The way the taxation system works in Australia means that no taxation is normally due on the increasing value of your assets.
You only pay tax on the capital gain (increase in value) when you sell.
If the asset was purchased to hold and you kept it for over 12 months, there is a 50% General Capital Gains Tax (CGT) discount.
If you buy with the intention to sell however, the profit is taxed at your full marginal tax rate irrespective of how long you retained the asset.
A lot of people believe the only way to get your hands on any increased asset value is to sell but, by doing so many taxes and costs are triggered including:
- Income tax
- Selling expenses
- On your next purchase – stamp duty, legal’s, loan costs, etc. If you purchase a new property then the price will also include GST.
In total the above costs can minimise your “profit” considerably and in some instances, all can be lost. Some clients prefer to refinance and draw cash out against the equity in their property via a line of credit (LOC). If the LOC is used for investment purposes, i.e. a new purchase, funding negative gearing, etc, then the interest costs on a LOC are tax deductible.
Detailed analysis should be made to determine the viability of borrowing in this manner, including capacity to fund, and this exercise should be completed before committing.
All facts should be considered.
In Australia the property market on average has historically grown by 7-10% per annum.
Some years have been negative but on average growth has occurred to a point where property values have doubled every 7-10 years.
This period of time is referred to as the cycle, i.e. 7-10 years between each peak in values. As this analysis is historic and not specific to any particular property, any review must take into account the actual property in question to provide a specific answer.
On future movements, many considerations will need to be made and referring to statistical reports prepared by various property groups may be useful in understanding and estimating future growth.
Consider an example where you purchased a property 1999 for $550,000 and you decide to sell in 2010, when the property value is say $750,000.
In this instance, the following taxes and costs would be applicable;
- Profit from Above $200k
- Selling Costs $20k
- Taxable profit $180k
- CGT $84k (assume 50% CGT discount and 46.5% marginal tax rate)
- Remaining Cash $96k
- Stamp duty & costs on next property $36K
- Available Funds $60k
As the above figures illustrate, by selling the property you would be left with only $60k out of a $200k “profit”.
On the other hand, if you could refinance at say 80% LVR, you would gain access to $160k which, even allowing for interest, may put you in a better position.
Obviously if there were underlying reasons to sell such as poor performance in property value growth, then it may be better to cut your losses and find a better investment, which over time might make up for the $120k of taxes and expenses you will have sacrificed.
The decision to sell or retain will also be influenced by where the property is in relation to the cycle.
If it is near the bottom of the cycle, the decision to hold the property either for an extra period or the long term may be appropriate.
If your decision is to sell, but retain the property for a short period of time until the markets move up again, the cost to hold (net rent after interest and other costs) would need to be higher than your estimated market growth during the period.
As you can see there are many considerations and you may find it beneficial to seek some professional help in completing your calculations.
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