This week we have written something a little different! We assist clients with both their pharmacy and personal compliance. Therefore sometimes we come across general accounting content that is too good not to share (We are Chartered Accountants after all).
So let’s begin!
Victoria our Senior Manager for Compliance and Valuations shares a guide to rental properties in relation to tax.
Rental properties are one of the ATO’s favourite areas to target when it comes to auditing tax returns. The deduction claims are what the ATO mainly focuses on so keep reading to find out common items we come across with investment rental properties and how you can stay compliant with the ATO when disclosing your rental property activities.
Types of Rental Property
The types of rental properties that can be rented out as an investment property include houses, units, apartments, holiday homes, residential and commercial properties, etc.
These properties can be obtained by buying, inheriting the property, receiving the property through a prize or gift or having it transferred to you because of a marriage breakdown.
Make sure you keep all your records from the very start, so you can report all rental income and expense activities. It is important to keep and maintain records to ensure this information is available to the ATO if they ever decide to do an audit on your rental property in your tax return. You should maintain your records as follows:
· Rental income and expense records should be kept for 5 years from the date you lodge your tax return.
· Details of property ownership and costs of acquiring it should always be maintained unless you sell your property. In that case, all purchase and sale details should be maintained 5 years from the date you dispose of the property.
Expenses You Cannot Claim
Not all expenses you incur from your rental property are deductible. Common items that would not be deductible are as follows:
· Acquisition and disposal costs of the property. These are adjusted against the cost base of the property.
· If you did not incur the expense, you cannot claim it (i.e. Electricity charges that you did not pay for and were paid by the tenant)
· If you used your holiday home during the year, you cannot claim expenses which you used privately
· Travel expenses to inspect the property before obtaining it or rental property seminars.
Expenses Prior to Property Being Available for Rent
A common practice for owners once they obtain their rental property is to do some renovations and do up their place before they decide to rent it out to tenants. A lot of owners think because this is a cost to the rental property that the expenses are immediately deductible in that financial year.
As the property was not yet available for rent, the cost incurred will need to be added to the cost base of the property. The only expenses you may be able to claim are items such as interest on loan, council rates, water rates and land taxes.
A security bond is a deposit given to the lessor by the tenant before the start of a tenancy. The bond is generally a maximum of 4 weeks rent unless the weekly rent is above $1,200 and if there is a pet bond (maximum $260 and excludes guide dogs).
If a tenancy starts after 1 July 2013, you must provide a receipt to the tenant upon receiving the bond which states date and amount of bond paid, the name of the person who paid it and the address of the rental premises. You will also need to lodge and deposit the bond with the Bond Administrator (Department of Commerce) within 14 days of receiving the money. The ATO now data matches rental bonds so ensure you don’t skip this process.
At the end of the tenancy, if the tenant does not owe you any money, you are entitled to withdraw the bond from the Bond Administrator and return it to the tenant.
Travel to rental property
Previously travel expenses to visit the rental property could be claimed including costs related to travel, accommodation and meals to inspect or maintain the property.
The ATO have found too many incorrect travel claims over the year so from 1 July 2017, travel expenses to a residential rental property are no longer deductible unless you are in the business of renting properties out.
Previously, accountants would suggest to their clients to obtain a depreciation report from a surveyor to help maximise deductions to assets and special building allowances (capital works) on their rental property.
As of 1 July 2017, you will now no longer be able to claim second hand plant and equipment in rental properties and applies to the following:
· Previously used assets acquired at/after 9 May 2017 at 7:30pm unless it was acquired under a contract that was entered before this time.
· Assets acquired before 1 July 2017 but not used to earn income in either the current (2018 FY) or previous year (2017 FY).
If you purchase new assets for your rental property which is used to derive rental income, the depreciation rules do not change, and you are able to claim the depreciation on the asset as normal.
Renting to Family Members
It is common that property owners may choose to rent out their property to family members. Income received for board and lodging are not considered assessable to the ATO as this is considered by the ATO as a private domestic arrangement.
If you do rent out your rental property to relatives, please ensure you rent out your property at market value. Failure to do so means you are unable to claim the full amount of your deductions. The deductions claimed can only be up to the extent of the amount of rent received for the period it was rented out to family members.
Taking out Loans
Interest claims are deductible if you take out a loan that is to be used for the rental property to produce income. When taking out loans, please ensure you do not have a mixed purpose loan. What this means is the loan taken out is used for different types of purposes. For example, the loan taken out is for the rental property however at the same time is used for personal use.
This means the loan will need to be looked at even closer by your accountant to work out the correct percentage of interest that can be claimed for the rental property. If you keep drawing down on your loan and it is not used for your rental property, you will further complicate your mixed purpose loan. To make life easy, we suggest you have a separate loan for each rental property and only use it in relation to that rental property.
Repairs Vs Capitalisation
A common mistake people make are whether the claims made on repairs and maintenance should be immediately deducted or to be capitalised and deducted over the useful life or added to the cost base of the asset.
General repairs and maintenance are in relation to the wear and tear or other damages incurred as a result of renting out your property. This could be replacing a broken part (i.e. Replace broken windows) or having someone look into an issue raised by a tenant (i.e. Plumbing maintenance on leaking taps) or even maintaining the property in tenantable condition (i.e. repainting faded walls).
Repairs and maintenance items that are capital in nature and not deductible or immediately deductible include the following:
· Replacement of a structure (i.e. Kitchen stove replacement).
· Extensive Improvements, renovations, extensions and alterations (i.e. Re-modelling the kitchen).
· Initial repairs from the date you acquired the property. As mentioned in “Expenses Prior to Property Being Available for Rent”, initial costs will be added to the cost base of obtaining the property.
Selling Your Rental Property
When selling your rental property, capital gains tax may apply. The amount of capital gain or loss on the rental property will be the proceeds less the cost base.
If there is a capital gain, the individual or entity will need to record their share of the gain in their tax return. If there is a capital loss, the individual or entity also needs to record this in their tax return. What is different with a capital loss is it can only be offset against a capital gain and cannot be offset against revenue income (i.e. Salary and wages). If there are no capital gains to offset the capital loss, the capital loss will continue to be brought forward until a time it can be offset against a capital gain.
Main Residence Exemption
Your main residence is generally exempt from capital gains tax. Generally, your main residence is the home:
· You and your family live in.
· Where your personal belongings are in.
· The address mail is delivered to.
· Address is on the electoral roll.
· Services such as gas, power and water are connected.
You are only exempt from the full main residence exemption if your home has been owned by you or your partner/dependants for the whole period, has not been used to produce assessable income (i.e. Run a business from it or rented it out) and is on land 2 hectares or less.
If you have used your main residence to produce assessable income, you may be entitled to a partial exemption. It is also important to know your home’s market value when you first produce assessable income for capital gains tax calculations
Income and Expenses
Finally, here is a checklist that covers what you need to know about reporting rental income and expenses and what you need to provide to your accountant come tax time:
I hope you find this information useful and as a disclaimer, suggest you seek advice from your accountant before undertaking any of the abovementioned to ensure the items are applicable to your circumstance. If you have any questions or want to chat about rental properties, please feel free to contact me.
Reference - ATO 2018 Rental Property Guide: https://www.ato.gov.au/uploadedFiles/Content/IND/downloads/Rental-properties-2018.pdf