10 Steps To Reduce Tax On Your Investment Property
Maximise your returns with these 10 steps on how to reduce tax on your investment property.
1. Know what you can claim
Many of the expenses involved in owning an investment property are tax deductible. Property investors can typically claim deductions for the interest incurred on a home loan, property management fees, any insurance costs, council and water rates and land taxes. A property investor may also be eligible to claim thousands of dollars in depreciation deductions.
2. Understand the difference between capital improvements, repairs and maintenance
One of the most common mistakes made by property investors when completing their annual tax return is confusing repairs, maintenance and improvements.
Repairs are considered work completed to fix damage or deterioration of a property, such as replacing part of a damaged fence. Maintenance, on the other hand, is work completed to prevent damage or deterioration of an asset, such as oiling a deck.
Capital improvements refer to instances where a new asset has been purchased or an existing asset has been improved beyond its original state. These expenses are depreciated over time as either capital works deductions or plant and equipment deductions.
3. Don’t forget scrapping when renovating your investment property
Scrapping allows you to claim depreciation deductions for the residual value of removed assets. To take advantage of deductions for scrapped assets, a depreciation schedule must be arranged both before and after renovations. The pre-renovation depreciation schedule will detail asset values and can act as evidence in the event of an Australian Taxation Office audit.
Once the renovation has been undertaken, a Quantity Surveyor will compile an itemised schedule detailing the depreciation deductions available for the brand-new plant and equipment assets and capital improvements. The depreciation schedule will also show the undeducted value of the removed structural assets.
4. Prepay expenses
Is your taxable income close to the income tax threshold? Consider pre-paying investment property expenses. Pre-paying 12 months interest on your fixed-rate loan will allow you to claim it as a deduction in your annual tax return.
Interest on loans to finance renovations, undertake property repairs and pay for depreciating assets like hot water systems can also be claimed as a tax deduction if the property was rented or genuinely available for rent. If it wasn’t 100 per cent rented or available for rent, you can only claim for the apportionment of time when it was.
5. Claim for vacant land
If you purchased land with the intention of building an investment property, you may be able to claim tax deductions for holding cost expenses, loan interest and council rates. To be eligible, you need to prove active and genuine steps are (and have been) underway to construct the property and rent it once completed.
If you change your mind and decide to sell the land before construction is completed, you must cease claiming deductions immediately. Keep records of expenses as they will impact the cost base when calculating a capital gain or capital loss of your investment following the sale.
6. Claim borrowing expenses
Look at the borrowing expenses you’re paying on your investment property, as the following are some areas where deductions can be claimed:
- Broker fees
- Legal fees and costs when preparing and filing mortgage documents
- Title search fees charged by your lender
- Valuation fees required for loan approval
- Loan establishment fees
- Mortgage insurance
- Mortgage stamp duty
7. Maintain records
Maintain records and keep your receipts because if you can’t verify it, you can’t claim it. Doing this will ensure you reduce tax on your investment property and protect yourself if audited.
8. Understand capital gains tax
Capital gains tax is the fee you pay on any profit made from the sale of an investment property. This profit is referred to as a capital gain and is the difference between what you paid for the property and what you sold it for. It’s included in your assessable income and taxed at your marginal rate.
If you’re an Australian resident and have held an investment property for more than one year, you’re eligible for a 50 per cent discount on your net capital gain. This reduces your assessable income and therefore the amount of tax you will pay.
9. Pay As You Go (PAYG)
PAYG allows investors to receive investment property expense deductions at regular intervals throughout the year by opting for a withholding variation, as opposed to waiting to receive a lump sum payment at the end of the financial year. Expenses that can be claimed this way include repairs and maintenance, rates, interest, capital works and plant and equipment depreciation. Your employer can adjust your income and the amount of tax you pay to offset any potential tax liabilities.
10. Engage experts
Investors should engage a specialist Quantity Surveyor to discuss the depreciation potential of any investment property.