Tax Q&A: Partial exemption from capital gains tax

Question: We bought a home in 1987 for $128,500. We lived in it for 12 years, before renting it out for 19 years. When we moved out in 1999, we had it valued at $220,000. We now want to sell it, and we’re wondering if we can use the six-year rule to reduce our capital gains tax (ie claim it as our main residence for six years after we moved out). We estimate the current value to be about $1.1m.

Also, in 1999 we bought another property, which we moved into as our PPOR. Does this mean that we will have to pay CGT on our second home when we sell it?

Thanks, Helen

Answer: In summary, you will be able to use the six-year Temporary Absence Rule, so the sale will be partially exempt from capital gains tax (CGT). Let’s explore this further.

Main residences are generally exempt from CGT if they are not used to produce income. Under the six-year rule, even if your home has become income-producing, you will be able to treat it as your main residence for up to six years from the time you first used it to produce income, ie from 1999 to 2005 = 2,192 days.

The property is not exempt during the period it was used to produce income which exceeds the six-year time frame, ie from 2005 until the sale date (assumed 2019) = 5,112 days. The proportion of the capital gain assessable will be 5,112/2,192 + 5,112) = 69.98%. Importantly, the ATO deems that you have acquired the home at the time you first used it for producing income. This means the cost base will be the market value at the time the property was first rented in 1999 – ie $220,000 (not the purchase price of $128,500).

Importantly, the ATO deems that you have acquired the home at the time you fi rst used it for producing income

Because you owned the property for at least 12 months, you are also entitled to a 50% CGT discount on the capital gain. Therefore the assessable capital gain will be calculated as follows: $615,824 total capital gain (see box above) discounted by 50% = $307,912. This is then taxed at your marginal tax rate.

The above calculation is only a guide as there are other items such as improvements, commissions and depreciation that will impact the capital gain.

With regard to your second question, if you elect to use the six-year rule as above, you are correct: generally, you cannot treat any other dwelling, including your new principal place of residence (PPOR), as your main residence during that period. You will only be able to treat your new PPOR as your main residence from the day that you have sold your old home onwards.

Alternatively, you may want to consider treating your second home as your PPOR and paying a larger amount of CGT now to reduce your tax later. As you can see, CGT is certainly complex. It is imperative that you seek the right tax advice from your accountant. This may save you thousands off your tax bill come tax time!

Need to know

- Partial capital gains tax exemption can be obtained through the six-year rule.

- The CGT assessable period begins when you first use a property to produce income.

- Owning a property for 12 months entitles you to a 50% CGT discount.

Catherine Simons

is the COO of

WSC Group