An investment property tax deductions calculator won’t always show you everything you can claim. Many leave out the assets that go into a typical depreciation schedule. Here are the things that your tax depreciation schedule must contain.
When it comes to tax, there’s one question you must ask about your investment property: what can I claim?
There are the basics of course. Everybody looks into mortgage tax deduction. Australia is full of financial experts who can help with this issue. You may even find that an investment property tax deductions calculator can do the basics for you.
But what about property depreciation? It’s a type of deduction many investors miss, but it could save you thousands of dollars every year. Others make claims, but do so using the wrong schedule. Again, they end up missing out on thousands of dollars in savings.
You need to call in the experts. No, that doesn’t mean your accountant. Instead, a Quantity Surveyor is the professional you need to create a strong depreciation schedule.
The typical schedule will include the depreciation of capital works and equipment. However, some leave out other, less obvious, assets. Here’s what your depreciation schedule must contain if you’re to maximise your deductions.
Item #1 – Common Indoor Items
(Deductions for these plant and equipment items may only apply if you bought the property prior to May 9, 2017 – Read about the Budget changes here).
You may have chosen a unit or apartment as your first investment property. Australia has several cities, which can make such properties a wise investment choice.
Naturally, you’ll claim depreciation on your unit’s assets. But what about the assets that it shares with other units in the apartment complex? You can claim for your portion of those too, but many investors miss out on these deductions.
Common items include fire extinguishers, air conditioning units, and lifts. You can also claim for ventilation and hot water systems. You don’t get to claim depreciation on the full value of the asset, but even a little bit can help with your cashflow.
Item #2 – Scrapped Items
Let’s assume you’ve carried out some renovations on your property. Oftentimes, you’ll have a bunch of assets left over that you no longer have a use for. Many just throw such items away, without giving them a second thought.
That’s a mistake. Old items have what’s known as a scrapping, or residual, value. This is the item’s value once it’s reached the end of its use.
You can claim a final depreciation sum on any items you intend to throw away following renovations. Such items include old appliances or carpets. Have a Quantity Surveyor create a new depreciation schedule prior to your renovations. This will ensure you catch any assets with scrapping value.
Item #3 – Common Outdoor Items
Let’s come back to shared items. It’s not just the common indoor items you can claim depreciation on. Any common items outside the apartment block itself have value to you as well.
This includes pathways, fences, and various landscaping items, such as pergolas. You may even be able to make claims on a shared swimming pool.
However, you can’t claim for all common outdoor items. For example, turf and plants won’t find their way into your depreciation schedule.
Item #4 – The Fees You Pay to Design Professionals
Did you realise that you can include the fees you pay to design and construction professionals in your tax deductions? Australia offers plenty of opportunities to build your own property. Investors often go down this route, rather than buying an existing property.
Your depreciation schedule must account for the costs of such construction work. This includes the money you paid to any designers or architects who worked on the project.
Make sure you supply your Quantity Surveyor with accurate receipts for these services. This will allow you to maximise your claim for the fees you pay.
Item #5 –Money You Pay to the Council
You may have to pay fees to the council for various services. For example, there are costs involved with lodging application fees, or getting council permits.
If you’re building your own property, you may also have to spend money on infrastructure. This might include gutters and footpaths.
Your depreciation report should include all these items. Again, this is something that many investors miss out on because they don’t think the costs relate directly to their properties.
The Final Word
Check your depreciation report again. Does it include all the items on this list? If not, you’re missing out on several Australian Taxation Officer (ATO) tax incentives for homeowners.
You need the help of Washington Brown to create an accurate tax depreciation schedule. Call us today to speak to one of our Quantity Surveyors about your property.
There are many myths floating around when it comes to tax depreciation. Especially regarding what property investors are entitled to claim.
Below are some of the most common myths I have heard during my time as a qualified Quantity Surveyor.
NOTE: Information below regarding plant and equipment items may only apply to properties purchased prior to May 9, 2017 – Read about the Budget changes here).
Myth 1: The Commissioner’s effective life ruling must be used for all assets, no exceptions.
Truth: The Commissioner of Taxation’s ruling only applies to new depreciable assets.
In 2015, the commissioner wrote in the ruling that the effective life for new internal window blinds is 10 years. He does not mention that the effective life for second hand internal window blinds is 10 years also. So, if you have purchased a 5-year-old building with 5-year-old internal window blinds, you are not able to depreciate the blinds using a 10-year effective life.
A quantity surveyors role is to maximise depreciation deductions for the client. In order to do this, they must assess the effective life of second hand assets. And not just assume all of the assets in the property are brand new assets.
Also, it is important to note that if an asset is not listed in the depreciation schedule, it does not mean you are not able to claim for that asset. If it is a depreciable asset, you are able to claim it!
If an asset is purchased after the completion of the report, or you did not provide the information to the quantity surveyor, your accountant is able to include the asset for you.
Myth 2: If the assets in the property are destroyed I am able to claim the balance of the depreciation.
Truth: Some of this myth is partly true. The Division 43 capital works states that where a taxpayer’s capital works are destroyed, a deduction is permitted under the Undeducted Construction Expenditure rule.
However, if they receive an amount under a different insurance policy for the destruction of the assets, they are required by law to reduce the Undeducted Construction Expenditure by that amount.
Under Division 40, if a taxpayer ceases to own a depreciating asset (either sold or destroyed the item), or does not use a depreciating asset (no use for it any longer), a balancing adjustment will occur.
A balancing adjustment amount can be calculated by comparing the asset’s termination value (sale proceeds) and its adjustable value (written down value). If the termination value is greater, you include the excess in your assessable income. However, if the termination value is less, you deduct the difference.
Myth 3: Once the depreciable asset is found, you can claim depreciation on it.
Truth: Through past experiences, I have learnt that most investment home owners use their properties at some point during the year. This, however, creates incorrect figures in their tax depreciation schedule.
The purpose of a depreciation schedule is to inform a taxpayer on what they can include in their tax return. Without considering whether or not there has been private use of the property, or figuring out how to adjust the depreciation amounts to the correct sum, is at best misleading and at worse illegal.
Myth 4: All costs in acquiring a rental property should be able to be depreciated in one way or another.
Truth: This has mostly been covered by Myth 1 already. But this is the most common myth so I am going to explain it in more depth.
I have found that QSs are continually finding any asset to attach any and all costs to in order to claim a deduction, without properly following the laws.
For example, an investment property owner’s fence is damaged and the owner spends money on the repairs. The QS sees the cost the owner has spent and includes that whole sum in their depreciation schedule, depreciating it over 40 years at 2.5%. This is wrong.
A repair should be claimed at 100% in the year in which it was incurred.
Myth 5: Once I have spent money on a asset or a capital work I am able to claim it.
Truth: Under Division 40, you are only able to start depreciating an asset once it has been “used or installed ready for use”. Not as soon as you have paid for the asset.
For capital works under Division 43, you can claim deductions only once construction has been completed.
Myth 6: If I am unable to find the depreciable asset in the Commissioner’s yearly ruling, I cannot depreciate it.
Truth: The intention for the Comissioner’s ruling is to estimate the effective lives of assets. Not to decide what is a depreciable asset.
A depreciable asset is defined as an asset with a limited effective life. Therefore they are expected to decline in value over time.
Myth 7: Your assets are always deducted at 2.5%.
Truth: The rate at which assets are deducted is almost always 2.5%. However, there is one time you can get 4%.
However, there are times when a 4% deduction is applicable.
For example, a 4% rate will apply on an income-producing use of a building regarding an industrial manner.
So, you’ve received your depreciation schedule – now you have a choice to make. Should you choose to claim the Diminishing Value method, or the Prime Cost method?
Both methods are based upon the effective life of the asset – i.e. how long it will last.
Diminishing Value Method
The DV method depreciates items more quickly up front. This method recognises the fact that most plant and equipment items lose a higher portion of their value early on.
The decline in the value of the item gets progressively smaller over time on the way towards $0.
For example: if the carpet you bought has a value of $1000 and a 10 year effective life, you would calculate the depreciation as follows:
Year 1: $1,000 x 20% = $200
Year 2: ($1,000 – $200) = $800 x 20% = $160
Year 3: ($1,000 – $200 – $160) = $640 x 20% = $128
And so on and so on.
When should I use this method?
Property investors tend to use the DV method when they want their deductions up front. As they say, a dollar today is worth more than a dollar tomorrow.
Prime Cost Method
This method allows you to evenly spread out how much you can claim each year.
For instance, with the Prime Cost method, carpet purchased for $1000 (with an effective life of 10 years) can be claimed at 10% per annum, or $100 per year.
When should I use this method?
This may suit someone, for instance, who bought the property then lived in it for a few years before turning it into a rental property.
Or perhaps someone with little to no income in the next few financial years, and wants to have greater claims available when they start earning a higher income and enter a higher tax bracket.
By slowing down the claim, you will not miss out on as many deductions.
*Remember, once you choose your method of depreciation, you cannot alternate between the two.
That’s why we always recommend you talk to your financial advisor as to which method suits your individual circumstances.
If you’re not an accountant, or this is your first depreciation schedule, reading all those figures can be a little daunting.
Of course you could just give the report to your accountant and let them sort out your claims for you, but maybe you want to understand how you’ve saved all that money!
There are four main terms you must understand in order to read your report:
- Building Allowance: this is the deduction available to offset the hard construction costs of your property (including concrete, brickwork, etc.). Generally the Building Allowance will equal the total original construction cost plus any renovations, minus non-eligible costs and plant and equipment values. It can be claimed at 2.5% for properties built after 1987.
- Plant and Equipment: this refers to the fixtures and fittings within a building that are relatively easily removable (including ovens, light fittings, carpet, blinds, etc.). Plant and equipment is able to be claimed at a faster rate than Building Allowance – the rate is dependent on the item’s Effective Life.
(Note: your report may show low or no plant and equipment deductions if your property is affected by the 2017 Budget – read more about those changes here).
- Diminishing Value (DV): this is one of two methods you can choose to claim your depreciation. The DV method front loads your deductions, recognising that most Plant and Equipment items tend to lose a higher portion of their value early on.
- Prime Cost (PC): this is the other method you can choose. The PC method spreads out your Plant and Equipment deductions evenly.
(For more information on the differences between the two methods – click here.)
Now to the specific pages of your report:
In a sense, there are two copies of each type of page: one for the DV method and one for the PC method. For the most part, they are the same, although apply different rates to the plant and equipment assets.
The ‘Construction Summary’ pages for both DV and PC methods, show the calculations made to arrive at your total Building Allowance. The total figure for each method will be the same.
The next few pages for each method are the ‘Schedule of Depreciable Items’. These pages show the values and depreciation rates of individual plant and equipment items, owner included or previous owner renovations (if applicable) and the total Building Allowance again.
The DV ‘Schedule of Depreciable Items’ will show effective lives of ‘<=$300**’ and ‘Low Pool*’ for some assets. ‘<=$300’ are items with a value less than or equal to $300, and are eligible to be fully deducted in the first year of ownership. While ‘Low Pool’ items are those valued at less than $1000, and are depreciated at 18.75% in the first partial year of ownership, and 37.5% in subsequent years.
The ‘<=$300’ and ‘Low Pool’ assets are not available in the PC method, and therefore won’t be shown in the PC ‘Schedule of Depreciable Items’.
The ‘Year End Summary’ for both methods are similar, with the DV version showing an extra column for ‘Low Value Pool Items’. The figures to focus on here are in the ‘Amount Claimable’ column, showing the total claim per financial year, already prorated based on your settlement or construction completion date.
Finally, the ‘Graph’ page shows your total claims over the first 20 years of ownership. Each bar shows two financial years’ worth of claims, increasing cumulatively. It also provides a comparison between the rate of claims between the DV and PC methods.
If you have any further queries regarding your depreciation schedule, contact firstname.lastname@example.org
Is my property too old to claim depreciation?
The short answer is no, you can claim depreciation on all investment properties.
Depreciation is split into two categories, Building Allowance which is generally deemed to be the structure (walls, slab and roof etc), and Plant and Equipment which is generally items that are attached to the structure and easily removed (appliances, carpets, window furnishings etc.)
The Building Allowance component is only valid if the property was built after September 1987 (residential). It is calculated at 2.5% of the original construction costs over 40 years.
It doesn’t matter how old the investment property is you can still claim depreciation deductions on all the Plant and Equipment.
(UPDATE: Deductions for plant and equipment items may only apply to commercial properties, brand new properties, if you bought the property prior to May 9, 2017, or some other exceptions – Read about the Budget changes here).
Plant and Equipment items are claimed at varying rates e.g. you can claim depreciation on items under $300 at 100% and items under $1000 at 37.5%. Items such as air conditioners depreciate over 10 years. You can also claim depreciation on a portion of the common area plant in strata buildings.
The important thing to remember with Pre 1987 built residential investment properties is that most of the plant and equipment will be depreciated after 5 years of ownership.
Property depreciation starts from the settlement date. So, if your investment property was owner-occupied for any time since settlement, it is important you speak to an experienced Quantity Surveyor like Washington Brown to ensure it is worthwhile for you.