Tax Tip 251: CGT and Building Depreciation

When a property is sold and the main residence exemption is not used the building works depreciation (div 43) on the property should be ‘clawed back’ when working out CGT because of s110-145 ITAA97 INCOME TAX ASSESSMENT ACT 1997 - SECT 110.45 Assets acquired after 7.30 pm on 13 May 1997


This applies to property acquired after 13 May 1997.


Example

Homer entered a contract to buy an investment property in July 2009.

The purchase price was $500,000 and a quantity surveyor estimated the building works claimable to be $5,000 per year.

Homer sells this property 10 years later for $1,000,000.

10 years of $5,000 in building works per year is $50,000

So, when working out the cost base of the property this is deducted.

If the stamp duty and buying costs were $20,000 and the sale costs were $30,000 the cost base would be, roughly

$500,000 + 20,000 - $50,000 +$30,000 = $500,000

Proceeds are $1mil

Therefore, the capital gain would be $500,000

 

Thanks Terry, do you have a similar example showing how to treat Div 40 items?

 

See related post
Tax Tip 252: CGT and Depreciation of Plant and Equipment Tax Tip 252: CGT and Depreciation of Plant and Equipment

 

Is this another reason to favour shares?

 

Many so called shares include claw back style arrangements. Most managed funds and Etf pay amit or tax deferred elements. It is exactly same as depreciation claw backs and most people have zero idea. Some pay as much as 80% of income this way yet the investor doesnt know

 

Would these be property-based investments?

 

What if Homer had not claimed the $5000 per year? Would his cost base then be $450000 in this example?

If this is so, and there are significant periods of non-residence, then Homer would be better off not claiming building depreciation, as a large CGT hit when the building is sold would be in the 45% tax bracket, while annual depreciation might only be in the 32.5% tax bracket. If always a resident, then the 50% discount applies and so the top effective CGT is 22.5%.

 

You would have to look at the wording of the law, but I beleive it doesn't matter whether claimed or not.

 

Thanks Terry: The law talks about whether you "have deducted" or "can deduct" it. By "can deduct" my guess is that the period for amending the tax return has not expired. For an individual tax payer the amendment period is 2 years.

 

That isnt the relevant issue affected by those terms. Choosing not to claim a known deduction is relevant. Vs not having a qs report. Prior period deductions may be a concern even outside amendment time however not ever having a report may be ok.

Generally a 50% benefit occurs and deductions may benefit but not always. The apparent purpose of this law was to defeat choices to not deduct where losses or other offset factors may produce a tax benefit

 

Hi Terry,
Great example,
I'm awaiting my depreciation schedule to arrive next week on a newly completed build.
BMT advises that "total depreciation has been assessed to be in excess of $340k for the life of the property".
In a nutshell - Thus would I be correct in roughly calculating a projection example of say:

Property Purchased $250k in 2014
Buying costs $20k
Construction $350k in 2019

$250k + $20k + $350k = $620k revised cost base

minus $340k depreciation claimed over 40 yrs....

$620k - $340k = $280k Cost base

Sell Property say... $2,000,000 in Yr 2060 for arguments sake

Capital Gain of $1,720,000k.....

Is that pretty much right.....??

Obviously then with 50% cgt discount = $860k would be taxed at whatever my tax rate will be in Yr 2060.... Hopefully still around

 

Hi Paul, can you expand on this further? I'm primarily a shares investor but aren't familiar with this detail, could you explain or point me in the right direction?

 

The cost base would be $550k, not $450k As you are not deducting the $50k.

 

Many ETFs and managed funds issue a tax statement at year end. There may be tax preferred amounts (now called Attribution Managed Investmnet Trusts or AMIT adjustmnets) that increase or lower the costbase as well as tax deferred amounts. Rarely some paymnets are tax free. These usually lower the costbase which....raises the CGT profit on sale. Which may be subject to the general discount.