Tax benefits of an IP - real life example?

Discussion in 'Investment Strategy' started by squarepeg, 15th Oct, 2019.

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  1. squarepeg

    squarepeg Member

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    I am new to all this and trying to get my head around the tax benefits of owning an IP with the aim of primarily reducing my tax bill each year, but holding the IP long-term with the ultimate end goal of providing rental income in retirement.

    I am early 30s earning around 180k P/A with around 250k in savings. With the tax on the savings and low interest rates I feel I should buy an IP, but am hoping some of you in a similar bracket and with experience of the tax benefits can give me an example of how much you were able to claim and reduce your taxable income by?

    Cheers
     
  2. Brady

    Brady Well-Known Member

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    I invest in property to make money, not lose money.
     
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  3. Scott No Mates

    Scott No Mates Well-Known Member

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    @squarepeg - as @Brady points out, investment is for the returns not to save tax. Structuring is for the tax saving.
     
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  4. Peter_Tersteeg

    Peter_Tersteeg Mortgage Broker Business Member

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    I have an example...

    First property we bought was a 1980s town-house, purchased in 2000. At first glance there wouldn't be any depreciation to enjoy.

    We did a cosmetic renovation for about $5,000. I did a lot of the work myself. We then had a depreciation report done.

    The quantity surveyor gave us back a report indicating that there was about $15,000 in deductibles which could be claimed over periods between 3 and 7 years. Not only was our improvements deductible, but there was some other things that had been repaired and updated in the past few years that could also be claimed.

    Given our income tax rates at the time, over the next few years the renovation we did was fully funded thanks to the tax refunds we received.

    On top of that, the makeover increased the rent by 40% taking this from a negative geared property to neutrally geared at the time of purchase (when interest rates were around 8%).

    Over the 19 years we've owned that property, the rent has doubled again and the value has almost quadrupled.


    A couple of things to take away from this:
    * The tax benefits of this property were not immediate, but realised over several years. There was a clear benefit though.
    * We purchased the property due to its growth potential, both rental income and capital growth.
    * You wouldn't want to have invested the money we did just for the tax benefits. This was a nice bonus, but the investment is where the real value is.

    Remember that you only pay tax if you're making money, so don't be afraid to do things that mean you end up paying more tax!
     
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  5. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    In the last few years a lot of the tax benefits have been removed
    - no claiming of depreciation on second hand fixtures and fittings
    - no travel able to be claimed
    etc
    Many second hand properties no longer have losses due to the non-cash deductions. Taxable income is almost equal to cash flow.
     
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  6. Dan Wood

    Dan Wood Well-Known Member

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    The removing travel was a smart move as some investors abused that power to take a "holiday"..

    As for the original question, even with a negatively geared investment it's still money out of your pocket I don't see how you win either way, except if you're dropping your tax bracket significantly... But you probably won't with just one IP.
     
  7. kierank

    kierank Well-Known Member

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    Yeah, I can’t wait for the day when I pay $1M+ in income tax ;).

    Something to really celebrate!!!!!
     
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  8. Scott No Mates

    Scott No Mates Well-Known Member

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    You'll only need to gross around $2.5m to achieve that. :D
     
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  9. The Y-man

    The Y-man Moderator Staff Member

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    Congrats on being in a great financial position.
    When we started back 2 decades ago on this IP journey, we amassed as many IPs as we could get servicing for (we were on a *combined* household income of about what you earn now).

    We got our tax rate down from I think about 27% (~ish) to less than 16%pa so it can be done.

    It got pretty damn tight tho - when you are down to that level, it literally means the equivalent of living on $60k gross pay (or whatever) and we were renting too. So it was no holidays, no luxuries.... really skimping it.

    Was it worth it? I guess it was - maybe we didn't need to stretch that far (I like testing the limits) but 20 years later we are in a decent financial position.

    The Y-man
     
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  10. Trainee

    Trainee Well-Known Member

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    Dont invest for tax deductions. With resi prop theres a good case for not investing for even long term rental income. Good capital gains will beat them all if the cg happens and even if you have to pay tax on it.

    If you focus too much on deductions you might get sucked into things like otp. Or trees.
     
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  11. The Y-man

    The Y-man Moderator Staff Member

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    On this journey outlined in my previous post, this bit in bold won't work.

    If you want to do it the way we did it, IP is used as a CG tool - not a income tool.

    The strategy ONLY WORKS if the value of the property goes up more than what it costs you to hold it.

    I suggest IGNORE tax benefits to make calculations easier, AND to give yourself a bit of buffer.

    So, if you buy a $1m property, and it costs you $50k out of pocket to hold on to it, it had better go up in value at least $50k to "break even". Sure there'll be good years and bad years, but this is why where and what you buy is critical.

    Also, because it is a CG game - if you play the game right, the value goes up - but the CG won't feed you (i.e. won't give you a net income).

    Even if you pay the thing off, you may not be able to live off the rent.

    Therefore, have an exit/harvesting plan in mind where you might sell off the IP to realise the CG, and then convert to an income producing instrument (I am currently doing this with REITs and high dividend paying shares)

    IMHO in my neck of the woods, well chosen IPs are a great wealth building tool - but not a great income producing tool.

    The Y-man
     
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  12. squarepeg

    squarepeg Member

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    Sounds like this might be a better approach from the outset then?
     
  13. The Y-man

    The Y-man Moderator Staff Member

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    I am going to stick my neck out and say not necessarily because of tax :eek::eek::eek::D

    IMHO If you go full blown income strategy, you are not taking advantage of the tax laws to the hilt. Increasing your income early on means adding even more tax.

    Get yourself familiar with the income tools by all means - and start practicing - but I think to ignore the tax effective CG capabilities of IP (i.e. tax deductability of costs against earned income, depreciation, and CGT discount) if you can afford to hold it is nuts.

    The Y-man
     
  14. Beano

    Beano Well-Known Member

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    Is it likely to be this year ?
     
  15. kierank

    kierank Well-Known Member

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    Working on it :D
     
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