Investment Property Tax Deduction Homework

Some of you may be aware that we are looking to purchase an Investment Property and nearly exchanged a couple of days ago but unfortunately the sale did not go through. In the meantime I have been doing some research on all aspects of geting an Investment Property and came across this great article from MoneyTree Partners on claimable expenses with an IP and thought I share it here.

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- Expenses that can be deducted immediately

There are several categories of expenses that are deductible immediately. The common denominator between them is that they all relate in some way to day-to-day running of your Investment Property. You should in all cases be able to convince the AustralianTaxation Office (ATO) that the things that you claim for Represent legitimate business expenses. 

The following is a description of the major categories for which you can claim tax deductions immediately: 

- Property management and ongoing maintenance expenses.

This category includes some of the recurring expenses associated with managing your business.

• Advertising costs – This refers to the cost of finding tenants, and persuading them to come and stay in your properties! Both direct (i.e. Where you placed ads yourself), and indirect (i.e. Where an agent advertised on your behalf) advertising costs are eligible.
• Building/property fees – This can include body corporate fees or strata management fees and charges.
• Miscellaneous costs – Costs related to maintaining a safe, clean and pleasant environment.
• Examples include cleaning costs, gardening and/or lawn mowing expenses, pest control costs and security patrol fees.

- Rates and taxes

This refers to any regular bills related to your properties that you are directly responsible for. Most common among them are: 

• Water rates, charges and usage
• Council rates
• Land tax – This is a tax administered by the Office of State Revenue of each state. When you first own a property you should lodge an initial tax return with your local state revenue office. You should ensure that you do this as soon as possible as no reminders will be sent. Penalties apply for late lodgement.
• Electricity and gas bills – On occasion, you as the landlord has direct responsibility for the gas and electricity bills (either due to a vacancy or because of a specific arrangement with tenants). You can claim a tax deduction when this is the case.

- Property agency costs

You can claim for bona fide expenes related to the appointment of a property agent to let and/or manage a property on your behalf. 

• Agent fees and/or commissions – You can claim on both the fees, and the Goods and Services Tax (GST) payable on it.
• Postage and petty expenses
• Statement fees
• Bank charges
• Expenses related to the drawing up of lease documents
• Letting fees 

- Administrative expenses

This category relates to any direct expenses arising from the Administration of your investment property. You should keep careful records of all legitimate administrative expenses as this is an area where most landlords spend quite a bit of money.

• Stationery, postage and other minor expenses
• Telephone and communication costs
• Legal expenses – Especially expenses arising from debt
• Collection and dealing with problem tenants.

- Insurance costs

The cost of insurance that covers against the risks you face in running your investment property can be included in your tax return. The following types of insurnace are regarded as eligible for tax deduction by the ATO.

• Comprehensive landlords insurance
• Building insurance
• Contents insurance
• Public liability insurance 

 - Costs payable at acquisition

It is sometimes the case that you are liable for certain costs when acquiring a property. These costs will be spelled out in the settlement letter you receive from your solicitor and can be claimed as a deduction. The most common examples of such costs are:

• The balance payable on council rates
• The balance payable on water rates
• The balance payable on body corporate fees 

- Repair costs

As a landlord one of your primary tasks is to provide a comfortable and safe environment for your tenants. Costs related to the maintenance of such an environment can be deducted. There is obviously a fine line between repairing and improving a property and the ATO will pay special attention to claims for repairs in order to determine whether what is described is not, in fact, improvements. In general a claim for repairs will be successful if it can be proven that the functionality of the building was restored to a previous level. 

This is an area where a good paper trail can be a great asset. You should ensure that tradespeople prepare detailed quotes and/or work reports. This will greatly assist you in proving the exact nature of the work that was undertaken.

Repairs can include the following:

• Plumbing repairs
• Electrical repairs
• General repairs 

- Interest and loan account fees

You can deduct the interest and account fees on loans, provided that you can prove that the loan was entered into to acquire an income generating asset (i.e. A rental property).

• Travel expenses - Travel expenses can be deducted for travel directly related to the day-to-day running and management of your investment property which can include trips to inspect property, maintain property, collect rents, etc.

To claim a full deduction you must be able to prove that an entire trip was undertaken for the sole purpose of attending to your properties. If a particular trip had a combined business/personal purpose (i.e. You travelled to another city to inspect properties but also took a holiday on the way there), you will need to assign relative weights to the personal and business parts of the journey and claim accordingly. This process in sometimes called ‘apportioning’ and you should ensure that you do it accurately and correctly.

• Quantity surveyor costs

It may sometimes be necessary to engage the services of a quantity surveyor when calculating depreciation expenses and/or the value added by capital projects (e.g. Building an extension) works. His/her fees for drawing up a report can be claimed as a deduction.

• Training seminars

You can deduct the cost of attending some property investment seminars. You should be able to prove, however, that the topics that were discussed were in some way related to management and/or revenue optimisation of properties that you currently own. This means that you cannot claim for seminars that focus on teaching you how to expand your property portfolio.

Expenses that can be deducted over a number of years

There are certain types of deductions where you cannot deduct the full amount in your next tax return, but where you are allowed to include the deductions in a number of consecutive tax returns. This is an area that you should study closely since including timed deductions can save you quite a bit of money over the long term.

- Borrowing expenses

Borrowing expenses can be deducted over the period of a loan when the loan term is less than five years. For loans with terms longer than five years the deduction period is five years. The following expenses can de deducted:

• Loan application fees
• Lenders legal fees
• Title search fees
• Lenders mortgage insurance
• Stamp duty on mortgages
• Mortgage registration fees

- Depreciation on plant and equipment

This deduction is called ‘decline in value of depreciating assets’ by the ATO. It defines a depreciating asset as: ‘...an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used.’ Examples relevant to a property investor may include electrical equipment, carpets and furnishings. There are different methods of calculating eligible deductions and you should therefore do a bit of homework before you lodge your tax return. In general, the following principles apply:

• The cost of installing equipment and plant (e.g. Hot water systems) should be added to the total asset value that will be used to calculate depreciation.
• Movable assets i.e. Furniture, appliances etc. Should be depreciated according to their effective life. The ATO website gives the correct formulas according to which calculations should be made.
• Only items costing more than $300 should be included in your depreciation claims. The full costs for eligible items under $300 can be claimed as a direct deduction.

- Construction costs

You may be able to deduct costs associated with constructing a building or extension. This deduction is referred to as ‘capital works deduction’. This is normally spread over 40 years at 2.5% (depending on the type of construction and the date construction commenced). Examples of eligible constructions include the following:

• A building or extension, such as adding a room, garage, or pergola
• Alterations, such as removing or adding an internal wall, or
• Structural improvements to the property, such as adding a carport, sealed driveway, or fence.

It is important to note that you can only claim capital works deduction for periods when a property is rented or is available for rent.

Expenses that cannot be deducted 

Up to now it has been almost all good news, however, there are several forms of expenditure that are either not deductible or are considered to be of a private nature by the ATO. The most important among these are:

- Purchase costs

The cost of purchasing a property, as well as certain directly related expenses, cannot be claimed as a Tax deduction. This means that the following types of expenditure are deemed ineligible by the ATO:

• Purchase price
• Stamp duty on purchase
• Legal and conveyancing fees
• Pest and property inspection
• Sourcing fees
• Renovations immediately after purchase
• Repairs immediately after purchase
• Costs related to the sale of properties

- Pre-purchase expenses

This section includes costs incurred while investigating new avenues of investment, or specific properties, especially if no property purchase took place in the end! You should therefore take care not to include any of the following in your tax return:

• Fees for seminars focussing on the expansion of your property portfolio
• Property sourcing fees, e.g. Cost of reports on properties prior to purchase
• Cost of travel to inspect properties prior to purchase 
• Costs incurred at a time when a property was not available for rent

It is very important to note that if a property was removed from the rental market for a time, expenses arising from this period are not tax deductible. You should therefore be very careful not to include times when you made personal use of a property (i.e. As a holiday home) in your tax return.

Courtesy of MoneyTree Partners