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How does owning an investment property affect taxes? - featured image
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How does owning an investment property affect taxes?

key takeaways

Key takeaways

Owning an investment property can see you paying a number of unforeseen bills each month.

The expenses involved in owning an investment property help you pay less tax.

As an investment property owner of around 15 years, I’ve been hit with just about every property tax and expense that you can think of.

Hot water systems suddenly stop working.

Air-conditioning units and dishwashers that no longer turn on.

I once received a sky-high water bill that prompted me to do some digging - it revealed a deep, buried water leak that cost several thousand dollars to locate and repair.

And there was a time a leak from our unit into the property below turned out to be a waterproofing issue, which wasn’t covered by insurance, and cost $10,000 to repair.

The bottom line is that owning an investment property can see you paying a number of unforeseen bills each month.

But, while this might be true, if you buy the right type of quality property in the right location, it can also help you grow your wealth.

And as an added incentive, the expenses involved in owning an investment property help you pay less tax.

Specificity of income tax on investment property

The majority of the costs associated with owning a rental property can be deducted against your regular income tax bill, which reduces the amount of tax you pay overall.

For example,

Let’s say you earn $80,000 a year and in total, you spend $25,000 paying for your investment property, but you receive $20,000 in rental income.

The $5,000 difference between the money you receive in rental income ($20,000) and the money you spend paying for the property ($25,000) is tax-deductible.

That’s $5,000 worth of expenses you can claim against your regular income tax.

That means that the Australian Taxation Office (ATO) would assess your tax as if you’d earned $75,000 instead of $80,000.

So, every week or fortnight, or month, you’ll pay tax as if you earn $80,000, but then when it’s time to file your tax return, you’ll get a refund of any tax paid on the $5,000 difference.

According to current tax rates, that’s around $1,625 back in your pocket.

Not only that, but you can also usually make a claim each year for depreciation, which is an allowance for the wear and tear of the property over time.

Top 15 tax deductions for investment properties in Australia

So what kinds of expenses can you claim when you own an investment property?

The costs can add up pretty quickly, but the upside to shelling out for ongoing maintenance, repairs, and mortgage interest is that the list of expenses you can claim on your tax return is longer than a supermarket receipt.

The following list will help ensure you don’t miss anything.

1. The cost of advertising and marketing for new tenants

Your property manager will charge you for marketing your property or for advertising it for lease.

If you or your agent market your property using online, print media, brochures, and signs, you can claim these advertising expenses against your income in the same year that you paid for them.

2. Loan interest and bank fees

If you have a principal and interest loan against your investment property, while you can't deduct the principal repayments, you can claim a tax deduction for any interest accrued on your regular repayments as an investment expense.

Interest-only loans are a popular option among investors since they allow them to deduct their full repayments for a period before the loan reverts to both principal and interest repayments.

3. Body corporate fees and charges (not including special levies)

If your property is on a strata title, you can claim the cost of body corporate fees.

These often include common area maintenance and garden expenses, as well as building public liability and insurance.

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4. Building, contents, landlords, and public liability insurance

If you have insurance on your investment property (building insurance, contents insurance, landlord insurance, or public liability insurance) you can claim the cost in your tax return.

Landlord insurance typically covers tenant-related risks such as damage to the contents and building, or loss of rental income.

5. Council rates

Council rates can be deducted in the year that they are paid, although you can only claim them during periods in which the house was rented.

For example, if your investment property was only rented for 219 days of the year, then you can only claim your rates for that period.

This means you would claim 60% (219/365) of the total amount you paid in council rates for your investment property that year.

6. Property management fees

A great real estate agent or property manager helps you achieve the best results from your investment property, with the added bonus of any fees charged being tax-deductible.

The fees of any other expert including a valuer, depreciation expert, accountant, landscape designer, or interior designer are also tax-deductible.

7. Depreciation, relating to the wear and tear of the building and its contents

To claim depreciation you’ll need to get a depreciation schedule prepared at a cost of around $600-$700 (this fee is tax-deductible too).

According to the ATO, a depreciating asset is "an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is in use".

Examples of assets that deductions for decline in value can be applied to include:

  • timber flooring
  • carpets
  • curtains
  • appliances like a washing machine or fridge
  • furniture

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8. Negative gearing

Negative gearing is a tax strategy that Australians have been using for many years (if not decades) to make the prospect of owning investment properties more manageable and more profitable.

In simple terms, negative gearing takes place when you own an asset, in this case, property, that costs you more than you are earning from it.

For example, the interest you are paying on your mortgage and all other associated costs with the property, equal more than the income or rent you earn from that property.

As a result, you are making a financial loss and you can claim this as a tax deduction.

9. Gardening expenses

Property owners can claim the upkeep and replacement of plants and structures as an immediate deduction.

However, you can’t immediately claim the cost of any new plants or changes that add extra value to the property, as these are deemed as “improvements”.

10. Land tax

If the dwelling on your investment property is rented out, you can claim land tax as a deduction.

Some state governments offered land tax discounts for landlords who provided rent relief for their tenants impacted by Covid-19.

11. Utility fees (where it’s not paid by the tenant)

You are able to claim the basic costs for any electricity, gas, or water supply fees that you pay during tenancies.

Usually, this is all paid by the tenant, but this is helpful in the case where there is a gap between tenancies - in this case, supply charges and any usage charges incurred between tenants can be legitimately deducted from any income.

12. Pest control

Professional pest control costs are tax-deductible and you or your tenant can claim this expense depending on who paid for it.

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13. Repairs and maintenance

Repairs and maintenance can be claimed as a tax deduction in the same income year if the repairs are a result of wear and tear, like fixing a broken appliance or repairing storm or flood damage.

However, the difference between repairs and improvements can be confusing for property investors.

If you improve the property this is not the sort of expense you can write off immediately.

A repair replaces a part of something or corrects something that’s already there and has become worn out or dilapidated.

On the other hand, an improvement makes something better than it was originally.

Generally, an improvement makes something function more efficiently than it used to and will increase a property’s market value or extend its income-producing potential.

To better understand the different tax implications please read this article.

14. Some legal costs and lease document preparation expenses

If you have to hire legal professionals for something related to the tenant, such as eviction or an unpaid lease, you can claim this as a tax deduction.

However, you can’t claim the legal fees for initially buying the property – these are called capital costs.

15. Capital gains discount

If you make a capital gain on the sale of your investment property, you need to pay tax on this profit - called Capital Gains Tax (CGT).

If you bought and sold your property within 12 months, your net capital gain is simply added to your taxable income, which, in turn, increases the amount of income tax you pay.

However, if you held onto the property for more than a year before selling it, you’re eligible for a capital gains discount of 50%, which means you only need to incorporate half of the capital gain into your personal tax return.

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What you CAN’T claim on your tax

I’ve highlighted what you can claim on an investment property – but what about the costs that are not tax-deductible?

According to the ATO, some of the property costs you can’t claim at tax time include the following:

  • Stamp duty is charged by your state or territory government when you purchase the property – this is a capital expense.
  • Legal expenses, including solicitors' and conveyancers' fees for the purchase of the property – again, this is a capital expense.
  • Renovation expenses. Repairs are allowable deductions, while renovations are capital expenses. Think of it this way: repairing one broken kitchen cabinet is tax-deductible. Replacing all of the kitchen cabinets with new ones is not.
  • Borrowing expenses on any part of the loan you use for private purposes. For instance, if you refinance your investment property loan and use $20k of your equity to renovate your own personal kitchen, the interest on that loan is not tax-deductible. This can be really tricky to manage and track, so it’s a good idea to keep your private and investment-related loans separate wherever possible!

What is a capital expense and can you claim it at tax time?

You may be wondering what a “capital expense” is?

Well, when you consider all the expenses involved in owning your investment property, tax benefits don’t just include immediate tax deductions.

There are also expenses that can be claimed as capital expenses.

When it comes to stamp duty, you can’t claim a tax deduction for this expense.

But it will form part of the cost base of the property for CGT purposes when you sell the property.

If you paid a stamp duty of $20,000 on a property purchase price of $500,000, then when it’s time to sell your investment property, the ATO would treat the purchase as if it cost you $520,000.

As for your other capital expenses, depending on the value, you may be entitled to claim them over a period of 5 years from the date you took out the loan for the property.

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For example, you may be able to claim legal fees that set you back $400 at a rate of $80 per year for 5 years.

This is a rough calculation since your exact claim depends on the date you took out your loan versus how many days are left in the financial year.

As you can see, the way the ATO treats tax deductions when you’re preparing your investment property tax return is not exactly straightforward!

There are a number of different, subtle yet important rules and guidelines that govern what you can and can’t claim.

It’s a good idea to book in with an accountant to help you prepare your tax return, so you can take advantage of every possible tax deduction.

There’s no need to pay more tax than you need to – and, best of all, your accountant’s fees will also be tax-deductible.

About Sarah Megginson is senior editor of home loans for Finder. She was previously managing editor of Australian Broker magazine, Your Investment Property magazine, and online home loan comparison site, Your Mortgage. Sarah has worked as a finance and property journalist for more than 15 years.
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