What you can and can't claim on your investment property
Generous it might be but the Australian Tax Office goes to great lengths to police the tax system for property owners and every year thousands of Australians find themselves audited by the taxman for questionable claims or dodgy deductions.
Tax law is complex so whether you have already dipped your toe into the property game or are considering making a future investment, it pays to understand the basics.
The rent you earn on your investment property is assessable income and must be declared on your tax return each year.
The expenses you incur in running your investment property are (mostly) tax deductible, either immediately or over time.
The biggest expense you are likely to incur is the interest on a mortgage taken out to finance the purchase of the property. That interest is generally tax deductible straight away. You can also potentially look to claim the following expenses where you incur them:
- Repairs to the property.
- Advertising for tenants (including costs passed on by letting agents).
- Cleaning at the end of a tenancy (including rubbish removal).
- Estate and letting agent fees (including management fees).
- Gardening and lawn mowing (including felling or pruning trees).
- Secretarial and bookkeeping fees.
- Bank charges on the account used to receive rent and pay expenses.
- Council rates and land tax.
- Insurance, whether for the building, contents or public liability.
- Credit checks.
- Pest control.
- Strata title/owners' corporation fees.
- Bank or solicitor fees for keeping title documents safe.
- Taxation advice relating to the property.
- Legal expenses to eject a tenant for non-payment of rent.
- Hiring a debt collector to collect rent arrears.
- Getting new keys cut.
- Servicing items such as hot-water heaters, smoke alarms, air-conditioning systems and garage door mechanisms.
- Water supply charges (to the extent that they aren't paid by the tenant).
- Quantity surveyor for assessing depreciation claims.
- Security patrols and security system monitoring and maintenance.
You can also claim lenders mortgage insurance (insurance paid by you but which protects the lender from your default) over the term of the loan or five years (whichever is the shorter).
You can only claim expenses for the period the property was actually available for rent so you may need to apportion costs accordingly.
Two types of expenses that used to be tax deductible can no longer be claimed (since July 1, 2017). These are:
- Travel costs incurred in visiting your residential investment property.
- Depreciation on items of capital equipment which were already part of an existing property where it was purchased after May 9, 2017 (such as air-conditioning systems, furniture, carpets or kitchen equipment).
Where can it all go wrong?
Each year, the ATO highlights those areas it will be devoting significant compliance resources to policing, and while some of those focus areas change year to year residential investment properties are on the list every year. So what are the main pitfalls that can land you in trouble with the taxman?
The ATO pays close attention to excessive interest expense claims, such as where owners have tried to claim borrowing costs on the family home as well as their rental property.
It also looks closely at the incorrect split of rental income and expenses between owners. If you own a property as a joint tenant (for example with your spouse), you should each declare 50% of the rental income and claim 50% of the deductions. Some taxpayers try to divert deductions towards the owner with the higher taxable income; that isn't permitted.
The ATO looks closely for evidence that investment properties are not genuinely available for rent. Rental property owners should only claim for the periods the property is rented out or is genuinely available for rent. Periods of personal use can't be claimed.
This is particularly important for holiday homes, where the ATO regularly finds evidence of a homeowner claiming deductions on the grounds that it is being rented out when in reality the only people using it are the owners, their family and friends, often rent free.
Recently the ATO issued a list of four questions investment property owners should ask themselves. Consider your answers to these to determine whether you have anything to be concerned about:
- How do you advertise your rental property? If your property is advertised on a widely seen online site, that's a good indication that it is genuinely available for rent. If your only form of marketing is a tatty card in your front window, you might need to be concerned.
- What location and condition is your rental property in? If it is in good repair, tenants will want to rent it. If it's a hovel, chances are tenants will give your property a wide berth, particularly if you are charging rent that's on a par with much more desirable rentals in the same area.
- Do you have reasonable conditions for renting the property and charge market rate? If you set conditions that will deter a reasonable potential tenant, such as rent significantly above market rates or clauses such as "no children", your property may not be regarded as genuinely available for rent.
- Do you accept interested tenants unless you have a good reason not to? If you're unreasonably fussy, the ATO might conclude that you don't really want to rent to anybody and that your property isn't actually available for rent.
The ATO keeps a close eye on incorrect claims for newly purchased rental properties. The costs to repair damage and defects existing at the time of purchase or the costs of renovation cannot be claimed immediately. These costs are deductible instead over a number of years or are added to the cost base of the property for CGT purposes. Expect to see the ATO checking such claims, typically made within the first 12 months of ownership, and pushing back against those that don't stack up.
If the property is rented out to friends or family at a discounted rate, this will be regarded as a non-commercial rental. The income will still be taxable but you'll only be able to claim deductions up to the amount of rent you've received. You won't be able to make a loss.
The ATO has access to numerous sources of third party data including popular property rental listing sites, so it is relatively easy for it to establish whether a claim that a property was "available for rent" is correct.
The key tip is to ensure that you keep good records. The golden rule is that if you can't substantiate it, you can't claim it, so it's essential to keep invoices, receipts and bank statements for all property expenditure, as well as proof that your property was available for rent, such as rental listings.