Tax Deductibility of Rental Property Expenses
by Haines Norton Chartered Accountants

With the 2005 financial year fast approaching, if you are incurring costs in renovating or repairing to your rental property we thought it might be appropriate to remind you of what expenses you can claim as an immediate deduction and expenses that are of a capital nature.

The Tax Office has increased focus on the types of rental expenses claimed in tax returns particularly renovation costs which according to the tax office were claimed as repairs.

What expenses can I claim in full as a tax deduction when renovating? This depends on how long the renovation takes. For example if your property was vacant for a short period within the financial year, there are a number of expenses that you may still be able to claim as an immediate deduction. These include the interest expense on loans borrowed to acquire or to renovate the property and expenses on cleaning, bank charges, council rates, land tax, pest control, lawn mowing, insurance and stationery and postage. In the case where your rental property was not available for rent for the whole financial year due to renovation you can not claim the above expenses as a tax deduction. Rather, these costs will become part of the cost base of the property for capital gains purposes.

What expenses are considered as a repair?

Expenditure for repairs that you make to your rental property are immediately deductible provided that the repairs directly relate to wear and tear or damage that occurred as a result of renting out the property.

Repairs generally involve a replacement or a renewal of a worn out or broken part. For example, replacing some guttering damaged in a storm or part of a fence damaged by a falling tree. Other examples include replacing broken widow, maintaining plumbing and repairing electrical appliances.

The commissioner says that the replacement of an entire structure or unit of property is of a capital nature and not eligible for immediate deduction. This includes the costs of improvements, renovations, extensions, alterations and initial repairs.

Capital costs – what’s depreciable and what’s not?

There are two types of capital expenditure for the purpose of rental properties.

Firstly, capital items that are plant and can be depreciated which include carpets, blinds and curtains, stoves, cook tops, refrigerators, dishwasher, washing machines, hot water systems, ovens, ceiling fans and clothes dryer. Taxation Ruling 2000/18 sets out the commissioner’s view of the effective lives of various assets.

Residential properties will invariably be the setting for income-producing activities. Items that forms part of the premises is part of the setting and are intended to remain in place indefinitely and are necessary to complete the structure of the premises. The setting is not plant and cannot be depreciated. For example, kitchen cupboards although they appear visually separate from the premises but they are fixed and that the premises will not be complete without it. On the other hand, a bookcase or a dishwasher may be attached to the structure but does not form part of the premises.

Accordingly, expenses associated with remodelling bathrooms, kitchens and adding a deck, a room, carport or a retaining wall is not eligible for deductions for their decline in value. However, capital works deductions over 25 years may be available for these costs. According to the commissioner, you should consider the following factors when determining whether an item forms part of the premises or setting:

• Whether an item appears visually to retain a separate identity
• The degree of permanence with which it is attached to the premises
• The incompleteness of the structure without it; and
• Whether it was intended to be permanent or was likely to be replaced within a relatively short period

The above discussion is provided as a general guide only. We recommend that you seek appropriate professional advice before undertaking any major repair or renovation.