The Top 14 New Depreciation Rules for Rental Properties.
Well, the dust has finally settled on the new legislation regarding the changes to the depreciation law for investment properties that will apply to second-hand residential properties.
This article will dig deep into some of the questions we have commonly been asked since 9 May 2017, when the changes were announced in the Federal Budget.
Before we get into the nitty-gritty, let’s begin with a quick recap of Budget 2017 depreciation changes:
Property investors who acquire a second-hand residential property after 10 May 2017 that contain “previously used” depreciating assets will no longer be able to claim depreciation on those assets. Depreciating assets, in this case, refers to things like ovens, dishwashers or blinds.
As you already know, after the Budget 2017 tax changes, the rule book on depreciation changed massively.
The Federal Government successfully voted on new legislation to change how depreciation works, representing the most significant move in the industry that I’ve ever seen – and I’ve been a quantity surveyor for over 25 years!
The budget changes were effective as of 9 May 2017 at 7.30 pm, when the Federal Budget was handed down. As you can imagine, they have enormous implications for property investors and, more importantly, the property equation, which we’ll go into later.
So, what are the new property depreciation rules?
The best way to understand it is to break the changes down into nine simple vital points:
1. If you acquire a second-hand residential property from 10 May 2017, which contains ‘previously used’ depreciating assets, you will no longer be able to claim depreciation on those assets. This refers to the plant and equipment portion of a depreciation schedule, including:
• Lounge suites
• Common property plant and equipment items.
2. However, the building allowance tax deduction, or claims on the structure of the building, has not changed at all. You will still need a depreciation schedule to calculate these deductions, which typically accounts for 85 per cent of the overall construction cost. The structure includes things like brickwork and concrete, so there’s no change to that.
3. Acquirers of a brand new property will carry on claiming depreciation in the same way as they have done so to date – for both plant and equipment and structure. This is excellent news for the property industry because many developers rely on depreciation as part of their marketing strategy to attract investors. The Government resisted making changes to depreciation on brand new property because it did not want to halt construction, which would have impacted the supply of new property. A downturn in the construction industry would also have a knock-on effect – if tradies are out of work, they aren’t paying tax!
4. If you renovate a house while living in it, then sell the property to an investor, the plant and equipment assets will be deemed previously used, and the new owner will not be able to claim the renovations on tax. However, the new owner will still be able to claim deductions on the structural portion of the renovation.
5. The federal budget changes to depreciation laws do not apply if you buy the property in a corporate tax entity, super fund (note self-managed super funds do not apply here) or a large unit trust. In other words, you can still buy a second-hand property in a company name and claim depreciation on it. You can buy a second-hand property in a super fund – as long as it’s a large one – and a large trust can buy a property as long as it has 300 members
or more, and claim depreciation on that property.
6. The changes only relate to residential property. Commercial, industrial, retail and other non-residential properties are not affected, so you can still buy a second-hand office or similar and continue to claim the second-hand carpet, precisely as you could before. You can’t do this for residential property, as I’ve explained above.
7. If you engage a builder to build a brand-new house or do the work yourself and it remains an investment property, you will still be able to claim depreciation on both the structure and the plant and equipment items. This is because it’s brand new and was brand new when you installed that oven. Therefore, you can still claim it because the costs are known.
8. If you engage a builder to renovate a property – or you do the work yourself – and it is also being used as an investment property, you will still be able to claim depreciation on it when you have finished the renovations. As above, this is because the assets you install are brand new; therefore, you can still claim. But if you bought a property renovated by someone else and they lived in it for six months or a year and then sold it – you can’t claim depreciation on the oven or dishwasher in the future because they have now been previously used. See the difference?
9. While investors purchasing second-hand property can now no longer claim depreciation on the existing plant and equipment, they will have the benefit of paying less capital gains tax if they remove or dispose of an item. How? Well, when they replace or remove a plant & equipment asset, the opening value of the asset can be claimed as a capital loss.
The good news is that the new legislation is ‘grandfathered’. That means that for everyone out there with an existing rental property depreciation schedule, you can continue to claim exactly as you have been doing. So, if you bought a property before the budget – 9 May 2017 – nothing has changed. And if you have purchased an investment before this date and you don’t have a depreciation schedule, there’s never been a better time to get one! You might not get these allowances again.
One final point on grandfathering; if you bought a property before the budget and it is owner-occupied, and then you move out after 1 July 2017 – you will not be able to claim depreciation on the plant and equipment in that property.
Those items will be deemed to be previously used and caught in the net of the changing legislation – even though you acquired the property before the Budget 2017 depreciation changes. So, these changes are kind of ‘half grandfathered’ if you ask me.
You will, however, still be able to claim the building allowance in this scenario if the property was built after 1987.
So let’s start with some of the easy questions we’ve been asked.
- 1. Do these new rules apply to brand new investment properties as well?
- 2. How do these new changes affect purchasers of non-residential property like offices and industrial suites?
- 3. Can I still claim depreciation on things like the bricks, concrete & windows etc?
- 4. Can I still claim depreciation on plant and equipment items if I buy them and have them installed?
- 5. If I buy a property in a trust or company will I get around these laws?
- 6. What if I bought a property prior to the budget and lived in the property until now – can I claim the depreciation?
- 7. What happens If I inherit a property – can I claim the depreciation on the plant and equipment as well as the building?
- 8. What happens if I buy a unit that’s 3 months old where the developer has already found a tenant and is selling it “as new”. Can I claim both the plant and equipment and the building allowance?
- 9. Can I still claim depreciation on a property that I bought overseas?
- 10. What happens if I engage a builder to renovate my investment property can I still claim depreciation?
- 11. What happens when you sell the property that you bought after the 2017 budget?
- 12. Show me the numbers?! How much will these changes actually mean in terms of how much depreciation I will be able to claim moving forward?
- 13. Can I still claim depreciation on plant and equipment on my holiday home if I use it twice a year?
- 14. I have been asked this many times: “Tyron, what do you think about the changes?”
1. Do these new rules apply to brand new investment properties as well?
No, they don’t. If you buy a brand new property, you will be able to carry on claiming depreciation exactly the way you have done so to date. That means you can claim both the plant & equipment and the structure of the building. That is, unless you live in the property as an owner occupier at any time after its completion, this would then mean the plant and equipment assets are deemed ‘previously used’.
2. How do these new changes affect purchasers of non-residential property like offices and industrial suites?
The new depreciation rules only relate to residential rental property. Commercial, industrial, retail and other non-residential properties are not affected in the slightest.
3. Can I still claim depreciation on things like the bricks, concrete & windows etc?
Yes you can, provided the residential property was built after 1987 when the building allowance kicked in.
You will still need a depreciation schedule to calculate these deductions. This component typically represents approximately between 80 to 85 percent of the construction cost of a property.
Now would be an excellent time to get your depreciation report quote.
4. Can I still claim depreciation on plant and equipment items if I buy them and have them installed?
Yes, you can, provided they are brand new or from 2nds World or the like.
However, if you buy a second-hand item off Gumtree, for instance, you cannot claim the depreciation.
There is now no other depreciable asset class where this occurs.
The new laws state that the item cannot be “previously used” for you to claim the depreciation on it.
However, if you buy a “previously used” lounge off Gumtree and put it in your office – you can claim it.
5. If I buy a property in a trust or company, will I get around these changes to depreciation laws?
The Budget 2017 tax changes do not apply if you buy the property in a corporate tax entity, super fund (note Self-Managed Super Funds do not apply here) or a large unit trust.
This is interesting, and I suspect many more people will start buying properties in company tax structures.
6. What if I bought a property prior to the budget and lived in the property until now – can I claim the depreciation?
If you bought a property before the budget and it is owner-occupied, and then you move out after 1 July 2017 – you will not be able to claim depreciation on the plant and equipment in that property.
The property needed to be income producing in the 2016/17 financial year.
Those items will be deemed to be previously used and caught in the net of the new legislation – even though you acquired the property before the budget. So, these changes are kind of ‘half-grandfathered’, if you ask me. If you did buy an investment property before the budget, I recommend getting a quote for your depreciation schedule now more than ever.
7. What happens If I inherit a property – can I claim the depreciation on the plant and equipment as well as the building under the changes to depreciation law?
Well, you will undoubtedly be able to claim the depreciation on the residential structure of the building, provided it’s built after 1987. So there’s no change there – and this covers most properties.
Whilst there is no specific ruling on the plant and equipment, it seems that if you inherit a property with plant and equipment items contained within, they will be deemed to be “previously used”, and you won’t be able to claim them.
This would, in my opinion, even occur if the person you inherited the property from bought the property brand new.
As I mentioned, there is little guidance on this topic, so it might be best to check this with the ATO if this question is relevant to you.
8. What happens if I buy a unit that’s 3 months old where the developer has already found a tenant and is selling it “as new”. Can I claim both the plant and equipment and the building allowance?
In this case, the answer is yes. The new depreciation rules for rental properties allow a developer six months to find a tenant and sell it as a leased investment without nullifying the depreciation claim to the incoming buyer.
This was a late change to the legislation and occurred after industry consultation between the treasury department and the property industry (including myself).
9. Can I still claim depreciation on a property that I bought overseas under the changes to depreciation law?
The answer is yes, you can depreciate an overseas investment property, but there are a few key differences.
The first main difference is about claiming the building allowance. You’re entitled to claim 2.5 percent of these construction costs per annum with Australian properties, as long as the property was built after July 1985. The rate for overseas properties is the same – but the date is different.
Construction of an overseas property must have commenced after 22 August 1990.
So, if you want to maximise your depreciation benefits on an overseas property, look for a newer property built in the last decade or two.
The plant and equipment, such as carpets, ovens, lights, and blinds, can also be depreciated as they would be in an Australian investment property, but now they will have to be brand new or not previously used.
If you own an overseas investment property, start claiming the deductions, we do many reports worldwide.
10. What happens if I engage a builder to renovate my investment property can I still claim depreciation under the changes to depreciation laws?
In simple terms, yes – provided all the plant & equipment items that were installed were brand new. You will also be able to claim all the structural things installed, such as kitchen cupboards, tiling and windows.
11. What happens when you sell the property that you bought after the 2017 Budget?
The Budget statement words it like this: ‘Acquisitions of existing plant and equipment items will be reflected in the cost base for capital gains tax purposes for subsequent Investors.’
12. Show me the numbers?! How much will these changes actually mean in terms of how much depreciation I will be able to claim moving forward?
Well, to understand this – it’s best to examine three different scenarios:
An investor buys a brand new unit or house for $850,000.
As you can see from the above chart, the depreciation amount you can claim if you bought the same property pre-budget or post-budget hasn’t changed.
That’s because a brand new property is exempt from these changes.
An investor buys a residential house or unit for $850,000 that was built in the year 2000.
As you can see from the above, the available depreciation allowances have dramatically reduced in the early years.
Towards year 8, they level out and aren’t that different. This is because the pre-budget chart on the left-hand side still shows that you can claim the plant and equipment. Whereas the chart on the right-hand side shows how you can only claim the building allowance moving forward.
The key takeaway from this is: That the depreciation allowances on a second-hand property built after 1987 are affected most in the first five years. After that – there’s not much difference.
An investor buys a residential house or unit for $850,000 built before 1987 – that hasn’t been renovated.
Well, in this scenario, it’s all or nothing! Pre-budget we, as quantity surveyors, would visit a property, regardless of its age, and revalue the plant and equipment items like carpet, light fittings and air conditioners. In essence, it is starting the depreciation process again.
The Government wanted to stop this continual revaluation of plant & equipment, and the new legislation will achieve this.
As you can see from the chart above, if you buy a property built before 1987, there will be no claim if the property is still in its original state.
Why? Well, the plant & equipment will be deemed as previously used. Thus no claim applies, and to claim the building allowance; the property has to be built after 1987.
However, this is very rare, as most properties built before 1987 have had some renovation, whether a new bathroom or kitchen and those costs are claimable.
13. Can I still claim depreciation on plant and equipment on my holiday home if I use it twice a year?
This is the most significant grey area of all the legislative changes, in my view and one that will require further clarification moving forward.
The Government in the Housing Tax Bill Explanatory Memorandum states that if a property is used in an “incidental way” or “occasionally used”, your depreciation eligibility on the Plant & Equipment does not stop if you acquired the plant & equipment before The Budget in May 2017.
Incidental Use is described as:
“Use is incidental if it is minor in the context of the overall use and arises in connection with another non-incidental use – for example, staying at the property for one evening while carrying out maintenance activities would generally be incidental use.”
Occasionally Used is described as:
“Spending a weekend in a holiday home or allowing relatives to stay for one weekend in the holiday home free of charge that is usually used for rent would generally be occasional use.”
It’s a bit vague, isn’t it?
Does one week a year over Christmas nullify your claim? What about if you stay for Easter and Christmas?
What does this mean for all Airbnb landlords out there claiming depreciation but moving in when times are quiet but acquired the property before the budget? They went into that investment doing the maths on claiming the depreciation on a pro-rata basis based on the tax laws at the time?
Now, if they use the apartment for an unknown time, they may be disallowed the depreciation deduction.
Strangely, this Memorandum differs from the ATO’s website, which was updated on 15 December 2017, which indicates that “Gail and Craig”, who use their property for four weeks a year, can claim the depreciation? “Kelly and Dean” would appear to be OK as well!
Whilst the Memorandum doesn’t give a time frame, it indicates that a weekend is OK. I would have thought four weeks would’ve been stretching it?! Who knows – pick a number????
This is at a time when the ATO wants to target Airbnb hosts and pro-rata any capital gain tax exemption that may be applicable.
Hopefully, sense will prevail, and if the holiday home is clearly available for rent – like 11 months over the year – it’s still an investment property.
14. I have been asked this many times: “Tyron, what do you think about the changes?”
I agree that the constant revaluing of plant & equipment items on very old properties made no sense and needed refinement.
However, I think the government’s approach in disallowing depreciation on properties that are near new doesn’t make a lot of sense and could’ve been rolled out far more logically.
Finally, learn how to calculate depreciation on your investment property here.