Tax Q&A: Value added as a self-renovator?

Q: I bought a house in March 2004 and lived in it as my primary residence. Then I bought another house in August 2012 and moved into that, and it became my new primary address. I started to rent out my original property in December 2012, and the tenants moved out in July 2015. In September 2015, I sold the rental property. Do I need to pay capital gains tax, and does the six-year rule apply?

Also, how does the ATO establish the market value of the property in 2012, which is when I started to produce an income from the property? And what are the considerations with respect to the value I have added as a self-renovator (ie with no cost of labour to off set the capital value added)?

Many thanks, Errol 

A: This is a common issue that a lot of Australian taxpayers come across and something the ATO looks into carefully. Generally speaking, you are able to treat a dwelling as your principal place of residence (PPOR) for up to six years after you move out if it is being used to produce income. It should also be noted that you can only have one PPOR at a time, regardless of whether you are applying this exemption or not.

The market valuation rule may also come into play here, where taxpayers are eligible to treat the cost base of the property as the market value at the time it was first used to produce income. If you do not have a written valuation from this date, we highly recommend obtaining one from an independent property valuation firm to ensure everything meets ATO standards.

It seems like you have two options in your situation. Firstly, you could use the six-year absence rule to eliminate any capital gains tax when completing your 2015 tax return. If you use this method, note that when you sell your most recently purchased property (August 2012) some time in the future, you will need to apportion the capital gain on this property based on the days when it was not your PPOR (August 2012 to July 2015), using the daily apportionment ruling.

Secondly, you could use the market valuation ruling from December 2012, which is the date you began producing income, up until sale in September 2015. If you choose this method, you will only really be paying tax on the capital growth of the property for a little under three years. Choosing this option means your home purchased in 2012 will continue to be your PPOR, and you will not be liable for capital gains tax on this property.

Any renovations undertaken before December 2012 are likely to be included in the valuation already. However, if they are undertaken after this date, you will be able to include the expenses incurred in the cost base of the property (less any depreciation claimed).

I understand that these renovations may have been done by you, but unfortunately you will not be able to apply the cost of labour to the cost base, given that no expense was actually incurred. However, you will still be able to include any materials used.

Need to know

• You can only nominate one principal place of residence at any given time.
• Written valuations are very useful for ascertaining a property’s value for capital gains tax.
• Renovations completed before renting out a property are generally included in the valuation.

Catherine Simons

is COO of WSC Group