Tax Tip 305: Supporting Immigrant Parents by Letting Them Live in your Property – Tax Effectively

Some people’s parents get permanent visas and come to live in Australia from overseas. They are often unable to work and nearly always unable to qualify for a loan to purchase their own main residences. The children who are living here will need to help them out and sometimes they might want to buy an investment property and rent to the parents. But this is not the only way, and might not be the best way.

You have 3 choices

a) Rent to them at market rates
b) Let them live there for free
c) Help them rent a 3rd party property.

There is much more to it than tax, but we are just going to focus on the tax issues in this post.

Assuming you have your own main residence and have to borrow for the property.


Market Rent

If you rent at market rates you will be able to claim all associated expenses. This may at first sound pleasing to you, but the rent is income and these days your rents are probably going to cover almost all expenses.

So, the net result will be no tax savings at all – or perhaps a very small tax saving.

You might be better off not charging rent.


Rent Free

Allowing the parents to live in your property without charging them rent might work out better.

This is because when you sell the property in the future most of the costs can be used to reduce CGT on the property.

Whether you allow the parents to pay market rent or let them live there rent free you would need to pay CGT on the property when it is sold – assuming you have your own property.

Not claiming the expenses can result in a much greater tax saving in the end.


Example

Bart is living in Australia with his spouse. His parents Homer and Marge and fled their home overseas and are now permanent residents of Australia. They are older and cannot qualify for a loan.

Bart borrows $400,000 to buy a property for them to live in. the market rent is about $400 pw and it works out to be cashflow neutral.

Bart decides to let them live there rent free.

Each year there are about $20,000 in expenses for the property. Bart would normally claim these but as the rent is about $20,000 there is no point really, as there will be no change in taxable income. In fact, as market rents rise over the years Bart would end up paying more tax on the positive income.

When the property is eventually sold any unclaimed interest, rates, building insurance etc will be cost base expenses and this will increase the cost base of the property resulting in a lower capital gain. If the property is sold 10 years later Bart is now able to increase the cost base by $200,000.

If the property had double in value to $800,000 the cost base expenses might come to say $40,000 for buying and selling costs and extra $200,000 for the interest etc.

The capital gain will be reduced to $160,000 and then to $80,000 after the 50% discount.

The extra $200,000 in expenses that Bart did not claim will potentially save him $47,000 in tax.


Renting Generally

They could rent a property owned by someone else. This is what usually happens, but the amount spent these days is often the same amount as owning the property. So, the cost is the same but the benefit of capital growth is not received. It certainly will resolve the CGT problem though as someone else will be making the profit.

 

There is also a more complicated:
d) They can live with you.

If they pay market rent then as owner you may be able to claim a portion of the ownership costs. And land tax exemption is generally allowed while the owner also resides there.
Sometimes if arrivals are on paid benefits after arrival the paying of rent can attract rental subsidies. This doesnt mean you should pursue this path to assist them.

Some, however, will seek to claim a portion of their own home costs as a deduction against what may be either
1. No rent actually paid
2. Non-market rent is paid
3. You dont "really" live there at all

Each has complicated tax outcomes:

1. No rent actually paid.
You cant just notionally declare rent that isnt actually paid. The ATO will cancel the deductions and penalties could apply. Beacuse a deduction is only allowed against income received. None was received. You cant notionally add income to make up for this. The ATO will expect to see actual rent received and even receipts issued that indicate the period paid.

2. Non-market rent is paid.
Deductions will be denied to the extent the rent is not at a market rate. The ATO will request and expect you have records that demonstrate how you determined the rate of rent. It a standard request for all rental reviews. eg Market rent is $450pw and the parents/relatives/friends pay $225 per week. 50% of deductions are non-dedcuctible.

3. You claim to live there but dont.
Common. Most common reasons people want to appear to live there can be CGT exemption & land tax. A matter each state revenue office can detect, often after several years. They have access to a diverse range of data. These sort of acts are fraudulent and the ATO and OSR are vigilant. The land tax may fall under thresholds and the CGT absence exemption concession could apply.

Then there can be land tax issues.
Each state has a different view on what a principal place of residence is. eg In NSW Schedule 1A of the Land Tax Act.

Clause 2 requires one owner actually occupy the property as their principal place of residence. Live elsewhere and this is fatal to exemption.
Clause 4 can pose a problem for a property with more than one unit of accomodation eg a property with three areas of living accomodation. If one is rented on arms length and one is used by the parent and one by the owner the exemption is not 100%. There is a two room limit to the parents use of your property that could apply. The question is - Are the parents on a lease or tenancy ? Maybe best they arent in some instances. Instead they can board and lodge. It may be impacted by what they pay !
Clause 10B is similiar to Clause 4 and applies to property where there are two or more flats. A proportionate concession applies to the unit occupied by the owner, only
Clause 13 applies where there is more than one lot of land and multiple residences (eg one home on each of two joined blocks). The separate building are not each exempt. Only the main residence.

It is wise to seek LEGAL and tax advice if you considering exploring these options

 

Thanks Terry & Paul, I really enjoy your tips.

Is the assumption for option "a) Rent to them at market rates" that you are gifting/loaning the parents the money for rent, which they then pay back to you? I ask because if the parents are paying market rent to you, that might leave you with $20k/year better cashflow.

Would it be worth considering some other options:

e) loan parents money to buy their own property (interest-free loan perhaps)

Pros:

• Parents would pay no capital gains tax due to PPOR exemption
• More of parents wealth is moved into PPOR, which isn't means-tested for pension
• Structuring as loan would pass on the value of the loan to me after parents death (and loan can always be forgiven into a gift later on if desired)

Cons:

• Opportunity cost of the money used to purchase the house not earning income
• Parents get all the capital gains (I don't get any capital gains)
• Parents get control over the asset, and could drawdown its equity in retirement potentially leaving us with nothing to inherit (I suppose I could take a mortgage on the home as security?)

f) Invest in stocks via family trust, distribute income to family, for them to rent from someone else

Pros:

• Stocks probably have higher returns

Cons:

• Dividends are variable (could make up the difference with loans/gifts to parents)
• Pension: Would probably need a centrelink ruling determining the trust assets shouldn't be deemed to be parents' assets, might be a big job.

As you say, "There is much more to it than tax"! This is complicated stuff

 

It will all depend on the circumstances. A gift or loan or parents may have their own income.

See also
Legal Tip 25: Children helping parents out https://propertychat.com.au/community/threads/legal-tip-25-children-helping-parents-out.1323/

 

Any benefits to buying the property in a family trust and letting them live rent free?

 

Yes, but loss of the main residence CGT exemption and land tax in some states - very expensive in NSW.

 

Loss of main residence CGT exemption is only an issue if that is the only asset the kids have that can use that exemption.

Would family trust get a separate threshold for land tax? compared to buying more in personal names?

 

In Vic it would get a separate threshold and in QLD. In NSW no threshold for a discretionary trust.

Remember if held on trust the asset cannot pass via the will and into a testamentary trust