Are your clients missing out on valuable deductions when renovating their investment property?
Renovating can increase rental yields and improve cash flow but there are important rules and regulations both investors and accountants should be aware of.
Here are some key points to remember when your client is completing renovations.
Living in the property while renovating
Investors who live in their rental property while renovating risk missing out on thousands of dollars in property depreciation deductions.
According to legislation introduced in 2017, investors are unable to claim deductions for the decline in value of previously used plant and equipment found in second-hand residential properties. If an investor lives in their rental property while renovating, any newly installed assets will be classed as previously used. As a result, the investor is at risk of losing their tax benefits.
Landlords who are planning on installing new plant and equipment assets should make these additions after they move out of the property and it has been listed for rent. This will ensure they’re eligible to claim the maximum depreciation deductions available. Regardless of how existing assets are treated, owners can claim depreciation on all
brand-new assets they add to the property.
It’s important to note the 2017 legislation does not affect buyers of brand-new property, residential properties considered to be substantially renovated or commercial properties.
Scrapping deductions for removed assets
Capital works deductions for structural assets such as new walls, kitchen cupboards, toilets and roof tiles are unaffected by the legislation changes and can still be claimed by owners of income-producing properties. These deductions typically make up 85-90 per cent of a total depreciation claim.
When removing structural assets there may be remaining depreciation deductions available. A process known as scrapping can often be applied, allowing investors to claim these deductions in the year the items are removed.
In order to claim scrapping deductions investors will need to have the original assets valued. The pre-renovation depreciation schedule will detail asset values and can act as evidence in the event of an Australian Taxation Office (ATO) audit.
Once your client has had their pre-renovated property valued, we highly recommend updating the schedule after major works are completed. The new schedule will outline all deductions the owner can claim for the remaining life of the property, including any those for any additional works from the date of their completion.
It’s also important to note that investors who purchase second-hand residential properties after 7:30pm on the 9th of May 2017 will not be able to claim scrapping deductions for existing plant and equipment assets.
Renovations completed by a previous owner
If a property is considered to have been substantially renovated by the previous owner for selling purposes, the investor can claim depreciation on the new plant and equipment assets along with any new or old qualifying capital works deductions available.
It’s common for property investors to miss these depreciation deductions as they’re often uncertain of which items have been updated or replaced. This is particularly the case when the work isn’t visible, such as new plumbing, waterproofing and electrical rewiring. For this reason, it’s important to encourage your clients to organise a tax depreciation schedule.
As a part of the BMT Tax Depreciation process, a specialist Quantity Surveyor will inspect your clients’ property to ensure every deduction is uncovered. Using their expertise, the inspector will assess the capital works and plant and equipment assets found within the property. The inspection ensures all depreciable items are documented appropriately with detailed notes, measurements and photographs.
Equipped with these details, you’ll be able to maximise and substantiate your clients’ depreciation claims.
Repairs, maintenance and improvements
Knowing the difference between repairs, maintenance and capital improvement deductions is particularly important when your client is renovating.
According to the ATO, repairs are considered work completed to fix damage or deterioration of a property, such as replacing part of a damaged fence. This occurs when an asset is already damaged or deteriorated and therefore requires repairing.
Maintenance, on the other hand, is work completed to prevent damage or deterioration of an asset. For example, oiling a deck is considered maintenance as it helps to preserve the quality of the property and prevent future corrosion.
Any costs incurred to repair or maintain your client’s investment property can be claimed as an immediate tax deduction in the year of the expense. However, the ATO specifies that initial repairs for damage that existed when the property was purchased are not immediately deductible. Instead these costs are used to work out an investor’s capital gain or capital loss when the property is sold.
A capital improvement occurs when the condition or value of an item is enhanced beyond its original state at the time of purchase. This must then be classified as either a capital works deduction or as plant and equipment depreciation. Capital works refers to the deductions available for the building’s structure and items deemed to be permanently fixed to it such as bricks, mortar, sinks and basins. While plant and equipment assets are items which can be easily removed from the property such as carpet, blinds and light fittings.
A depreciation schedule from a specialist Quantity Surveyor will help property investors to avoid common renovation mistakes and assist you when preparing annual tax assessments. A BMT Tax Depreciation Schedule will outline all deductions available for the building’s structure as well as any depreciable plant and equipment assets found within the property.
To ensure your clients aren’t at risk of missing out on valuable deductions, encourage them to consult with a specialist Quantity Surveyor before starting renovations.
Article provided by BMT Tax Depreciation.
Bradley Beer (B. Con. Mgt, AAIQS, MRICS, AVAA) is the Chief Executive Officer of BMT Tax Depreciation.
Please contact 1300 728 726 or visit www.bmtqs.com.au for an Australia wide service.
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