Get the most out of your tax return each year by ensuring you are aware of these 10 tips and tricks.
At the start of a new financial year, there are a number of considerations that property investors should be aware of – particularly first-time investors – if you want to be smart about tax and investment property. You may think you have all the deductions and exceptions covered, but even the most experienced investors can often make mistakes when it comes to tax and investment properties.
To make the process easier for you, I have outlined 10 quick tax tips for property investors. This list is certainly not exhaustive, but hopefully it’s a useful place to start to learn about tax and property investment.
Tax tip #1: Manage your capital gains and losses
The first tip for maximising tax deduction on investment property is to manage your capital gains and losses. If you have made a capital gain during the financial year you can minimise it by offsetting it against capital losses or trading losses incurred during the same year. It is also important to remember you can receive a 50 per cent discount on capital gains where an asset is held for longer than 12 months, so this is important when considering the timing of a sale. The relevant date for calculating capital gains is the contract date, not the settlement date. It is also worthwhile considering carrying forward any capital losses to future years if there are insufficient gains to absorb it in the same year. You can carry losses forward for an indefinite period, but you can’t carry losses back. So if you’ve made a capital gain, you may want to trigger a loss to offset it.
Tax tip #2: Bring forward your expenses if you are not renting your property in the next financial year
If your tenants have moved out or if you don’t intend to rent your property again in the next financial year, it is important to incur any planned expenses before the end of the current financial year. This means organising for the work to be done (even if you haven’t paid for it yet) because if you don’t incur the costs now you can’t claim them in the next financial year if you do not earn any rental income on the property.
Tax tip #3: Don’t forget to claim your travel
Tax and investment property claims are not just related to the property itself. In fact, all your costs incurred to inspect your investment property are tax deductible, including travel, so remember to apportion the appropriate component when looking at your investment property tax deductions.
Tax tip #4: Consider pre-paying your expenses
Act clever when thinking about tax and investment property. If you have a geared investment then you might want to consider pre-paying next year’s interest to gain an immediate tax deduction. You can also get a deduction by pre-paying next year’s insurance premiums or bringing forward expenditure what would otherwise be spent after 30 June.
Tax tip #5: Consider when you buy appliances and equipment
Generally appliances and equipment, such as ovens and hot water systems, depreciate over time; so if you buy an item in June, you will only be able to claim one month of depreciation, which is a fraction of what you have spent. If you have any big items which you know need to be replaced in the near future, consider the best time to do it early in the financial year.
Tax tip #6: Items under $300 can be written off immediately
Take this into consideration when purchasing an item around this value. Spending $340 on an item as opposed to $280 can affect your ability to immediately write it off. Investment property tax deductions of this nature are something easy to keep in mind.
Tax tip #7: The number of property owners affects the outcome
Surprisingly enough, the number of property owners and their percentage of ownership can have a serious impact around tax time and claiming of investment property tax deductions. For example, the $300 test applies to the individual owner’s share of the property. If a new item cost $580 and the property is owned equally between two people, then it will qualify for an immediate write-off as it’s under $300 per owner.
Tax tip #8: Initial repairs to an established property are not tax deductible
When it comes to tax and investment property, many investors aren’t aware that initial repairs to an established investment property are not tax deductible. If the carpet needs replacing when you purchase an investment property, this would be an improvement. On the other hand if the carpet started to show evidence of wear and tear while tenanted, the replacement costs would be a deduction. It’s important not to be sneaky about it either, as it doesn’t matter how long you wait. If the carpet needed replacing when you purchased the property you can’t claim it as a deduction if you wait a few years to replace it. All the initial repairs will do is increase your cost base (which is deducted from your eventual sale price to calculate your capital gain), which is another reason why it often pays to build a new property, rather than buy an older investment that is run down and in need of immediate repair.
Tax tip #9: Understand when a change is considered an improvement
A repair can become an improvement (which isn’t tax deductible) if it doesn’t repair the item back to its original state. For example, you may have cracked tiles on the roof but if you decided to replace the roof with a metal roof rather than replace the cracked tiles, the change will be considered an improvement and will not be deductible. However, there are always exceptions to the rule. For example, removing carpets and polishing the existing floorboards is a deductible repair even though it’s not returning the item back to its original condition. And tree removal is claimable if the tree is diseased or causing damage; however, it is not claimable if you think the tree is likely to cause damage in the future. Similarly, you cannot claim the tree removal if you decide you don’t like the maintenance associated with pruning the tree or raking up the leaves. If you are unsure what you are able to claim, it is better to consult your property manager or accountant to determine if you are entitled to claim the deduction before you incur any costs.
Tax tip #10: You can’t claim an immediate deduction if you replace something entirely
If you replace something in its entirety, rather than just replace the damaged or broken section, you can’t claim an immediate tax deduction on investment property. For example, if a panel of the fence is damaged and you replace the entire fence rather than just the panel, it is not deductible as a repair. The same applies if you have a broken cupboard door in the kitchen and you replace all the kitchen cupboards rather than simply fix the door. It is important to know that in these instances, none of the expenditure is deductible. Similarly, an item costing less than $1,000 will qualify for depreciation of 18.75 per cent in the first year, so if a hot water system is purchased for $1,600 and the property is owned equally by two people, it will qualify as less than $1,000 and depreciation of 18.75 per cent in the first year will apply.
Finally, I recommend all property investors find themselves an experienced accountant who understands tax and the investment property market, and can give you all the advice you need – not just at the beginning of the financial year, but right throughout the year
The 10 most common mistakes that you need to avoid are:
1. Falling in love with the property
You need to stop thinking like a homeowner and start thinking like a business owner. Yes, you need to like the property; a question you should ask is could you live in it yourself? If you can, then it’s likely someone else can and so the property is probably rentable.
2. Not checking the facts
Due diligence is more than just an inspection of the property, it’s also a thorough investigation of your area’s rental market — vacancy rates, average rents, average age of the rental stock, zoning, government regulations.
3. Forgetting the home improvement rule
It will always take three times the money and twice as long as you first estimate to get a property ready to rent. Allow for additional funds to pay the mortgage whilst the property is vacant, obtain a building inspection by a qualified building inspector.
4. No cash reserves
A lack of cash reserves puts unnecessary pressure on you to do substandard repairs, accept substandard tenants or make other poor decisions because of a fear of vacancy. When you have a sufficient cash reserve, you act rationally.
5. Doing it all yourself
New investors often attempt to manage it themselves. That approach can end up costing more in the long run. Find an accountant you can talk to, a lender who will work with you and a reputable real estate agent to find a property in your price bracket.
When selecting renters, make them fill out an application, and check their credit, employment and rental history before you take them on. Better still, find a reputable real estate agent and give them the job of managing the property and let your accountant look after the legitimate costs of running the property at tax time.
6. Investing blind
Real estate investment risk is directly proportional to knowledge. The more knowledge of investing techniques, financing, acquisition and negotiating, the less risky your investments will be.
7. Investing long-distance
The only time that you would invest interstate is if you have done your due diligence and researched the market that you intend purchasing in and also have a good real estate agent to look after and manage your property in your absence.
8. Paying too much
If you’re embarrassed to make a low-ball offer to a seller, don’t invest in real estate. You never know a seller’s circumstances and an offer you think will be unacceptable may be very acceptable to the seller.
When signing a contract of sale ensure it has a ‘subject to finance’ clause. This gives you a degree of protection since your lender will value the property before offering you a new loan. From this you will then know the true value of the property.
9. Not studying the competition
Why does the guy across the street rent his property the same day someone moves out and yours sits vacant for months? He might not be very picky about whom he rents to, but he also might have lower rents or have gone to extra effort to present the property.
10. Being underinsured
Insurance on rental property goes beyond insuring the building against fire or natural disaster. You need to look at comprehensive landlord insurance. There are too many horror stories about destroyed rental properties to not take out this type of insurance. Most major insurance companies now offer this product, which will not only cover you for damage to the property but also loss of rent.