Did you know that 70% of investors in Australia don’t buy a tax depreciation schedule for their investment properties?
Depreciation schedules are one of the most effective but underused tools available to a property investor to maximise their returns. When you think about the fact that depreciation is the second-highest tax deduction on your property after interest on your loan, it’s unbelievable how much investors are leaving on the table.
But what is a depreciation schedule exactly? And how can you benefit from it?
We’ll break down everything you need to know about tax depreciation schedules so that you can maximise the tax benefits available to you through your investment property.
What Is Tax Depreciation?
Before delving into what is a tax depreciation schedule is, it’s important to understand property tax depreciation. Depreciation is a non-cash deduction that allows you to claim a portion of the cost of your property over its useful life. To claim depreciation, you need to order a depreciation schedule from a quantity surveyor.
As a building gets older, its structure and the assets within the building are subject to general wear and tear. In other words, each year, the value decreases and thus, depreciates.
The Australian Tax Office (ATO) allows property investors, who generate income from their investment property, to claim the property depreciation as a tax deduction.
Put simply; depreciation is the decrease in an asset’s value over time due to natural wear and tear. Property depreciation can provide a significant tax benefit for investors, as the Australian Taxation Office (ATO) effectively allows you to offset the cost of this wear and tear against rental income.
What sets a depreciation claim apart from other rental expense tax deductions for your investment property is that it is a non-cash deduction – you don’t have to spend any money to claim it.
The structural component of a building usually depreciates at a fixed rate over a long period of time—usually 40 years. In contrast, plant and equipment assets depreciate according to their effective lives as they generally wear down faster than the building itself.
There are two main types of property depreciation: capital works deductions (Division 43) and plant and equipment (Division 40) deductions. Investors can claim a capital works deduction for the building itself, as well as plant and equipment depreciation deductions for assets within the building, such as furniture, fittings, and appliances.
Division 43 – Capital Works Deductions
Division 43 Deductions refer to the depreciation of the structure of the building. The structure of a residential building, if constructed after September 1987, generally has an effective life of 40 years. You can claim a capital works deduction on construction costs, too.
Division 40 – Plant and Equipment
The term “plant and equipment” refers to the fixtures and fittings that are found within the building. Plant and equipment depreciation on these easily removable assets includes items such as carpets and air conditioning units.
What Are Tax Depreciation Schedules, and How Can They Change Your Tax Return?
Simply put, depreciation schedules are reports detailing the tax depreciation deductions you can claim on your investment property. Claiming these tax-deductible expenses involves identifying the value of an investment property, what you estimate construction costs to be, and all its fittings and fixtures.
The purpose of a tax depreciation schedule is to outline the value of both your Division 40 and Division 43 assets as well as how much it has depreciated and will depreciate. This will give you a clear idea of how much you can claim for tax depreciation.
A tax depreciation schedule provides a breakdown of the depreciation deductions you can claim for an investment property and eligible plant and equipment assets. It includes the original value, the estimated effective life, and the depreciation rate for both the structural components and the plant and equipment assets.
Example
In February 2020, Noel purchased his first investment property for $375,000 and immediately rented it out. Based on the tax depreciation schedule he obtained from the quantity surveyors at Duo Tax, the construction of his property commenced in March 2003 and was completed in November 2003. The cost of construction was estimated to be $225,000.
The property depreciation schedule outlines that Noel can claim a capital works deduction at a depreciation rate of 2.5% per annum, as the construction of his investment property commenced after 15 September 1987.
In his first year of owning the property, Noel was only able to rent out the property from 1 February 2020 to 30 April 2020, so he can claim a deduction for 90 days:
($225,000 x 2.5%) x (90 days of 366 days in 2020) = $1383.20.
Thus, Noel can claim a capital works deduction of $1383.20 in his 2019-2020 tax return.
As the property was built in 2003, Noel’s tax depreciation report will highlight the capital works deductions he can claim until 2043, provided that he still owns the investment property and it’s being used to produce income.
The tax depreciation schedule report also charts the loss in value of his plant and equipment assets, such as his air-conditioning unit, over its effective life. So, Noel can claim tax deductions for these assets too.
What Does a Tax Depreciation Schedule Include?
Based on Noel’s example above, a tax depreciation schedule generally includes the following components:
- an introduction to the schedule with a glossary of terms to help you better understand how the schedule works for depreciation purposes,
- a detailed 40-year estimate showing all Division 43 (capital works) depreciable items,
- Examples of both the prime cost and diminishing value methods of depreciation to help you decide which method is best for your individual circumstances,
- the effective life and prescribe depression rate for all Division 40 (plant and equipment) assets, and
- a breakdown of the assets that belong to low-value pools as well as those that qualified for an instant-asset write-off.
Do I Need a Depreciation Schedule Every Year?
A single tax depreciation schedule covers a specific investment property and is valid for up to 40 years, which means you can claim tax deductions each year with the same report. When you purchase another investment property, you will need a separate depreciation schedule for that investment property.
However, if you are looking to sell your investment property, then you will need to have a property valuation carried out by a quantity surveyor to calculate capital gains tax
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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