Residential rental property owners enjoy a bevy of tax deductions that allow them to maximise their return of investments – and depreciation is one of most significant expenses they can claim.
Depreciation is defined as a reduction in the value of an asset with the passage of time due to wear and tear. This holds very true in property investments where the building’s structure and the assets within it wear out over time.
The Australian Taxation Office (ATO) allows owners of rental properties to claim depreciation as a tax deduction under two categories. These are capital works and plant and equipment assets.
Claiming capital works deductions
Property owners can claim capital works deductions for wear-and-tear on the structure of the building – including walls, doors, windows, and roofs, as well as any fixed items within the property such as cupboards and cabinets.
For residential properties that started construction after 15 September 1987, owners can claim capital works deductions at a rate of 2.5% for 40 years.
Meanwhile, owners of rental properties constructed before this date can make enquiries to the ATO about what depreciation deductions are available as some these properties may have undergone renovations, which can result in capital works deductions.
However, before claiming building depreciation, there are certain things that property owners need to know in order to make a correct claim.
- Date when construction started
Depreciation percentages are calculated based on when construction of the building commenced. Owners can claim depreciation differently, depending on the time when the property was constructed.
- Date when construction ended
Landlords cannot start claiming depreciation until after the property has finished construction, so it is essential for them to know this date.
- Cost of construction
Property owners should also know the how much it cost to build the property. A quantity surveyor can estimate the cost of construction for taxation purposes if the landlord does not know the actual cost.
- Type of construction
Owners should know the intended purpose of the building, e.g. house, townhouse, apartment, or commercial property.
- Who did the construction
This can be the owner, the developer, or a builder.
It is also important to note that residential property owners can depreciate the cost of structural improvements if construction started after 26 February 1992.
Claiming plant and equipment depreciation
Landlords can also claim depreciation deductions for removable fixtures and fittings found within a rental property, including appliances, carpets, blinds, and smoke alarms. Deductions for these assets are calculated based on their individual effective life set by the ATO.
But because of the November 2017 legislation amendments, owners of second-hand residential properties who exchanged contracts after 7:30pm on 9 May 2017 can no longer claim deductions for previously used plant and equipment assets.
However, they can still claim depreciation for any brand-new plant and equipment assets they purchase for and install in the rental property once it starts generating income.
Property owners can use two methods to calculate the amount of plant and equipment depreciation they can claim on their rental properties. These are:
- Prime cost method
The depreciation of the asset is spread evenly over its useful life. For example, a $1,000 asset with a useful life of four years would be depreciated at $250 per year.
- Diminishing cost method
The depreciation of the asset is calculated based on the depreciated value of the asset for each year of its useful life. This means that the tax deduction is highest in the first few years of the asset’s life, rather than being evenly spread over its useful life.
Getting a depreciation schedule
Although claiming deprecation on an investment property can be done solely by landlords, most owners opt to get a depreciation schedule done by a professional quantity surveyor because of the complex calculations and paperwork involved.
The cost of preparing a tax depreciation schedule varies depending on several factors, including the type of property, location, and size. A simple depreciation schedule could cost around $200, while a comprehensive report could set owners back more than $1,500.