Capital works deductions and CGT
You can deduct certain expenses associated with your rental property. You can claim a deduction for the cost of advertising for tenants, rates and taxes, insurance etc. in the income year these expenses incurred. Other expenses are claimed over a number of years, such as the decline in value of carpet, furniture and appliances, and certain construction expenditure.
The construction cost of:
extensions, such as a garage or patio
alterations, such as adding an internal wall, kitchen renovations or bathroom makeovers and
structural improvements – eg. a gazebo, carport, sealed driveway, retaining wall or fence are usually deductible at the rate of 2.5% per year in the 40 years after construction is completed. These are referred to as capital works deductions.
You need to be aware of capital gains tax on an investment property. When working out a capital gain or capital loss from a rental property, the cost base and reduced cost base of the property may need to be reduced to the extent that it includes construction expenditure for which you have claimed or can claim a capital works deduction. It means that capital works deductions increase your capital gains amount and, consequently, capital gains tax liability.
For example, you have acquired a rental property on 1 July 1998 for $100,000 and then sell it for $250,000 on 30 June 2014. Simply, the capital gain is $150,000. But if you have claimed $10,000 in capital works deductions during your ownership period, you have to reduce the cost base by that amount. It brings the capital gain to $160,000.
In certain circumstances the ATO will accept that you are not required to reduce the cost base or the reduced cost base. For example, if you omitted to claim capital works deductions and the amendment period for claiming these deductions has expired or you don’t have sufficient information to determine the amount of construction expenditure. The latter could occur when the previous owner of your rental property failed to provide you with the information you would need to calculate the deductions.
Familiarising yourself with CGT on your rental property is important even if you have no intention of selling it. Our tax accountants at The Quinn Group can provide specialised advice on CGT and how to legally minimise your capital gain. Submit an online enquiry here or call 02 9223 9166 to organise an appointment.