Most owners of an investment property are aware of claimable expenses such as council rates, property management fees, interest on loan etc. Depreciation is an expense often not considered even though it can be a large deduction that can make a big difference to your cash flow.
Below are the answers to some of the most frequently asked questions.
Q: What is depreciation?
As a general definition, depreciation is the expensing of the reduction in value of an asset due to the natural wear and tear of an asset over time. Generally, an asset cannot be immediately expensed in full if it will provide benefits over several years – the concept of depreciation for tax purposes aims to spread the tax benefit of the asset over its useful life.
Q: How does it work in tax?
Depreciation can be claimed as tax deduction if the asset is income producing. For a real estate, this means that the property needs to be rented out or used for business purposes.
Q: How do I save on tax with depreciation?
Depreciation is treated as an expense against your rental or business income. It reduces your taxable income, resulting in paying less tax. How much tax is saved depends on your tax rate. If you own this in your individual name, it will be dependent on your marginal tax rate which ranges from 19c per dollar up to 47c per dollar in the 2021 financial year (including Medicare levy). If the asset is owned in a company the saving will be equal to the company tax rate which is a saving 26c per dollar for the 2021 financial year.
Q: Is depreciation based on the full value of the property?
The value of a real property (residential/commercial) is made up of the value of the land plus the value of the bricks and mortar and all the tangible items built on that piece of land. Land generally appreciates over time, or least move with the condition of the economy, so it is not included to calculate the depreciation expense for tax purposes. The amount that we claim is the wear and tear on the item built on top of the piece of land.
Q: Can I claim depreciation on all types of properties?
Most properties have depreciation available. The ATO has broken down real estate depreciation into two groups:
- Capital works deductions (Division 43): building structures attached to the land and items permanently fixed to the building.
- Capital Allowances (Division 40): easily removable items. E.g., blinds, fans, washing machines, air conditioning etc.
The rules for each group are different depending on when the property was purchased.
If the property was bought and rented out before 9 May 2017, you will be eligible for both groups of depreciation. If it was purchased after this date, only capital works deductions (Division 43) can be claimed, unless it is a brand-new property or brand-new items bought for the property can be depreciated.
Q: Is my property too old to claim depreciation?
Not necessarily. Even if the property was built years ago, any substantial renovations and newly purchased assets may be eligible for depreciation.
Q: What do I need to do if my property is eligible for depreciation?
Depending on the date of purchase and nature of the property, your accountant may refer you to a quantity surveyor to prepare a tax depreciation report for your property. A quantity surveyor will visit your property, review all the tangible assets in the property, then prepare a report to be shared with you and your accountant. Then your accountant will use the figures in the report to prepare your tax returns.
Q: How often do I need to get a depreciation report prepared?
The depreciation report lasts the lifetime of the investment. You only need to get it once at the time of purchase.
Q: Is the depreciation report itself tax deductible?
Yes, the cost for preparing the report is tax deductible. Allow a budget of $600 - $800 for a typical depreciation report.
Q: What if the tax benefits of the report are not large enough to cover the cost of the report?
When you engage a quantity surveyor to prepare a report on your investment property, they will first do an assessment to ensure that it is economically worthwhile. They will not do a report, where there is no overall financial benefit to the owner.
Q: Can I get a depreciation report on a commercial property?
Yes, the same depreciation rules and benefits apply to both commercial and residential rental properties.
Depreciation is a tax deduction which investors often miss out on due to its complexity and lack of understanding. Speak to us to learn more about this and figure out if you are eligible to claim any depreciation on your investment property.