Depreciation methods for investment properties
There are two methods allowed by the ATO, that you can use when claiming depreciation on fixtures and fittings within your investment properties. The first is diminishing value, and the second is the prime cost method. You may only choose one of these when claiming for fixtures and fittings, and each method affects your cash flow in term of the tax refund you may receive. Below are the differences and considerations to help you decide which one is best for you.
Both methods are similar in the fact that they both claim total depreciation value available over the life of the property. The difference between the two is the formulas used to calculate depreciation deductions, allowing the investor to achieve different short and long term goals.
Recommended Depreciation Methods
Diminishing Value Method
The formula in the diminishing value method allows you to increase the rate that the property depreciates at, hence increasing the deductions at the start of the claim period. This method calculates the depreciation based upon the reduced written down value remaining, so the deduction diminishes over time.
Prime Cost Method
The prime cost method uses a lower percentage rate of depreciation, which results in a consistent deduction per year. This spreads the deductions out evenly over time.
If you decide to go with the diminishing value method, the property will depreciate a lot in the first 5 years, then only a little over the next 6-15 years. This means more money in your pocket in the early years and then less from 6 years onwards. If you are only planning on holding your investment property for a short period of time, wish to build your investment portfolio quickly or want to save quickly for a renovation to the property, this method would be best for you.
The prime cost method however, means that the property will depreciate evenly over the 15 year period. This means your cash flow is initially less than the previous method, but it spreads evenly over the years, creating a more stable cash flow. If you are planning on keeping the investment for a longer period of time and prefer to claim deductions at a constant rate, then this method would best suit your situation.
Remember to be careful when choosing which method to use when calculating depreciation as it cannot be changed. Consider all aspects of the investment on your cash flow goals before making a decision.