Renovate and Depreciate
When purchasing an older investment property, many investors decide to renovate the property after settlement. Investors can often claim thousands of dollars in deductions when renovations are done.
The following three articles provide some more information about the depreciation benefits associated with renovating.
When purchasing an older investment property, many investors decide to renovate the property after settlement. Investors can often claim thousands of dollars in deductions when renovations aredone. The following case study highlights how it worked for one investor.
Case Study
Jim purchased a 60 year old 3 bedroom townhouse in Paddington. In its pre-renovation condition, the house contained carpet, vinyl, blinds, an air conditioner, old stove, hot water service and light fittings. Upon his accountant telling him about the potential depreciation deductions available in old, pre-renovated properties, Jim decided to contact BMT Tax Depreciation to enquire about a scrapping report before he started any work on the property. BMT visited the site and conducted a full site inspection, taking note of all the items that could be ‘written off’ before they were thrown out. The following deductions were obtained:
Jim then took the BMT report to his accountant and claimed $6,270 in depreciation deductions that year in his personal tax return. Over the following 12 months, Jim completed his renovations, including an extension at the rear of the property. He again contacted BMT Tax Depreciation to come and assess the renovated property to achieve the maximum depreciation deductions. BMT Tax Depreciation were able to complete a second report for Jim, taking into consideration all new additions (stainless steel oven, cooktop and rangehood, new carpet, air conditioning unit, etc) as well as calculating the construction write off allowance now available on the extension.
Both Jim and his accountant were impressed with the total depreciation claim on the scrapped assets and renovated property of $16,000 in the first year alone!
How is Scrapping Calculated?
The first report prepared by BMT Tax Depreciation is undertaken prior to any renovation or refurbishment. BMT Tax Depreciation prepares a report identifying the value of all plant and equipment and qualifying capital expenditure contained within the property.
A second report is then prepared by BMT Tax Depreciation after completion of the renovation, identifying the value of all new plant and equipment and capital expenditure within the property. The assets within the building that are no longer present can be written off immediately. Scrapping is a complicated process that requires the expertise of a specialist Quantity Surveyor, like BMT Tax Depreciation, in conjunction with your accountant.
Many investors remain unaware that pre-renovation/demolition investment properties contain depreciation deductions. If you are unsure about your entitlements, contact BMT Tax Depreciation before you start any work on your property. We may be able to obtain you thousands of dollars in depreciation deductions you never knew were available!
Has the time come to renovate an investment property?
Thinking about the types of new fittings and fixtures before installing them may generate you thousands of dollars in depreciation deductions. Make sure you do everything to maximise the cash flow potential of your next renovation project.
Many investors purchase properties that require improvement. They usually do this with the sole purpose of renovating to create equity and generate extra rent.
Once you have decided to renovate your investment property, it is important to ensure you obtain the best long term value from the money you are outlaying. Renovations can be expensive, so it makes financial sense to obtain the maximum depreciation benefit where possible. When it comes to deciding which new item to install in a property, some consideration should be applied to the depreciation potential of the new item.
Maximising depreciation on new items
Which new floor covering should you install to increase your depreciation potential - carpet, floating timber floorboards or tiles? The depreciation available on these items differs due to their varying effective lives.
If you spend $2000 on floor coverings, for example:
Considering ornamental light fittings or down lights?
If you spend $2000 on lighting, for example:
Deciding between an air conditioning unit and ducted air conditioning?
If you spend $5000 on cooling, for example:
(Figures based on Diminishing Value method using current legislation)
As shown in the above examples, installing assets for their depreciation potential is certainly worthwhile. Depending on the size of the property and the extent of the renovations, the deductions obtained from the new items may improve your cash flow each financial year by thousands of dollars. In many cases, renovations can be funded by the immediate ‘write off’ of old items and the depreciation deductions from the new items.
Effective lives – Explained
The 'effective life' of an asset is used by a Quantity Surveyor to work out an asset's decline in value.
The Australian Taxation Office (ATO) describes an effective life as 'the period of time that a depreciating asset can be used by any entity to produce assessable income:
- assuming it will be subject to wear and tear at a reasonable rate,
- assuming it will be maintained in reasonably good order and condition, and
- having regard to the period within which it is likely to be scrapped, sold for no more than scrap value or abandoned.' Source: www.ato.gov.au
Depreciation deductions on structural renovations
If structural construction work is completed as part of the renovations (such as a new roof, walls or ceiling), this can also be depreciated. Any work carried out after 18 July 1985 (residential property) and 20 July 1982 (non-residential property) will be eligible to claim the capital works allowance (Division 43) as well as any plant and equipment deductions.
Renovations carried out by previous owners: Can depreciation be claimed?
When BMT Tax Depreciation completes your tax depreciation report, we always take into consideration the renovations carried out by previous owners. Even though you may not have carried out the work yourself, there may be depreciation deductions for you to claim. A thorough site inspection is undertaken on your property by a BMT Tax Depreciation staff member identifying previous renovation works. Further council searches can also expose previous renovations carried out on the property.
Always consult a depreciation expert about your entitlements. Maximising the depreciation available in your investment property may improve your cash flow position each financial year – you’ll pay less tax!
BMT Tax Depreciation can offer obligation free advice about your property's depreciation potential pre and post renovation – simply call the office and speak to us about your property scenario.
STOP: Before you renovate...
Have you considered the concept of scrapping? Many investors can claim depreciation deductions on the items that they remove from the property before they renovate – this removal of items is often referred to as 'scrapping'. This means that if you remove items such as old carpet, stoves, hot water services or air conditioning units from your property, you may be able to write them off as a 100% tax deduction in the year of removal. Obtaining a tax depreciation report prerenovation can save you thousands at tax time.
A specialist Quantity Surveying firm like BMT Tax Depreciation can maximise the deductions available to you.
Scrapping is the removal and disposal of any potentially depreciable assets from an investment property. In other words, demolition of any existing structure or fixture onsite that would have been eligible to claim deductions for depreciation (Division 40) or building write off allowance (Division 43).
With the age of some properties now requiring renovation there are significant tax advantages that can be generated over and above normal depreciation.
Prior to demolition or renovation, many investment property owners remain unaware that the old assets within their property can be worth thousands of dollars. When these old assets (like carpet and hot water systems) are replaced or ‘scrapped’, owners may be entitled to claim them as a tax deduction. Before you discard old items or demolish your investment property, check to make sure you aren’t throwing dollars away!
How does an investor benefit by scrapping?
Scrapping of existing structures onsite is a very effective method of obtaining deductions within our tax system. It can provide additional tax credits for investors who demolish or dispose of existing buildings or any part of it which was owned as an investment asset and eligible to produce income.
Essentially if an item is scrapped, the written down value (WDV) of the item can be 'written off' as a tax deduction in the year the expense is incurred. To calculate the scrapping value, the quantity surveyor or client's accountant identifies the items that were removed or scrapped in the renovation process.
Why scrap items?
There are several reasons why an item may be scrapped that generally fall under the heading 'not fit for purpose'. They include;
- Obsolescence;
- Functionally inadequate;
- Dated style;
- Original form was inappropriate or does not maximise the form and function of the property; or
- Additional value to the owner is obtained from a renovation.
To maximise a scrapping claim focus should be given to items classified under Division 40 (often termed 'plant & equipment') as these items have the highest depreciation claim and often the greatest individual value.
It is important to note that a valuation of all items, including those to be retained and those to be scrapped in the refurbishment process is required with adequate photographic records retained for possible future auditing by the Australian Taxation Office.
The concepts outlined above can provide the property investor with a very attractive tool to maximise the tax benefits available from the refurbishment of an existing building, both immediately and in continued ownership. Substantial deductions can be achieved when the correct decisions are made at purchase and during the renovation process.
BMT Tax Depreciation provide an Australia wide service on all property types and are vastly experienced in identifying deductions for investment properties prior to demolition and after they have been re-built. Call the office on 1300 728 726 for obligation free advice on your property scenario.
Many investors remain unaware that pre-renovation/demolition investment properties contain depreciation deductions. If you are unsure about your entitlements, contact BMT Tax Depreciation before you start any work on your property. We may be able to obtain you thousands of dollars in depreciation deductions you never knew were available!