If you have purchased an investment property, you understand the immense cost associated with it: property management, maintenance, landlord insurance, body corporate fees – the list goes on. Like any business, you want to manage it well to maximise your investment opportunities.
As you no doubt already know, successfully managing your property comes down to not only how you spend your money, but also how you save it. Incredibly, research has shown that 80% of property investors are not making the most of property depreciation, which is resulting in missing out on thousands of dollars back in their bank accounts each year. If you think you’re one of those people, it’s time to get some insight into investment property depreciation.
What is tax depreciation?
As with everything in life, our investment properties and assets will experience a bit of wear and tear over time. This reduction in value due to the item’s ‘limited effective life’ is often referred to as its ‘depreciation’. What you may not realise is just how much you can use depreciation to maximise your investment.
In the same way, you can offset maintenance expenses, landlord insurance and interest payments against your investment property’s assessable income you can also write off your depreciating assets to reduce the amount of tax you pay into the government’s pocket.
Depreciation can be claimed under two types of allowances: ‘plant and equipment’ and ‘capital works’. Plant and equipment include assets inside the investment property, such as appliances, curtains and carpet. Capital works, on the other hand, covers the likes of permanent fixtures, structures and the depreciation of the building itself. While land is not considered a depreciating asset, improvements to land or fixtures on land, such as fences or paving, are deemed to have a limited effective life and can, therefore, be offset against your taxable income.
Who can claim tax deductions?
A tax deduction for the decline in depreciation in asset value can only be claimed by the holder of the asset. In this case: the investment property. The majority of the time, if you own the home, you are the holder, so the deductions are yours to claim against the property’s income.
Needless to say, if you have bought an investment property with a spouse, friend or family, you are joint legal owners and therefore are all holders of that asset. In this situation, each holder determines their deduction for decline in value in relation to their interest in the asset.
How is depreciation calculated?
Depreciation calculation can be complicated due to varying laws and legislation, but it is determined under the two categories. Capital works are calculated at an annual depreciation rate of 2.5% of the total construction cost (excluding plant and equipment) over 40 years if the building was constructed after 15 September 1987. If it were built between 18 July 1985 and 15 September 1987, it would attract a 4% building depreciation rate over 25 years. For example, if you buy an investment property that commenced construction in late 1990, you still have 12 years in which to depreciate the property at 2.5%. That’s still 30% of the property’s original construction left to claim!
Which brings us to calculating plant and equipment asset depreciation, these are determined by using one of two methods: diminishing value or prime cost. Each eligible asset must be individually assessed to determine its value and depreciation based on its effective life as established by the ATO or as assessed by a quantity surveyor.
For more information on exactly how to calculate your assets’ decline in value, visit the ATO’s Guide to Depreciating Assets.
What is a quantity surveyor and why do you need one?
A quantity surveyor essentially measures buildings and estimates costs associated with construction. They are one of the few professionals that the ATO recognises as having the skills required to calculate the cost of items for depreciation accurately.
Laws have changed frequently over the years, so it is essential to hire someone who can prepare a concise claim that is accepted by the ATO and enables you to maximise depreciation deductions on your investment property.
When hiring a quantity surveyor, you can expect them to:
Identify and account for all depreciable assets and value them accurately;
Utilise legislations and determine eligible assets that can be immediately written off or fall into the category of low-cost and low-value pooling;
Determine deductions for each year over the next 40 years;
Produce an ATO-compliant depreciation schedule; and
Liaise with your accountant to provide a detailed depreciation schedule outlining all deductions available on your investment property. Your accountant can then use this schedule when preparing your tax return.
Unfortunately, accountants are not qualified to estimate construction costs or expenses associated with work over a property’s lifetime. While they can apply costs, calculations prepared by accountants may be deemed non-compliant and could make it extremely difficult to establish an accurate depreciation claim.
Your property investment is a business. Therefore, all expenses of running your business can be claimed against your property income, including real estate agents, accountants and quantity surveyors. Maximise your deductions without worry by hiring a professional.
How to maximise your depreciation
Choose another excellent investment
A tax depreciation schedule might set you back between $300 and $700. Having already invested hundreds of thousands of dollars on an investment property, it really is a small expense that could potentially end up saving you thousands each year.
If you have invested in an older property, don’t overlook it
If your investment property was built before 1987, you might be under the impression that it has no depreciation remaining. Don’t be too hasty, however, as there could be areas that haven't been considered. Your property consists of the land, capital works and plant and equipment, and if you break down those categories and take into account any renovations that have occurred or updates that may have been overlooked, it becomes well worth contacting a quantity surveyor for a free assessment. They could determine that there is significant deductible depreciation lying dormant.
If you renovate your investment property, remember to contact your quantity surveyor before pulling anything out. Depreciation deductions may be available on the ‘junk’ you are taking to the tip. Ask the quantity surveyor to complete an inspection of the property before starting your renovations to document all assets. Once you have completed the renovations, request your quantity surveyor to inspect everything again. They can then determine the depreciable value left on the items removed and advise you of how much can be claimed outright. It is well worth it if the $10,000 20-year-old kitchen you demolish in your rental property can attract an immediate deduction of $5,000. The surveyor can then establish new depreciation deductions available in the coming years for all of the new items.
If you missed the memo
If you haven’t been maximising your depreciation deductions, contact the ATO or your accountant to see what can be done. You could have the opportunity to amend previous tax returns to reclaim money you may be entitled to.
Simply being aware of the depreciation deductions you are able to claim on your investment property is a significant step in the right direction. Taking this knowledge and putting it into action with a strong investment team could potentially save you thousands and set you up for even greater success in your investment venture.