The intricacies of tax depreciation can profoundly impact an investor's tax liabilities and investment returns. For accountants, understanding the key tax rulings on depreciation is crucial to advising clients effectively. Primarily, these rulings are encapsulated under Division 40 and Division 43 of the Income Tax Assessment Act 1997 (ITAA 1997). Knowing the nuances of these divisions, alongside the significant changes introduced in the 2017 federal budget, can help accountants guide their clients to maximise their tax benefits.
Under Division 40 of ITAA 1997, depreciation applies to plant and equipment assets. These are the removable fixtures and fittings within a property, such as air conditioning units, carpets, and appliances. The effective life of these assets is determined by the ATO, which outlines specific durations for different asset types. For instance, an air conditioning unit typically has an effective life between 10 to 15 years. Division 43, on the other hand, covers capital works deductions related to the structural elements of a building, such as walls, floors, and ceilings, and generally allows a 2.5% deduction per annum over 40 years for properties built after 16 September 1987.
A common misconception is that depreciation can be claimed uniformly across all investment properties. However, the 2017 budget introduced a pivotal change: investors purchasing second-hand residential properties after 7:30pm AEST on 9 May 2017 can no longer claim depreciation on previously used plant and equipment. This rule does not apply if the property was purchased before this date or if it’s a new property. Pre-existing owners were grandfathered under the old rules.
To see how this plays out, consider a practical example. Imagine a client purchasing a 2009-built 2-bedroom apartment in Fortitude Valley, Brisbane, for $650,000. If the apartment was acquired after the 2017 budget changes, the client can claim Division 43 deductions on the capital works but cannot claim Division 40 deductions on the existing plant and equipment. Assuming capital works deductions of $10,000 annually, at a 37% marginal tax rate, this reduces their tax bill by $3,700 each year.
In our experience reviewing thousands of properties across Australia, several patterns emerge. Many investors miss out on significant deductions by not obtaining a comprehensive depreciation schedule. Some overlook the benefits of pooling low-cost and low-value assets, which can accelerate depreciation claims. Another frequent oversight is failing to adjust the effective life of assets to reflect actual usage, which can optimise deductions. Additionally, renovations can reset the depreciation clock, yet this is often neglected. Finally, investors frequently misunderstand the impact of partial property use for personal purposes, which can alter depreciation claims.
The answer can differ depending on your situation. For instance, commercial properties are not subject to the same post-2017 restrictions as residential properties. Properties owned by a self-managed super fund (SMSF) may have additional compliance requirements. Joint ownership can complicate depreciation claims, as deductions must be apportioned according to ownership interest. Buildings constructed before 1987 generally do not qualify for Division 43 deductions unless subsequent renovations have been made. Lastly, properties used for both personal and investment purposes require careful apportionment of expenses.
Given the complexities and potential for financial impact, seeking professional advice is vital. A Chartered Quantity Surveyor can accurately assess a property's eligible deductions. Coupled with an accountant's tax expertise, this ensures compliance and maximises the client's tax position. Each property and investor scenario is unique, requiring tailored advice to navigate the rules effectively.