Q: I bought an investment property in 1999 for $184,000, and bought it in my own name for tax purposes. Over the period 1999 to 2017 it has appreciated considerably, based primarily on appreciating land value. The house is well presented and basic, but the property is now worth around $1.1m.
We are now retired and are contemplating selling our current permanent residence in the city and investing around
$450,000 of the sale funds in developing the investment property as our new residence. This process will involve paying out the remaining mortgage on the investment property, demolishing the existing building, and building a new one, which will be our new and only place of residence.
I understand that CGT events are only triggered by the sale of the property asset; however, given that we will not be selling the investment property and will be residing permanently in the new building from around May 2019, does the capital gain exposure continue? Is there any mechanism to ‘rule off’ the ongoing CGT exposure from the point of occupancy of the new building?
We are not comfortable with the thought of our investment in major development of the property being subject to a further increase in CGT liability and are interested in what steps should be taken to prevent this.
Your advice would be greatly appreciated.
A: While many people consider keeping their primary place of residence and turning it into an investment property when they upgrade or move, it’s slightly less common for them to move into an investment property down the track. However, as your investment property will have been first used to earn rental income before becoming your principal place of residence, it is only partially exempt under the main residence rules.
The CGT you’ll owe will be worked out by comparing the number of days you lived in the property to the number of days you rented out the property. This is only applicable when you actually sell the property. There is no reset of the cost base once you move into a property that originally started out as a rental.
"As your property will have been ﬁrst used to earn rental income before becoming your PPOR, it is only partially exempt under the main residence rules"
To calculate the taxable part of the capital gain, multiply the total capital gain by the number of days in your ownership period when the dwelling was not your main residence, and divide by the total number of days in your ownership period.
For assets you acquired before 11:45am (by legal time in the ACT) on 21 September 1999 and have held for 12 months or more, you can choose to use the indexation method or discount method to calculate your capital gain.
The best option for you depends on factors such as your dates of ownership of the property, past rates of inflation, and whether you have any capital losses available. It’s usually best to calculate your capital gain using both methods to find out which gives you the better result.
Section 110-25(4) of the Income Tax Act allows you
to include in the cost base everything associated with the property that you have not already claimed a tax deduction for. You can also use the costs of renovating to reduce your capital gain. Remember to keep all receipts for any work done.
Need to know
- The cost base is not reset once you move into a property that was originally a rental.
- The capital gain can be computed via the - Aside from adding value, renovation costs can be used to help reduce capital gain.
Director of Chan & Naylor
South West Sydney