Strategy: Make the most of the Main Residence CGT exemption

Strategy: Make the most of the Main Residence CGT exemption

The main residence is potentially a tax free gold mine that can be incorporated into a retirement plan. I am surprised most investors don’t plan ahead a bit to take more advantage of this goldmine.


Here are a few strategies incorporating the main residence exemption.

1. Sell the Main Residence and move into an IP

Many investors plan to buy several investment properties, then sell some, maybe half of all holdings, and pay down the loans on the remaining properties and live on the rent. Great strategy but it is slow and costly. The major cost is CGT on the sales.


Instead sell the main residence, tax free, and move into an investment property. It may not get you all the way to retirement, but it will help greatly.


Example

Tom has a main residence which meets all the requirements for the CGT exemption. He plans to buy an investment property now and chooses one he thinks he will like to live in in 10 year’s time. The main residence and the investment property are worth $500,000 each and in 10 year’s time are estimated to be worth $1.5mil each. $500,000 IO loan on each.



After 10 years Tom sells the main residence makes a $1mil gain, all tax free, and moves into the investment property. He has $1mil cash after paying out the loan and uses $500,000 of this to pay off the investment loan and has $500,000 to live on in retirement (in addition to all his other investment income)


Had Tom sold the investment property he would have had a $1,000,000 gain so would have had to pay tax of about $250,000 – which is 5 years retirement living expenses for Tom.

1. Use the 6 year absence rule on an investment property

Where someone has lived in a property and made it their main residence and then moved out and rented the property they could still count this property as their main residence for up to 6 years while it is rented. If they move into the property, re-establish it as the main residence again and then move out again another 6 year exemption could be obtained.


So a person could initially move into property which they later intend to sell and later sell it tax free.


Example

Tom is happy in his main residence, but wants to pay off the $500,000 loan quicker. He learns a good way to do this is to invest as the capital gains are taxed at a max of 25% compared to wages at 47%. But still 25% is too much for Tom so he plans ahead.



Tom buys a $500,000 property and moves into it for a year while renting out his old main residence. While living there he does it up and improves it as much as he can. Then he moves out after 12 months and back to the first property. For the next 6 years he rents the property out and sells it just before the 6 year anniversary of renting it out. By this time it has double in value to $1mil so there is a $500,000 gain. Normally $125,000 in tax would be payable on a gain of this size, but Tom uses the main residence exemption and the sale is totally tax free.


His main residence is now paid off in full.

1. Adult Children

Adult children can have their own main residences exempt with the main residence CGT exemption available to them as well, separately from the parents. Stay at home adult kids are potentially wasting this exemption.


Example

Tom has a daughter who is going to university for the next 6 years to study for a Ph.D. in Biotechnology. The daughter doesn’t plan to move out of home for a while so Tom sees this as a waste of her main residence exemption.

Tom convinces the daughter to buy a property and move into it and establish it as the main residence before moving out again and renting it while coming back to live at home.

She doesn’t have a job so Tom lends her the money to buy it.

After 6 years the property has double in value and it could be sold tax free potentially.



Tom’s second child is coming up to the same stage, being 7 years younger. The first daughter sells her property and repays Tom the money borrowed and Tom then lends this to the second child to do the same thing.



There are probably a few more strategies that I can add at a later date too.

 

Values doubling in 6 years and tripling in 10 years in examples seem a bit optimistic.
Marg

 

Hi Terry, would I be eligible for CGT exemption if I lived in my PPOR for 3 years while renting it out partially (I reported income and all in these 3 years); and have rented it out fully for a year now.

 

not a full exemption no

 

Figures were for illustrative purposes only. Strategy still the same at lower growth rates.

 

Thanks Terry. Would it make a difference in terms of CGT if I sell now, as opposed to moving back and living in my PPOR for a year before selling?

 

Yes it would. Get some specific advice.

 

Great info, thanks @Terry_w!
This may be a naive question, but can you claim the CGT exemption more than once?
As in: you sell your PPOR, move into one of your IPs, then after say 10 years, you sell that one as well...

 

And what about subdividing? As I understand it, the CGT exemption only applies when selling an actual dwelling, so could you subdivide, sell the portion with the house (tax free) and build another dwelling on the empty land?

 

You can, but not for any overlapping period. Your second property would be subject to CGT in part.

 

Possibly.

 

Thanks @Terry_w , so in the above example, only the cap gain incurred in the 10 years occupied as PPOR would be tax free? How would that be calculated though?

 

Hi @Terry_w , love your strategy posts. Quick question on what constitutes a ppor. I thought you had to establish it as a ppor and live in it for a minimum of 6 months but after reading on here I don’t believe that is the case. Is there a general guideline to follow? I want to move into an ip and use it as a ppor for a period of time before going travelling but not sure how long I would have to live in it.

Thanks.

 

Tax legislation refers to the 'main residence' not 'principal place of residence'. Legislation provides for no minimum term required and in fact s 118-150 shows even a period of 3 months could be enough.

 

Love the optimism though, why not see it at least double in 10 years, that's fairly reasonable and a decent strategy!

I'm curious Terry, looking at buying an IP in the next 12 months in Canberra, rent it out for 12 - 24 months (we're enjoying living and renting in Sydney) and then if we convert to a PPOR, from what I understand we'd pay CGT on the component that it was an IP and would need to get it valued once we move in?
Are there any flaws in this logic?
I know that there will be other tax implications as well i.e. tax deduct-ability of interest to be considered

 

If moving in no valuation necessary.
Keep record of all 3rd element cost base expenses going forward such as interest as this can reduce CGT when sold.

Tax Tip 120: CGT and moving into an Investment Property https://propertychat.com.au/community/threads/tax-tip-120-cgt-and-moving-into-an-investment-property.10714/

 

Thanks Terry! Will take a read, love your tax tips!

 

@Terry_w Terry,
Just so I am correct here, to take advantage of the six year ruling fully one must live in the property for say a year. Then rent it out for six years and sell just before the six year mark is up.

Rather than the reverse of, rent it out for say six years then live in it for a year, and sell.

Correct?

Also how long do I have to live in something for it be classed as my main residence?
Also if I own a property for decades before selling, does what I do with it in the first year matter for the ruling-my understanding is it does not, it is merely the last six years before selling.

Thank you.

 

Not correct

 

Can you expand please?