Your property development tax questions answered
To generate more value from investment in property, some people decide to ‘manufacture’ growth and revenue by subdividing the land and constructing on all blocks.
Blogger: Shukri Barbara, Property Tax Specialists
Sometimes they do this on a block which used to be their Main Residence and other times they do this on newly acquired blocks of land.
For this article we shall assume the critical issue of ‘intention’ is to derive rental income.
Discussing the issues is probably best illustrated in a case study format.
As such consider the following situation:
- Block with a house acquired in year 1
- House occupied as a Main Residence throughout year 1
- In year 2 an application for subdivision into 2 blocks and constructing of 2 townhouses are lodged with Council
- Approval is received in year 3 and construction commences as the occupants move out.
Interest expenses
Where the property is occupied as a Main Residence, interest expenses will not be deductible. It will become deductible once the residents move out and the construction phase commences.
Where the property is being rented out, the interest is deductible from the date the property becomes available for rental – generally settlement date.
With the properties designated for investment/rental purposes, interest expense will be deductible in each financial year, where construction extends over two or more financial years.
Rates – Council, water, sewerage, land tax
Deductions for rates and taxes are treated in a similar manner as interest expenses above.
Construction phase may commence at a point of time when rates have been paid for the whole year or on a quarterly basis. As such a deduction is available for the portion of the rates which relate to the time period after commencement of construction. This can be calculated on the basis of number of days before and after xommencement.
Borrowing Expenses
Expenses usually incurred in taking out a loan include, establishment fees, bank charges, legal fees, loan application fees, stamp duty on mortgage (now abolished in most states) and valuation fees.
Borrowing expenses are generally deductible over the loan term where it is less than five years or over five years where the loan is for longer than five years.
Where the property is not ‘available’ for rental i.e. when occupied by the owner, the deduction is not available. With the facts above, the portions relating to years 3, 4 and 5 should be deductible in my opinion
Being of a capital nature, loan Principal repayments are not deductible.
Depreciation – Construction costs – Capital Writeoff
Depreciation of construction costs is available over 40 years i.e. at the rate of 2.5% annually. It includes preliminary expenses such as architect fees, engineering fees, surveying fees, building fees, costs associated with obtaining the necessary building approvals, energy rating costs, surveying costs, town planning etc etc and the cost of foundation excavations.
Where a builder is contracted to do the construction, all these costs would be incorporated in the quote.
The deduction is only available after the completion of the construction and the property is available for rental.
Quantity Surveyors (generally building engineers and cost estimators) produce a report summarising the depreciation of the construction costs at 2.5% as well plant and equipment at rates appropriate to the lives of each item. These reports are acceptable and preferred by ATO as they are prepared by professionals qualified in the building industry.
Landscaping & Clearing costs
Capital expenditure on the land including clearing, demolition and landscaping costs are specifically excluded by the legislation from being deductible/depreciable. These expenses are considered to be improvements to the land.
However they can be included as part of the cost base when calculating capital gains on a subsequent sale of the property.
Arborist (tree specialist) expenses
Councils are generally keen on maintaining greenery, often disapproving of removing trees especially natives. However where it is approved and is necessary for the construction to progress, the cost of removing the tree is considered to be land clearing and is not deductible nor depreciable.
Stationery, Photocopying, Postage and Telephone
Where these expenses relate directly to a construction matter, for example contacting architects engineers etc, they will be treated as construction costs and subject to depreciation expenses at the rate of 2.5 per cent.
Where they are not related to a specific construction cost but are of a general nature directly related to the development of the investment property they are deductible immediately.
Mail re-direction expenses as the resident moves out of the property is considered as private in nature and not deductible.
While the expense of general garden maintenance is allowed as a tax deduction when a property is available for rental.
To help with your decisions it is always best to discuss the deal and the options available for your specific circumstances with your Property Tax Specialist before committing to a transaction.
About Shukri Barbara
Shukri Barbara is a CPA with over 30 years experience in public practice and professional associations support service. He is a Certified Practising Accountant and a Chartered Tax Adviser, as well as Principal Adviser at Property Tax Specialists.
He is also a regular columnist in Smart Property Investment magazine.
DISCLAIMER: The above is to be considered as general education. This is not advice and it is not to be acted upon without professional advice from a qualified professional who understands your personal circumstances