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Capital Gains Tax

The most significant aspect of CGT legislation is that the first 50% of any Capital Gain is exempt from taxation, provided that you have held the asset for more than 12 months.

With CGT levied at the same rate as personal and company income tax, even investors paying the highest personal tax bracket of 48.5%, will now be liable for no more than 24.25% CGT under CGT legislation.

The loss of indexing is the inevitable flipside to the reduction in CGT liability. Where actual gains have previously been taxed at 100% and then adjusted for inflation, the new 50% rate does not take inflation into account. In short, this means that the effects of inflation cannot be used to offset your capital gain tax burden.

For properties purchased before September 21, 1999, investors can choose whether to assess their tax liability at either half of the nominal gain, or under the guidelines of the previous CGT system (with the indexed cost of the asset frozen as at 30 September 1999).

Predictably, the impact of current CGT legislation compared to the previous indexed based legislation it replaced, is varied. In periods of low inflation, when capital gains are not penalised too significantly by inflationary adjustment, you’ll walk away with a windfall under the current system.

When inflation is tending to spiral, your tax liability will rise under the new system and you could find yourself out of pocket in comparison to the CGT of old.

In Whose Name Should You Buy?

Frequently, couples and partners jointly own property, including investment property.

The most common forms of legal ownership can be either Joint Tenants or Tenants in Common.

The main difference between the two is that Joint Tenants hold an equal interest in the property, while Tenants in Common may hold different proportional interests.

The Australian Taxation Office (ATO) requires that investments held via Joint Tenants must divide the income and expenses equally.

Tenants in Common must divide the income and expenses in direct proportions to their legal ownership.

With Joint Tenants, all income and expenditure is divided equally, 50 per cent to each party.

This applies to any income, tax liabilities or deductions.

For Tenants in Common the percentage apportioned to each party is established at the time of purchase. This means that one party can have, for example, 30 per cent ownership and the other party 70 per cent.

These proportions then dictate the split of all related income, tax liabilities and deductions.

It is easy to check the legal position by referring to the title deeds for any property.

There is often a significant disparity in the duel incomes of people purchasing in partnership.

In order to maximise the contribution of potential tax credits, the greatest percentage should be applied to the main income earner.

In either case, any other form of partnership cannot be established to override or change the position dictated by the title to the property, so it is important to determine the Tenants in Common percentage split at the time of purchase. To alter it at a later date could prove a costly exercise.

As a general guideline, if you are buying in a partnership, varying the percentage ownership using the Tenants in Common option has the potential of providing a significant increase in tax credits courtesy of the ATO if a sizeable disparity in income exists between the partners income.

You should seek advice from your accountant or solicitor before making any decisions in this regard.

Depreciation of Assets Legislation for Rental Properties

In this article, we explore the impact the changes to the depreciation schedule will have on your property investments.

Changes to existing depreciation provisions for rental property investors

The effective return on property investment is largely determined by three key factors:

  • Capital growth
  • Net rental yield
  • Tax advantages

With regard to the latter, depreciation allowance has always played an important role. While the introduction of new tax laws has done little to diminish this role, it has changed the way depreciation can be claimed.

Put simply, the new depreciation schedule delays the depreciation tax benefits for property investors. The key changes to the schedule are as follows.

From 21 September 1999

  • The removal of accelerated depreciation
  • The ability to re-assess the effective life of an investment
  • The ability to balance adjustments for capital gains or losses on disposal
  • The removal of the balancing charge for roll-over

From 1 July 2000

  • The introduction of a low value pool for items with a value less than $1,000

From 1 July 2001

  • A review of capital allowances rates on buildings

Of all of the points above, the two with the greatest interest for property investors are the removal of accelerated depreciation rates and the introduction of a new ‘low value pool’ for items costing less than $1,000.

Let’s now explore some of these points in more detail.

Removal of accelerated depreciation

The loss of accelerated depreciation is a telling aspect of the new legislation.

Under the old system, depreciation rates were generally based on the effective life of an item – loaded by 20% – and lumped into one of seven broad categories. In a practical sense, this meant those items with an effective life of say, 30 years, would receive the same rate of depreciation (20% diminishing return) as say, an item with an effective life of 13 years.

Under the new system, depreciation rates for items acquired after September 21, 1999 are based solely on the effective life of that item, with no loading or broad-branding.

This means the annual depreciation deduction for an item under diminishing value will now be calculated as follows:

Depreciation deduction = undeducted cost x (150%/effective life).

The ATO is currently working on a revised schedule for the ‘effective life’ of common items. At this stage, the effective life of common depreciable items for rental properties is not expected to change. Accordingly, the table below remains a useful guide.

Item of plant Current rate (D.V.%) Effective life (years) New rate(D.V.%)
Venetian Blinds 20 20 7.5
Curtain & Drapes 30 7 21
Carpets 25 10 15
Furniture & Fittings 20 15 10
Hot Water System 20 20 7.5
Microwave Oven 30 7 21
Stove 20 20 7.5
Refrigerator 20 15 10
Fluorescent Lights 20 15 10
Motor Mower 30 7 21
The introduction of a low value pool

Assets costing less than $1,000 are now eligible for inclusion in a low value pool, which, for tax purposes, will be written off at a diminishing value rate of 37.5%. Furthermore, such items will be written off in their year of acquisition at only half this rate (18.75%).

Full details regarding the ATO’s treatment of rental income and expenses visit www.ato.gov.au

New Versus Old

In general, which is the better investment, new property or old?

Maximising return is central to a successful property investment strategy, but is only half the story.

Minimising expenditure is also a key element and is one area in which older properties tend to struggle.

Many people take one look at the craftsmanship and care that was taken in the construction of older homes and fall in love. They don’t look beyond those emotive first impressions and fail to see past that fresh coat of paint.

Unlike new properties that use capital growth and rental income in the first few years to build up a buffer against the cost of future maintenance, owners of second-hand properties are faced with immediate maintenance outgoings (sometimes payable even before tenants
move in).

The costs of maintenance and repair to older homes can swell ongoing expenses quite significantly.

Optimising your tax position
Look over your tax returns and you’ll soon see another reason to buy newer homes rather than older counterparts.

The depreciation scale for new homes provides far larger tax incentives to investors and the difference can amount to thousands of dollars in just a few short years.

Measured over a five year period, the depreciation gap between a new property worth $360,000, and an older one similarly valued, can be more than $25,000.

Increasing your rate of return
Assuming average outgoings, and a borrowing rate of 7%, your cumulative cash investment also varies enormously between old and new properties.

On a $360,000 older property without fixtures and fittings depreciation or building allowance, and assuming a maintenance bill of $2,000 a year, your cumulative cash investment could increase by more than $35,000 over a ten year period in comparison with a new property that provides maximum taxation allowances and lower maintenance costs.

Whilst the gross equity would remain the same, your real rate of return on investment could decrease significantly due to increased holding costs.

In most cases, new properties win hands down.

Whether new or old, the quality, location, style and design of the property, together with its compliance with local market demands, is paramount if you are to achieve maximum results.