Holiday homes are a great little investment and tax minimising treat for Australians to sink their teeth into. However, the Australian Taxation Office plans to target investors who are over-claiming on deductions. For example, deductions that were claimed as if the property were let all year, when in reality they were looking for "tourist tenants" only three months of the year. This may effect many investors who are unaware of the potential pitfalls associated with holiday home deductions.
In order to reduce your audit risk, make sure you only claim if you are making reasonable efforts to find paying tenants. Investors who provide "mates rates" for family and friends have been caught out in the past, with one case in particular that occurred last year, where the ATO tracked down an investor who provided rental arrangements to friends below market value. This decision cost the investor more than $108,000 in tax that had to be paid back.
Another deduction trap that can easily catch out investors is confusing renovations with repairs. Investors need to note that a renovation, such as installing a new window cannot be claimed as a deduction. Instead, it forms a part of the cost base when you sell and need to work out capital gains. However, if that window happens to break whilst your property is being leased, then this can be claimed as a deduction.
Whilst it may seem that the ATO is trying to restrict any and all deductions for investors, there are definitely still ways a holiday home can serve a great purpose to reducing your tax liability and give you a great tax return. Like all other investments, if you follow the two rules of thumb of keeping good records and knowing your allowances then you are well on your way to achieving a healthy return.
A few more points to consider:
Difference between Repairs and Maintenance and Renovations
As mentioned above, renovations and repairs can confuse even the most astute investor. If you've had to fix floorboards and leaky taps or pay for pest control and lawn mowing, then all those types of general repair work can be claimed as a tax deduction for the year. On the other hand, if you've installed new floors and taps then these types of installations need to be claimed as part of your depreciating assets over a number of years, usually at about 2.5 per cent of their original cost.
Advertising Costs
If you've gone through an agent or paid for advertising in a newspaper or online, then you can certainly claim these costs as a deduction. Of course, proceed with caution as you may be caught out if you can't prove that the property was available for rent and you've paid for advertising. In this case, you can't claim these costs and you may be swept up in the ATO's crackdown.
Negative Gearing
Negative Gearing is a popular buzz word that has been thrown around so much in the media of late that it's almost lost it's true meaning. If your investment property expenses outweigh the income your property brings in, then you may be able to offset the loss against other income. It can, of course cause another trap for investors who may over claim in order to ensure their property remains negatively geared. Therefore investors should remember that the tax benefit from negative gearing only offsets a portion of the loss and unless you've got that underlying growth in property prices, then the investment might actually be working against your net worth.
Rates and Taxes
Water rates, council rates and land tax can all be claimed as deductions. In order to claim land tax, you have to lodge an initial land tax return with the Office of State Revenue in the state of your investment property.
Agent's Fees
Statement fees, postage, bank charges and lease document expenses are all deductible expenses.
Insurance
Building, contents and landlord insurance are the main expenses you can claim.
Legal Expenses
In the case where you may have experienced problems with your tenants throughout the year and have sought professional legal advice or mediation, then these legal expenses can be claimed.
Depreciating Assets
It is highly recommended that a property investor obtains a quantity surveyor's report so that assets related to your property which decline in value are properly recorded and are allowed the full deductible claim. A quantity surveyor's report is also the best evidence of depreciation that the tax office will accept.
Pre-paying Interest on Loans
The interest on property loans can be pre-paid for tax purposes. Let's say you have a $300,000 loan at 5% interest over 20 years, you can pre-pay next year's interest before June 30 and claim an immediate deduction on that amount.
For more information on ways to minimise your tax liabilities through an investment property or if you're interested in buying a holiday home and want to know what a mortgage broker can do for you, contact us on 02 9299 7044 or via admin@lockwood.com.au