Chiselling Away at Negative Gearing – How do the Changes to Property Deductions Impact You?

To re-cap, until recently, you were able to claim depreciation on the value of all fixtures and fittings (also known as ‘plant and equipment’) in a property. This includes ovens, dishwashers, heaters, floor coverings, window furnishings and the like.

The important point here is that you could claim on items which you did not purchase yourself. In other words, the previous owner could have purchased the goods and you could still claim depreciation deductions.

This meant that in a worst-case scenario for the government (definitely not investors), tax deductions were claimed, causing the following issues –

  • the same item deducted by multiple owners of a property
  • items were deducted to a value greater than the original purchase price of the item

This loop hole has been slammed shut by the government to the extent that the property owner must meet the following criteria to be able to claim a deduction:

  • purchased the item themselves when owning an established property purchased since the federal budget, or
  • purchased or built a new property

Importantly, the change is not retrospective, in that it does not apply to those who owned established properties prior to the announcement.

Sounds pretty logical right!

There was genuine concern, you may even say frantic worry, from a number of property developers, quantity surveyors and the odd property investor that these restrictions would apply to the purchasers of new properties or those who build a new property to rent out as an investment.

The grey area prior to the government clarification was whether a developer would be considered the original owner, and therefore purchaser of the fixtures and fittings. Common sense prevailed (as often it does) and the amendments to these depreciation laws will only impact established properties purchased since the budget.

This means the purchaser or builder of a new investment property will be able to fully depreciate the fixtures and fittings.

This approach maintains incentives for investors to purchase new residential property. This is important because a buoyant building industry is vital to the success of our economy and to boosting housing supply to provide any chance of maintaining pace with population growth.

Maintaining these deductions for new property goes some way towards offsetting the negative aspects attributable to many ‘new’ residential property investments. We highlighted some of the investment pitfalls in a recent blog ‘High Rises – Another Reason to Stay Away’.

Of course, it is always prudent to maximise the tax deductions that are available to you. This can be achieved in multiple ways such as obtaining a quantity surveyor report, advice from your accountant and an intelligent mortgage strategy.

Importantly, tax deductions or tax depreciation should never be the primary reason for investing. This idea that tax benefits should be the primary reason to purchase a property is often spruiked by those selling new property, especially when striving to highlight the affordability of purchasing the property being sold.

Often with depreciation, unless the straight-line method of accounting is used, the tax deductions will be greatest in year one and reduce steadily over time as the value of the asset steadily declines. This means that the affordability can be made to ‘look’ the strongest in year one by a marketer and counter intuitively, become more expensive to hold over time.

Compounding this, the look and feel of a new apartment dates rapidly, meaning that relative rental returns can reduce over time as well. Especially as vast numbers of extremely similar ‘new’ properties come onto the market in the same location.

It is important to keep front of mind the reason we are able to claim a tax deduction for depreciation of an asset is because the asset is reducing in value. Whether it is a heater, a car, a lap top or a new apartment!

A tax benefit is ultimately giving someone a dollar to get 45 cents, 32.5 cents, or 27 cents back from the taxman subject to which tax bracket you are in. Who wouldn’t happily take a dollar from someone if they only had to pay back 45 cents or less?

This informs us that tax benefits should always be secondary in the decision-making process. The primary driver should always be the expected performance of the asset we invest in.

From a money management perspective, relying on deductions to be able to afford your property as an investor is a recipe for disaster. This is why sound risk and money management is fundamental to your mortgage and property strategy when purchasing property. This is why we include them in the four pillars that underpin Property Planning.

All the best with your Property Planning.

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