Claiming Rental Expenses

The ATO has taken a “prevention is better than a cure” approach to ensuring that taxpayers who own a rental property are aware of the allowable rental property deductions. Recently the ATO has targeted a number of rental property owners in a bid to ensure that the rules regarding detectability of interest, repairs and maintenance, borrowing expenses and capital works deductions are understood.

Taxpayers can claim:

Interest: Taxpayers can claim interest that is incurred on a loan that has been used for:

• purchasing a rental property;
• purchasing depreciating assets (e.g. heating and cooling units);
• repairs and maintenance (e.g. damaged roof, floor etc);
• renovations to the rental property (e.g. pergola, deck etc); or
• purchasing land on which the rental property will be built.

Interest that has been pre-paid up to 12 months in advance may also be able to be claimed, depending on the type of taxpayer.

Repairs and Maintenance: Repairs mean “work to make good or remedy defects in, damage to or deterioration of the property.” Examples of repairs include replacing part of the guttering or windows damaged in a storm, replacing part of a fence damaged by a falling tree branch, repairing electrical appliances or machinery etc.

Maintenance means “work to prevent deterioration or fix existing deterioration.” Examples include painting a rental property, oiling or cleaning door locks which are otherwise in good working condition, maintaining plumbing etc.

A deduction for the full cost of the repairs and maintenance may be claimed as a tax deduction in the year the expense is incurred.

Borrowing expenses:

The following may be claimed as borrowing expenses:

• stamp duty charged on the mortgage;
• loan establishment fees;
• title search fees charged by a lender;
• costs for preparing and filing mortgage documents;
• mortgage broker fees;
• fees for a valuation required for loan approval; and
• lender's mortgage insurance, which is insurance taken out by the lender and billed to you.

If the total borrowing expenses exceed $100, the deduction must be spread over five years or the term of the loan, whichever is less.

Capital works deductions:

A capital works deduction is available on income producing residential rental properties built after 17 July 1985 for:

• building construction costs;
• the cost of altering a building; and
• the cost of capital improvements to the surrounding property.

Depending on when the property was constructed (see table below), the deduction is usually at a rate of 2.5% per year in the 40 years following construction. Examples of capital works include extensions (e.g. a garage), alterations (e.g. kitchen or bathroom etc) and structural improvements (e.g. sealed driveway, retaining wall or fence etc).

If a taxpayer purchased a property and does not have a record of the construction costs, this information can be obtained from an appropriately qualified person (usually a quantity surveyor) and a deduction claimed for the fee charged.

Taxpayers cannot claim:

Interest: Taxpayers cannot claim or may be required to apportion interest on a loan where:

• the property was partly occupied by the taxpayer. An example is if the taxpayer uses the property as a holiday home during the year or only part of the property is used to earn rent;
• part of the loan relates to private use. An example is where a loan serves two purposes; to service the purchase of a rental property and purchase a car used for private purposes;
• the property is available for rent for only part of the year. Note that as long as active and bona-fide attempts are made to rent a property, it will be considered available for rent even if the property is not tenanted; and
• the property is not rented at commercial rates. An example is where the property is rented to relatives of friends at a discount to market rent.

Repairs and Maintenance: The ATO has highlighted that a taxpayer must know the difference between repairs and an improvement. A repair means the remedying or making good of defects in, damage to, or deterioration of property to be repaired (being defects, damage or deterioration in a mechanical and physical sense) and contemplates the continued existence of the property. Where the asset is improved rather than being repaired to its original condition an immediate deduction will generally not be available, with the costs having to be deducted over time under the capital allowance provisions.

Deductions are also denied for initial repairs, being expenditure incurred in remedying a defect or that makes good damage to, or deterioration of property, that was existing when the property was acquired and that has not arisen from the income generating activities of the taxpayer that has incurred the expenditure. Such costs may however be eligible for deductions under the capital allowance provisions. Taxation Ruling TR 97/23 provides detailed commentary and examples as to what constitutes repair expenditure.

The ATO produces a comprehensive guide for individuals with rental properties annually. A copy of the 2009 guide can be viewed using the following link:

http://www.ato.gov.au/individuals/content.asp?doc=/content/00191817.htm