There have been changes to the taxation legislation to limit deductions that can be claimed by property investors for holding vacant land.
These changes received royal assent on 28 October 2019 and apply to costs incurred to hold vacant land on or after 1 July 2019, even for land held before that date.
But since many investors are not aware of these I wanted to share the following information form the Australian Taxation Office website.
And while in general, you can no longer claim interest to other expenses for vacant land, some entities and taxpayers with particular circumstances will still be able to claim deductions for costs incurred in holding vacant land.
For example, where the entity holding the land is a company, the land is used in carrying on a business, or where exceptional circumstances apply.
Entities not affected by this change
You can continue to claim deductions for expenses incurred for holding vacant land if you are a:
- corporate tax entity
- superannuation plan (other than self-managed superannuation funds)
- managed investment trust
- public unit trust
- unit trust or partnership where all the members are entities on this list.
What is vacant land?
Land will be considered vacant during the period the entity held the land if:
- it did not contain a substantial and permanent structure
- it contains a substantial and permanent structure and the structure is a residential premises which was constructed or substantially renovated while the entity held the land and the premises are either
- not yet lawfully able to be occupied
- lawfully able to be occupied but not yet rented or made available for rent.
Example: Vacant land no substantial and permanent structure
Jess purchased a block of land in Brisbane in July 2018 and intends to build a rental property on it.
Jess engaged an architect to develop plans and erected some temporary fencing to stop illegal dumping.
As the land doesn't yet contain a substantial and permanent structure Jess can't claim deductions for the costs of holding the land.
Substantial and permanent structures
A substantial and permanent structure is a building or other structure constructed on the land that is:
- significant in size or value
- not incidental to the purpose of another structure or proposed structure on the land
- not related to, reliant on, or exist to support the use or function of another structure
- fixed and enduring (not built for a temporary purpose).
Structures that are substantial and permanent include:
- a commercial parking garage complex
- a woolshed for shearing and baling wool
- a grain silo
- a homestead on a farming property.
A structure is not substantial and permanent if it only has value as an addition to another structure.
Structures that are not substantial and permanent include:
- a residential garage or shed
- a letterbox
- pipes and powerlines
- residential landscaping.
Example: Residential premises with no permanent structure
Chelsy owns a residential block of land on which she intends to build a rental property.
Although the block of land is fenced and has a retaining wall, it doesn't yet contain any substantial and permanent structures.
This means the block is vacant land and Chelsy can't deduct any holding costs she may incur in relation to the land.
As the property is residential, property deductions will be limited until such time as the property contains residential premises that are both:
- lawfully able to be occupied
- rented or available for rent.
Substantial renovations
Substantial renovations of a building are renovations in which all or substantially all, of a building is removed or is replaced.
The renovations may, but do not have to, include the removal or replacement of foundations, external walls, interior supporting walls, floors, roof or staircases.
The term 'substantial renovations' is defined in section 195-1 of the GST Act.
Example: Substantial renovations
Mary-Anne, a builder, acquires a dilapidated bungalow that has three bedrooms and one bathroom.
Mary-Anne intends to renovate and rent the bungalow.
Mary-Anne adds an upstairs extension which creates a new bedroom and a bathroom.
As part of the extension, she replaces the roof of the bungalow and all ceilings on the lower level.
The renovations to the lower level include rewiring, repairing cracked walls by removing and replacing all the gyprock and cement rendering the exposed bricks in the combined family room and kitchen.
The installation of stairs necessitated the removal of two walls and replacement of the floor in two of the ground floor rooms.
Mary-Anne also does some cosmetic work by repainting, polishing floorboards, and replacing all the fittings in the kitchen and bathroom.
The work undertaken by Mary-Anne constitutes substantial renovations.
All of the rooms in the house are affected by the work and several of the rooms have undergone structural renovation work.
A substantial part of the bungalow is removed and replaced in undertaking the renovation work.
The cosmetic work has not been taken into account when deciding whether substantial renovations have occurred.
Mary-Anne must disregard the bungalow in determining whether there is a substantial and permanent structure on her land, as the bungalow is being substantially renovated.
Mary-Anne's land is considered vacant and she can't claim deductions for holding cost expenses incurred during the substantial renovations and until the renovated bungalow is rented or available for rent and lawfully able to be occupied.
Farmland not vacant land
In most circumstances, farmland won't be considered vacant land as it contains a variety of substantial and permanent structures.
Example: Farmland not vacant – substantial structure
The AB family trust holds a single title parcel of farmland on which two family members grow grain.
The land contains a number of silos used to store the grain.
Expenses related to holding the land such as interest costs and council rates are not affected by this measure because the land is not vacant as there is a substantial permanent structure on that land (the silos).
Example: Farmland not vacant – family homestead
John and Mary have a large parcel of farmland.
The land contains a homestead that has been on the land for more than a century and is the family home.
John and Mary are not affected by this change as the land is not vacant; the land contains a substantial structure (the homestead).
John and Mary's ability to claim deductions for their holding cost expenses will depend on whether any of the land is also being used to generate assessable income.
Costs of holding vacant land
The costs involved in holding vacant land include:
- ongoing borrowing costs, including interest payments on money borrowed for the acquisition of land
- land taxes
- council rates
- maintenance costs.
Claiming deductions for vacant land
For expenses of holding land to be deductible, they must have been incurred in carrying on a business such as farming or gaining or producing assessable income.
These changes operate to limit the deductions that would otherwise be deductible where the land is vacant.
Use the determination questions to help you determine if your deductions for expenses related to your vacant land are limited.
To claim deductions for vacant land the land must also meet one of the following:
- be held by a type of entity not affected by the change
- be used in a business
- be held by a primary producer and leased by other entities.
Land containing substantial and permanent buildings or other structures
Land containing a substantial and permanent structure will not be considered vacant land.
However, if the substantial and permanent structure is residential premises constructed or substantially renovated while you held the land the premises must also be lawfully able to be occupied and either:
- leased, hired or licensed
- available for lease, hire or license or
- where an exceptional circumstances exemption applies.
Example: Rental property constructed on vacant land – apportionment of expenses
In January 2019, Kylie purchased a block of land in Yass to build a property for rent.
In October as construction nears completion Kylie advertised for a tenant, and on 30 November 2019 she receives the certificate of occupancy.
Kylie can't claim deductions for expenses incurred before 30 November 2019.
Where the expenses are for a period that applies before and after the property is ready for use, the expense can be apportioned, and a deduction claimed for the period that the property is available for use.
For example, Kylie's council rates for the year ended 30 June 2020 are $2,000.
Kylie apportions the council rates according to when the property became available for use.
Holding expense × portion of year property was available = deductible amount
Kylie can claim a deduction against her rental income of:
$2000 × (214 ÷ 366) = $1169
Kylie would also be able to claim a deduction for expenses incurred for advertising for a tenant as this is not considered a cost of holding vacant land.
Determine if deductions for vacant land are limited
You can use the either the flow chart or the questions below to determine if your deductions for expenses related to your vacant land are limited.
- Is the land held by an entity not affected by the change?
Yes – your deductions are not limited
No – continue to question 2 - Is the land used (or available for use) in a business carried on for the purpose of gaining or producing assessable income by you, your affiliate, or an entity of which you are an affiliate, your spouse, or any of your children (under 18 years of age) or an entity connected with you?
Yes – your deductions are not limited
No – continue to question 3 - Is the land leased at arms-length to another entity and used or available for use in a business and it doesn't contain residential premises or such premises are not being constructed on it?
Yes – your deductions are not limited
No – continue to question 4 - Is the land leased to another entity and you or an entity connected with you are carrying on a primary production business and the land doesn't contain residential premises or such premises are not being constructed on it?
Yes – your deductions are not limited
No – continue to question 5 - Is there a substantial and permanent structure on the land which is used or available for use and has a purpose independent of, and not incidental to another structure?
Yes – continue to question 6
No – continue to question 8 - Is the substantial and permanent structure residential premises constructed, or substantially renovated, while you held the land?
Yes – continue to question 7
No – your deductions are not limited - Are the residential premises lawfully able to be occupied; and either
- leased, hired or licensed; or
- available for lease, hire or licence?
Yes – your deductions are not limited
No – continue to question 8
- Did exceptional circumstances occur that led to a substantial and permanent structure no longer being on the land or used or available for use?
Yes – continue to question 9
No – your deductions will be limited - Did the exceptional circumstance occur three or more years ago?
Yes – continue to question 10
No – your deductions are not limited - Have you received an extension of time from the Commissioner?
Yes – your deductions are not limited
No – your deductions will be limited.
Land used in business
If the vacant land is used in business, deductions for holding costs for the land are not affected by these changes if either:
- the land is used or available for use in carrying on a business to produce assessable income of:
- you
- your affiliates or an entity of which you are an affiliate
- your spouse or child (under 18)
- an entity connected with you
- the land is leased at arm's length to another entity and
- the land is used or available for use in their business and
- the land does not contain residential premises and no such premises are being constructed on the land.
If only part of your vacant land is used in carrying on your business (for example, because the other part of the land is used to construct residential premises), you can only deduct the costs of holding the land that is being used or made available for use in the business.
You can't deduct the holding costs for that part of the land relating to the construction of residential premises.
The deductions should be apportioned on a fair and reasonable basis.
Example: Land used in business – residential rental property being constructed
Howard owns one hectare of land in Queensland.
He uses one third of the land for carrying on his firewood sales business.
He stores all his firewood in the open and there are no structures on the land.
Howard has separately fenced off the remainder of the land and has started earthworks to clear the land ready for construction of a rental property.
Howard is eligible to claim losses and outgoings relating to holding the part of the land that he uses for carrying on his firewood business.
Howard is not entitled to claim any deductions relating to the costs of holding the land ready for construction of a rental property.
This is because that land is to be used for residential premises which have not yet been constructed.
Land held by primary producers
Deductions for land used by you in a business of primary production are not affected by these changes.
In addition, if you hold vacant land that is leased, hired or licensed to another entity, deductions can continue to be claimed where:
- a primary production business is carried on by:
- you
- your affiliates or an entity of which you are an affiliate either by
- your spouse or child (under 18)
- an entity connected with you
- residential premises are not on the land or being constructed on the land.
If residential premises are being constructed on vacant land being used to carry on a primary production business, you can only claim a deduction for the costs of holding the land that is being used for primary production and not for that part of the land relating to the construction of residential premises.
The deductions should be apportioned on a fair and reasonable basis.
You need to consider various indicators before you decide if you are in a business of primary production.
For a comprehensive explanation of the relevant indicators together with examples of the application of the indicators, see – Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production?
Example: Primary production exception
Gina owns vacant land in New South Wales which she rents to her spouse Robin for use in his primary production business.
Robin, as Gina’s spouse, satisfies the related parties condition (spouses, children under 18 years old, affiliates and connected entities) that allows Gina to deduct her costs of holding the land.
This is because Robin is carrying on a primary production business on the land to gain or produce assessable income.
Example: Farming land in a trust
Allan used to run a farming business on land held in the Allan Family Trust.
To supplement Allan’s retirement income, the Allan Family Trust rents a now vacant block of land (no structures or fencing) to a connected entity run by Allan’s brother so it can be used in the connected entity’s cropping business.
The Allan Family Trust will be able to claim holding costs for the land even though it is completely vacant because it is being used in carrying on the cropping business of the connected entity.
Example: Fencing on farmland a substantial and permanent structure
Paul is a sheep farmer. He has a block of land that he uses for grazing.
The land does not contain any sheds or silos however, it is fully fenced and gated.
Paul can claim deductions for the holding costs of the land because the land is being used as farmland and in the context of the land fencing is considered a substantial and permanent structure with an independent purpose as it enables the land to be used for sheep grazing.
Exceptional circumstances exemption
Deductions for holding costs of vacant land can still be claimed if the exceptional circumstances exemption applies.
The exemption may apply where an exceptional circumstance outside your control occurs that results in the substantial and permanent structure no longer being on your land or the structure being disregarded.
Exceptional circumstances include:
- a natural disaster
- a major building fire
- substantial building defects (where the structure can no longer be lawfully occupied).
For the exemption to apply there must have been a substantial and permanent structure on the land prior to the time that the exceptional circumstance occurred.
If the substantial and permanent structure was residential premises, then the residence must have been lawfully able to be occupied and have been either rented or available for rent prior to the exceptional circumstance.
The exceptional circumstances exemption can apply even if the event that rendered the land vacant occurred before 1 July 2019 and the land is still vacant.
If before 1 July 2019 you were claiming deductions for vacant land, you will need to determine whether these changes now limit your deductions.
If your land remains vacant (for example, because of delays in constructing a rental property due to financial hardship) you may not be able to claim deductions after 1 July 2019.
Three-year exceptional circumstances limit
There is a limit of three years from the date of the exceptional circumstance to continue to claim deductions using this exception.
Requesting an extension of time to the three year limit
You can apply to the Commissioner for an extension to the three year limit where the failure to rebuild is for reasons beyond your control.
A range of factors will be taken into account when considering an extension, including the length of time the land has been vacant and the steps taken to rebuild.
Some of examples of delays beyond your control include:
- delays in council or local government approval
- your builder has ceased trading or gone into liquidation
- legal disputes.
We may refuse a request for an extension where either:
- you have not made a genuine attempt to rebuild
- the land is for sale.
To request an extension to the three year limit you will need to apply for a private binding ruling clearly stating:
- the exceptional circumstance that resulted in the land becoming vacant
- when the exceptional circumstance occurred (for example, when the premises were destroyed)
- the steps taken to rebuild
- why the exceptional circumstances exception should be extended for a period beyond three years.
Record keeping for exceptional circumstances
If you are applying the exceptional circumstances exemption you must keep written records of the exceptional circumstance and its effect on the structure for five years after the end of the income year in which the cost was incurred.
Example: Exceptional circumstances major building fire
Isaac had a rental property in Sydney that he had been renting out since 2010.
In March 2019 a fire gutted the house and the entire structure was destroyed.
As a major building fire is considered an exceptional circumstance, Isaac can continue claiming deductions for holding the land, including his interest costs even though there is no substantial and permanent structure on the land.
Isaac will be able continue to claim deductions using the exemption until the property becomes available for rent, or for three years from the time the building was destroyed.
If the property is still unavailable for rent after three years he can apply to the Commissioner of Taxation for an extension.
Isaac must provide the Commissioner with the reasons why his premises are not rented or available for rent, and the steps he has taken to rectify the problem.
If the Commissioner grants the extension, Isaac will be able to continue to claim deductions for his holding costs.
Isaac should keep records about why his property is unavailable for rent to substantiate his claim.
Substantial building defects
If you rented out or had an apartment available for rent in a multi-unit development that was found to have significant building faults and deemed uninhabitable you are not likely to be affected by the changes as there is still a substantial structure on the land or the exceptional circumstances exemption could apply.
Capital gains tax (CGT)
Under the existing CGT law holding costs that are not deductible may be included in the cost base of the asset to reduce the amount of the capital gain that arises when a CGT event occurs.
The types of expenses that may be included in the cost base are those that are ordinarily included in the asset's cost base, such as:
- interest expenses
- rates
- stamp duty or other similar duty.
Note: This is not Financial or Taxation Advice, but was sourced from The Australian Taxation Office. As a property investor you need to consider your tax obligations, including income tax, capital gains tax (CGT) and goods and services tax (GST) when dealing in property or land. Find out more at the ATO Website
