreciation schedule
Not all these documents relate to your tax status but the ATO recommends you keep all relevant records for at least five years after you sell a property.
‘It is crucial you keep every little bit of paperwork that relates to your investment property’
Investment property costs
If you are a first time property investor it is worth getting your head around all the costs associated with an investment property. Many ongoing costs that are often overlooked.
Having a thorough understanding not only allows you to plan and budget but also prepare when it comes time to submit your annual tax return. It is also going to give you an idea if you are going to be positively or negatively geared. Expect to incur the following expenses holding an investment property:
- Tax, if you have a positive cash flow rental property you will be liable to pay tax on the rental income
- Insurance, including contents, building and landlords insurance
- Interest on your loan
- Rates payable to council
- Strata fees
- Bank charges
- Maintenance and renovations costs
- Property management fees
Understanding negative and positive gearing
It is important to understand gearing as it impacts your taxable income. Gearing essentially means borrowing to purchase an asset, like a rental property, typically using a bank loan.
Negative gearing involves funding a purchase with debt, where the interest charges you pay on the loan exceed the rental income you earn on the property. In other words, you incur an annual loss. That loss is then deducted from your annual income, which then reduces the amount of income tax you have to pay.
Positive gearing is where the income you receive from an investment property exceeds than your expenses and interest on your loan. In this scenario you are liable to pay tax.
Understanding Capital Gains Tax
If you sell your investment property you are liable to pay Capital Gains Tax (CGT) on any profit (gain) you make on this investment. CGT only applies to a property you do not live in.
Examples of this include a rental or investment property as well as industrial and commercial premises. CGT does not apply if you live in the property permanently.
Working out your capital gain or loss
The easiest way to work out your capital gains tax obligation is to take the selling price and subtract the original cost and any associated expenses you have incurred. The remaining amount is your capital gain/loss.
If you make a net capital loss in an income year, you will not be liable to pay CGT. However, you cannot offset this against your other income. It needs to be offset against any capital gains you incur in future tax years. If you make a net capital loss in an income year, you should not be liable to pay CGT.
Can you avoid paying tax on your investment property?
Yes. The most common way of avoiding tax is to be negatively geared. Making a loss on your investment property allows you to deduct this from your annual income, which then reduces the amount of income tax you have to pay. The most obvious way of avoiding CGT is to hold onto your investment property – you only incur CGT when you sell an asset.
You could also live in the property, and make it your primary place of residence, which is exempt from CGT. If you move out of your home and rent it out, you may be exempt from some CGT. You can also reduce your tax obligations by buying a property through your self managed super fund (SMSF), but there are criteria you need to be able to qualify for this, including having a SMSF balance of more than $120,000.
Rental property deductions you can claim
There are a generous range of expenses and running costs that you can claim for. But you do need to know the difference between maintenance expenses, that can be written off in full, and capital expenses like major renovations, that have to be depreciated over the life of your property. All claims must also relate to your investment property, and can include:
- Interest on your investment loan
- Repairs and maintenance
- Advertising for tenants
- Property management fees
- Depreciation on certain assets
- Local council rates
- Building and contents insurance
- Body corporate/strata fees
- Travel expenses, for example when you visit your property for an inspection
‘You need to know which expenses can be written off in full and those that have to be depreciated over the life of your property’
What is a depreciation schedule?
ATO rules allow you to boost your tax deductions by claiming for the loss in value (depreciation) of certain assets, specifically the fixtures and fittings (furniture, carpets, electrical appliances) in your property. This is considered an investment loss by the ATO and is offset against your taxable income.
To make the most of your depreciation expenses consider hiring a professional, such as a qualified quantity surveyor. They can accurately value your assets and prepare a depreciation schedule and capital works deduction report. This details how much you depreciation you can claim for the tax year.
‘A qualified quantity surveyor can accurately value your assets and prepare a depreciation schedule’
Can you claim property management costs?
Yes. If you use a property manager to administer the day-to-day operations of your rental property this cost is fully deductible. Management fees vary from 5% to 12% depending on where you live, and the industry average is 7.6%.
There are also other fees that you could be liable for, including advertising costs, management fees, lettings fees (typically 2 weeks rent), monthly administration fees, annual statements and lease renewals. Leasi has a competitive all-inclusive management fee of 5% + GST, ensuring you get maximum ROI, with no long-term commitment for using our service.
‘If you use a property manager to administer your rental property this cost is fully deductible’
Rental property expenses you can’t claim
There are a range of expenses you can’t claim, typically because they are not directly linked to the rental of your property. These include:
- Bills and expenses that your tenants incur and pay
- Costs related to the purchase and sale of the property, including conveyancing, advertising and stamp duty
- Borrowing costs for your own use, when you use the investment property as equity for the loan
- Any cost related to your personal use of the property
Tax implications of multiple rental properties
Owning multiple investment properties does make your tax status more complicated. If you own multiple rental properties and live in one of them yourself, you can only claim expenses that relate to your tenanted investments. Consider getting professional tax advice if your personal circumstances are complex.
What unusual tax breaks are out there?
To maximise your ROI actively look to legally claim absolutely anything you can. Items you may not have considered include your properties security system, artificial turf, and even the in-ground pool and barbecue (depreciation).
An experienced tax agent, accountant or quantity survey could prove invaluable in helping you claim everything you are entitled to, particularly with their knowledge of the prevailing tax regime and depreciation legislation, as well as any changes to current tax laws.
‘An experienced tax agent, accountant or quantity survey could prove invaluable in helping you claim everything you are entitled to’
Do I need professional advice?
Property investment and taxation can be complex, so to avoid making any costly mistakes that can bite later on down the track, we always recommend that you consult a professional accountant.
There’s a lot to be said for using a certified accountant who specialises in tax and/or property. First and foremost they will help identify all potential tax deductions that you can legitimately claim.
To benefit from their advice you’ll be required to keep meticulous records related to your investment, which is a good habit to have if you want to take investing in property seriously. A property focused accountant can also help you maximise your cash-flow and give you advice on growing your investment property portfolio.
‘A certified accountant can help identify all potential tax deductions that you can legitimately claim’
*Property investment and the taxation that applies is complex and individual circumstances vary. We advise you to seek legal and financial advice from the appropriate professionals. If you are comfortable taking it on yourself visit the Australian Taxation Office to educate yourself.