Interest deductions for ppor turned investment

Hi guys,

I have a quick question regarding interest deductions for a ppor that I want to turn into an IP.

Say I currently have a loan facility for $500,000. I purchase a ppor for $490,000 and I use the entire remaining $10,000 for furniture which are considered depreciable assets. The $490,000 includes the purchase price, stamp duty and solicitor's fees.

If for the foreseeable future the loan was kept at interest only and no principal payments were made, what percentage of the loan interest would I be able to claim if I decided to rent out the property 1 year down the track?

Thanks in advance!

 

Not sufficient information...

1. Are you letting it furnished ? If so 100%. If not then 98%
2. Pro-rata interest for year one as its only deductible for the date it commences to be available for rental.
3. Whether its IO or P&I the interest cost isnt determined any differently. Its the interest charged to the loan and not the amounts paid which are used. ie Debits to the loan not credits.

Note too that the main residence exemption will only commence when you actually reside there. Its always pro-rata in this type of example.

Also take care for the s118-192 trap. It can apply to CGT in ways you dont imagine

1. Property is worth $490K in 12months. This resets the costbase. However, the duty and legals when you bought get excluded. You will end up paying CGT based on a costbase of $490K instread of $525K for example.
2. Property is worth $480K in 12 months. Not only has the above issue impacted but you will end up paying CGT (pro-rata) on a lower costbase than the property actual historical costbase.

 

Hi Paul,

I would let the apartment with all the original $10,000 worth of furniture, yes.

In terms of the CGT issue, why are the duties and legals when I bought excluded? In a normal scenario if I bought and sold an IP, the duty and legals wouldn't be excluded right? Is it simply because it was converted into an IP from a ppor?

 

cost base is reset to market value at the date of income producing for the first time.

 

Hi Terry,

So the cost base at purchase of an IP is equal to market value plus duties and legals, while the cost base when you convert to an IP is only the market value? Seems like a bit of a rort..

 

No.

Cost base on a property solely a rental is is the purchase price plus legals etc
cost base of a main residence converted into a rental is the market value at the date of first income
cost base on a rental turned main residence is the purchase price plus legals etc, and then an apportionment is applied.

 

Historical costbase would include duties and legals. However s118-192 resets the costbase and the revised costbase wouldnt include them. I have cautioned about this impact on flat and falling markets for a long time. This period of declining property markets is quite exceptional and now means the issue poses a potential tax impact.

That said, you can also use third element costs in the period when you live there IF the pro-rata CGT method applies....Wont apply initially to your situation however

And of course the $10K of furniture isnt eligible for depreciation BUT what could have been depreciation will be a CGT loss

 

So even if I buy the furniture brand new for $10k at the beginning, I cannot claim depreciation on it after 1year when I convert it into an IP?

However, the interest on the loan balance of $10k that was used to purchase the furniture for a PPOR can be claimed once the property becomes an IP?

My issue is with the conversion from PPOR to IP. I know that if I were to purchase as an IP, then both the depreciation could be claimed, as well as the interest incurred from the loan of $10k.

 

If the furniture is used - No depreciation is available. This law resulted from the May 2017 budget.
And yes these rules dont apply to the interest, at least not yet !!!

If you bought a NEW property the depreciation applies. If its an existing property depreciation is already not available. Only Div 43 capital allowances. Only new assets acquired by the owner/s on after 9th May 2017 can be depreciated. No gumtree items either !!

This matter has been law a while. Its one of many things budding property owners need to know and update their knowledge on. Its well described in many places including the ATO rental property guide.

Any existing property (even acquired in 1970) that ceases to be income producing and restarts at a later date is affected. Any QS report held by the taxpayer/s may be impacted.

 

My specific case would be buying a brand new apartment, and brand new furniture. However, I would be living in the property for minimum 6 months to take advantage of the stamp duty concession.

If I move out after 1 year, I will be able to claim depreciation on the construction costs, etc pro-rata from when I start renting it out, correct? But I cannot claim depreciation on the furniture as it was used at the time I decided to start renting the property out?

 

So for example a former PPOR was rented out until December 2018, then re-occupied as PPOR. During the rental period some items were depreciated. So if the property is rented out again, the depreciation on those same items can't be restarted, with adjustment for own usage? Even if the items were bought new many years ago before the PPOR was first rented out?

 

Yes. The changed laws are a phasing out of depreciation deductions. The very trigger is either not buying them as a new item, buying an existing resi property or changing the use of a resi property.

 

Yes, You can claim CAPITAL ALLOWANCES (Div 43), not Div 40 depreciation deductions. However the QS report is still important as the amount you might have otherwise been eligible to claim in Div 40 deductions can be accumulated and later used to recognise a CGT loss.

 

Thanks Paul. So regardless of changing between PPOR and IP multiple times, the Div 43 deductions do not change, I can just follow the QS report based on pro-rata periods that it was an IP?

Should a QS report be done on the property as soon as I move in while it is brand new and with brand new furniture or when it is first available for rent?

 

When its first available for rent. The QS can include the furniture issues

 

@Terry_w and @Paul@PFI , I heard another interesting trap on a podcast the other day.
If s118-192 applies, as per the legislation an owner is ‘deemed to acquire’ on the date of first changed from MR to IP, this also resets the start of the 12 month holding period for the 50% (for now) CGT discount.
Ie if MR for 2 years in flat market, converted to IP @ a market value of $500k.
If sold 6 months later after a mini boom to cash in @ a net sale of $650k,
CGT would be payable on 100% of the $150k profit with no 50% discount applying!
A quick look at s118-192 doesn’t specifically cover this but the explanation did make sense.
Can you confirm if this is correct?
Thanks

 

Craig, yes that is right
ATO ID 2004/945 (Withdrawn)
Legal Database

 

But also bear in mind another "benefit" that aligns with the impact of the non-discounted gain

If property is a former main residence then sold WITHIN six months that period may also be CGT free (optional) along with the new residence for that same period (s118-140)

Therefore taxpayers who may intend to move out, short term rent and then dispose of the former home should give consideration to the timing as well as the market value issues. It can be advantageous to not collect any rent in some cases and in others its not a concern.

 

Best to not rent it at all because of subsection (2)(b)

 

Depends if its likely to result in a CGT loss or gain in that period.

Most assume it will produce a gain but thats often NOT the case. Especially in the short run. When the property market was hot the inverse was a concern but this is now usually not the case. However some property may still be auctioned and commend above reserve bids in rare cases. eg large lots suitable for dev or renovation etc.

eg Market value at 1/7/2018 $500,000. Rented for three months until sold. Total income is $8,400 with deductible ownership costs in that period of $8,400. s118-140(2)9b) impacts lets assume. So the sale of the property occurs at $500,000 with selling costs of $14,400. Therefore a net CGT loss occurs largely due to the selling costs.

I would estimate 2/3rd of people who fear CGT end up realising the tax is less than they considered through a variety of issues a tax adviser can guide.

Also watch out for land tax !! Clause 7 of the NSW PPOR exemption ruling might (or may not) assist which may encourage no income to be earned.
https://www.revenue.nsw.gov.au/help-centre/resources-library/lt082v5
Consider land tax on a state by state basis.