Tax Implications on Renovating an Investment Property

Creating wealth through buying an investment property is a well established practice in Australia.  In fact, there are approximately 9     million residential dwellings in this country and almost 25% of them are rented from private landlords. 

According to the Australian Tax Office there are just over 23 million people in Australia of which just under 8% of the population (1,811,174 individuals) own an investment property. According to the ATO data, 72.8% of individuals that owned an investment property owned     just a single one. Meanwhile, 18% of individuals owned 2 properties and just 0.9% of individuals owned 6 or more. 

Clearly, negative gearing is a part of our DNA and it is fuelled by the tax incentives, our population growth, historic low interest rates, growth in property values     and use of investment vehicles like self-managed superannuation funds. 

If you’re looking to renovate or subdivide your property we urge you to consult with our property accounting experts at Nobel Thomas.  If you’re intending to renovate we provide the following general guidelines: 

Renovation or Repair?

For taxation purposes, the difference between a repair and a renovation can be a grey area. A renovation with structural improvements like adding another storey to the building or adding a new room is typically a capital expense and the construction costs would be claimed over a  number of years. 

If you demolished the back of the house and rebuilt, the construction costs would be written off over 40 years at a depreciation rate of 2.5% per annum. If the property was sold before the construction costs were totally written off, the balance of the capital costs would reduce the capital gain on sale.   

If the renovation included replacement items of plant and equipment (like an oven or air conditioner) they can be depreciated over the useful life of the asset.

The distinction between a repair and renovation can be summarised as follows. A repair is basically maintaining the existing asset or structure. Repairs are deductible because they are fixing the wear and tear caused by the tenant and it’s usually occasional or partial and involves restoring something to its original condition. Repairs make good to damage that has occurred through normal wear and tear, by accidental or deliberate damage or through the effects of natural causes.

Replacing the thermostat in a hot water service is a repair while replacing the hot water service is not. Replacing old lino in the kitchen with floating floorboards would be considered a renovation and the expense written off over several years as depreciation. Repainting the     property would generally be considered a repair.

The ATO has issued some guidelines on repair versus renovation (improvement):

• Whether or not the thing replaced or renewed was a major and important part of the structure of the property
• Whether the work performed did more than meet the need for restoration of ‘efficiency of function’, bearing in mind that ‘repair’ involves a     restoration of a thing to a condition it formerly had without changing its character     
• Whether the thing was replaced with a new and better one, and
• Whether the new thing has considerable advantages over the old one, including the advantage that it reduces the likelihood of repair bills in the future.     

At Nobel Thomas, investment properties and negative gearing have become a specialist area within our firm. We have identified some common areas where property investors trip up on tax and capital gains tax matters. 

If you’re looking to renovate, make significant repairs or subdivide     your property, get in touch with a property accountant  today.