Property values, as history demonstrates always increase over time. Indeed, through all financial crises and economic difficulties Australia has faced. The one thing constant that has continued to yield returns is property investment. If you’re not investing in property, you are seriously missing out. Many Australians have become financially independent by investing in real estate and the process of building a property portfolio has important consequences for investors including:
- Achieving high capital growth to build a solid asset base
- Secure income, which increases over time (helping you pay the mortgage)
- Significant tax advantages
With proper research and smart property management, you can create a passive income and build sustainable wealth. This is why property investment is the surest way to create wealth.
Investing in property offers plenty of tax benefits, too. You can have tax deductions on your loan interest, property taxes, insurance, and more. Effective property tax planning ensures you get the full benefits and all the deductions you are entitled to. Buying a rental property is an exciting investment, but to make the most of it, you also need to understand how to maximise the tax benefits.
And while terms such as ‘negative gearing’ and ‘capital gains exemption’ may seem complicated, it is important to take the time to do the research and see how this can be applied to your property. You may just discover some deductibles you have overlooked.
- How can you reduce your CGT liability?
Capital gain is the difference between what you paid for an asset (plus fees incurred during the purchase) and what you sold it for (less fees incurred during the sale). Capital gains tax (CGT) is the tax you pay on the capital gain made from the sale of that asset. It applies to property, shares, leases, goodwill, licences, foreign currency, contractual rights, and personal use assets purchased for more than $10,000.
No CGT applies if the property sold is a person’s main residence, i.e. their primary home.
Main Residence Exemption
If the property you are selling is your main residence, there is no CGT. However, this exemption may not fully apply if your residence has been used to produce income. In this case, a portion of the capital gain will be taxable.
6 Year Exemption Rule
The capital gains tax property six-year rule allows you to use your property investment, as if it was your principal place of residence, for a period of up to six years, whilst you rent it out. This means that you would be able to sell the property within the six-year period and be exempt from paying capital gains tax.
Timing Capital Gain
A simple strategy to reduce CGT is to consider the timing of when you make a capital gain or loss. If you know your income will be lower in the next financial year, you can choose to delay selling until then, so that your lower marginal tax rate results in you paying less CGT.
- Keep accurate records of expenses to maximise deductions
The ATO will require of your expenses. Verbal assurances nor pictures of a newly mown lawns to prove that you have indeed incurred expenses for lawn mowing, for example, will not fly.
Keep your receipts, contracts and other supporting documents to claim all your deductions without problems. All records pertaining to your property maintenance must be kept for at least five years.
If you decide to dispose of your property investment, insurance, rates notices, settlement letters, stamp duty receipts, legal costs receipts, purchase contract, and all other expenses incurred right from the beginning should be kept at least five years after the property was sold.
- Prepay Interest
If your income is likely to place you in the next income tax bracket, as a result of a pay increase and you have fixed rate loans, consider paying the interest for 12 months in advance. This will allow you to claim deductions in the same income year you are lodging your tax return. You are only permitted to do this once only.
- Hold the property for 12 months or longer
When a property is sold and a capital gain is made, a 50% discount on the capital gain for individual Australian residents is allowed, so long as the property is owned for 12 months or more. As an individual, your CGT forms part of your income tax so your personal tax rate will become a factor in your total tax liabilities. Capital gains tax is not considered as a separate tax for individuals even though it’s still referred to as CGT.
- Make personal deductible superannuation contributions
If you make an after-tax super contribution, you can claim a tax deduction and reduce your taxable income. Personal deductible contributions are taxed at 15% rate instead of the marginal tax rate of up to a maximum of 47%.
Employed, self-employed, and individuals earning taxable income from other sources like property investments can make personal deductible contributions.
- Claim depreciation deductions
Claim deductions for depreciating assets and make sure you have a depreciation schedule.
Depreciation helps you make money without spending anything, yet many investors fail to claim it. It’s a non-cash deduction that can be a valuable tool for investors creating wealth because it allows you to get tax deductions and claim the wear and tear of a building without spending any money.
- Avoid CGT by refinancing and investing equity in a new property
Consider refinancing your property instead of selling it to avoid a CGT event. You can refinance and buy a new property instead with your equity. This strategy means you’ll be able to avoid paying CGT until you finally sell the property.
Refinance and access the equity you have in your property and use that money for a new investment.
It’s best to have your property revalued first before you approach your lender. Your new loan will be based on the new value of your property and since your Loan-to-Value Ratio (LVR), or the amount of your loan compared to the value of your property would be much lower, you would be able to borrow additional money. You can use the additional money to finance a new property investment. Not only will you have a new investment with this strategy, you’ll also be able to avoid CGT. Just make sure that when you refinance, it’s kept as a separate loan so you don’t complicate interest deductions for each.
- Apply for PAYG Variation
Ask the ATO for a PAYG withholding variation every year. Deductions for expenses related to owning an investment property can be received throughout the year instead of at the end of the financial year using the PAYG withholding variation.
This strategy allows you to receive and use your tax breaks earlier so you can use them for property repairs, improvements, etc. A PAYG withholding variation can be a big help for property investors to have a regular cash flow.
- Purchase a property in the name of person with a lower tax rate
For couples and people in partnership or other relationships, consider purchasing the property in the name of the person with the lower tax rate. You pay capital gains tax based on your personal tax rate. Thus, having the property held in the name of a person with a lower tax rate will effectively lower your CGT.
- General Tax Benefits
Investing in real estate also grants you several tax benefits.
Common tax deductions you can claim includes:
- Interest on the money you have borrowed for your investment property
- Tenancy costs – the costs of advertising your property and any letting fees paid to property managers
- Repairs and maintenance costs are usually tax deductible in the tax year they are incurred. There is a distinction between repairs and maintenance expenditure, which can be described as restoring an item to its previous condition or standard, and the cost of capital works which result in an improvement in condition, such as a kitchen renovation.
- Depreciating assets – Depreciation can be summed up as a write off of the cost of an asset over its estimated economic life which can allow investors to claim a deduction on the amount of tax payable
- Holding costs – this is money you spend on owning a property and include body corporate fees, gardening costs, building and contents insurance and pest control. These costs are generally tax deductible.
How can we help?
If you have any questions or would like further information or you are seeking property tax advice, please feel free to contact our office via email –info@investplusaccounting.com.au or phone 02 9299 7000 to either speak with someone or arrange a time for a meeting so we can discuss your requirements in more detail. You can arrange a free 15 minute no obligation chat to discuss your options. Please arrange an appointment with our office by clicking here
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Before making an investment decision based on this advice you should consider, with or without the assistance of a securities adviser, whether it is appropriate to your particular investment needs, objectives and financial circumstances. In addition, the examples provided on this page and on this website are for illustrative purposes only.
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