Deductions for investors and landlords

A person who derives investment income, such as rents, dividends or interest, can deduct expenditure incurred in connection with the derivation of that income. Deductions include interest on money borrowed to acquire the investment, ongoing expenses of deriving the income and, in certain circumstances, investment losses.

 

 

Interest

Interest on money borrowed to acquire, say, a rental property, shares in a company or units in a property trust, is generally fully deductible if it is reasonable to expect that rents, dividends or assessable trust distributions will be derived. In determining the purpose to which borrowed funds are put, eg to acquire a rental property, the ATO traces the flow of borrowed funds to establish their usage. The security used for such a borrowing has little relevance in determining the deductibility of interest. Interest can be fully deductible in an income year even though it exceeds the investment income of that year (negative gearing). But if, at the outset, the investment is not expected to turn positive over its full term, the interest deduction in each income year is likely to be at least partly disallowed.
Additional interest payable under linked and split loan facilities is not deductible. Interest referable to the capital protection component of limited recourse loans entered into on or after 16 April 2003 is also not deductible.

 

 

Ongoing expenses

Deductible ongoing expenses in deriving investment income include:

  • expenses of collecting the income, bookkeeping expenses and audit fees
  • certain fees paid to an investment adviser (see below)
  • costs of travelling interstate to consult a broker
  • the cost of financial magazines
  • bank charges
  • borrowing expenses (spread over the shorter of the loan period and five years), and mortgage discharge expenses, including legal expenses connected with the borrowing or discharge
  • repairs, rates and land tax, insurance, advertising and the legal costs of recovering arrears of rent
  • expenses connected with the preparation and registration of leases
  • depreciation of furniture and fittings (although from 1 July 2017 this is proposed to be limited to the cost of actual outlays incurred by the taxpayer and exclude outlays by a previous owner)
  • the cost of replacing small items such as crockery and linen.

It is proposed that from 1 July 2017 the travel expenses related to inspecting, maintaining or collecting rent for a residential property will be disallowed.

 

 

Repairs versus improvements

While the costs of repairs to income-producing property are deductions, the costs of improvements are not. A repair involves the replacement or renewal of a worn-out part so as to restore, but not significantly improve, the functional efficiency of a thing without changing its character. Painting a building or replacing broken parts of a fence would be repairs but replacing an entire ceiling with a new and better one would be likely to be deemed an improvement.
The cost of initial repairs to remedy defects in an asset at the time of acquisition is also not deductible but is included in the cost base of the asset for CGT purposes or its cost for depreciation purposes.

 

 

Partial deduction

A landlord’s deductions may be reduced where only part of the property is rented or where the property is let or available for let for only part of the year. Where only part of the property is let, deductions are normally allowed according to the proportion of the floor area that is rented. Where a holiday house, say, is let for only part of the income year, deductions are normally allowed according to the proportion of the year for which the house was let, including periods during which bona fide efforts were made to obtain tenants.

 

 

Financial advice fees

The ability to claim a deduction for a fee paid to a financial adviser depends upon the services which are provided in relation to the fee.
A taxpayer will not be entitled to deduction for a fee paid to a financial adviser for developing or drawing up an initial investment plan. Such a fee is not deductible as it is considered to be both of a capital nature and a preliminary expense incurred for the purpose of deriving assessable income, as opposed to being a fee incurred in the course of gaining or producing assessable income.
An on-going management fee or retainer paid to a financial adviser in relation to the servicing of the income producing investments will be deductible. To the extent that the management fee relates to investments which are not held for the purpose of producing assessable income, a deduction will not be available. Accordingly, where the taxpayer holds a mix of investments held for both income and non-income producing assets, only a portion of the fee will be deductible.
Fees which are paid to a financial adviser for advice regarding the change in mix of the investments held are generally considered to relate to the general management of investments. Such fees will be deductible unless the advice constitutes the drawing up of an investment plan.
Where a taxpayer has investments and pays a financial adviser for drawing up a new investment plan, the fee is considered to be of a capital nature and not deductible. The fee may be included in the cost base of assets acquired. For further explanation see Taxation Determination TD 95/60.

 

 

Losses on investments

Losses on investments such as shares and securities are deductible only if the taxpayer is carrying on a business of investing for profit or of trading in investments. Whether a person is carrying on such a business depends on all the facts. Some relevant factors are the frequency, volume and scale of transactions and whether they are carried out in a business-like way.

 

The source of this content is CCH‘s professional information services. Thompsons Australia has a professional subscription with CCH providing access to in-depth quality technical information and commentary used by Thompsons Australia in keeping staff and clients currently in formed.

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