Depreciation - how important is it?

[danwatto]

Why are people so obsessed on depreciation deductions?

I'm buying some properties built before 1985 and have been debating with friends who insist that it's always better to buy new property (even OTP), because they get the depreciation deduction "for free" and think it's money for nothing.

My opinion (which we agree to disagree on) is that depreciation is priced into the property, because depreciation is not just a deduction - it is real. The property actually depreciates, which is why un-renovated older properties are cheaper than newer properties.

Why pay $50k more for a property, to get depreciation deductions, and then find a developer comes along in 5 years next door and builds something exactly the same as what you had, but better and newer..

The only benefit I can see is the bank lending you more money than you would have gotten otherwise and improving cashflow artificially, but then you could just buy more cheaper properties instead.

I'm starting to doubt myself due to the strong reaction, but these are my thoughts and happy if someone more experienced can confirm or dispute that depreciation is NOT free because:
a) You pay a premium for the property;
b) The property will depreciate, even if the fact is hidden by market appreciation
c) In the end you have to pay it all back when you sell at a higher marginal tax rate due to CGT pushing your marginal rate up

 

[D.T.]

It depends on your circumstances. It definitely forms part of the overall return.

For myself, a wage slave who earns 3 fifths of stuff all, depreciation doesn't add much to my return because I don't pay very much tax to begin with. And, I've been fortunate enough to collect a handful of properties with excellent return; depreciation just didn't factor into it (and my houses are too old anyway).

 

[pinkboy]

Depriciation should be considered a distant 3rd behind capital growth and cashflow. It really should only be seen as the 'cream' in any cashflow projection....because of your reasoning above.

You're on the right track with your thinking. Comes back to 'why spend $1 to get 30c back?'

People are obessed about the wrong aspects of tax, and are those who dont understand the taxation system. Their thinking is narrow.


pinkboy

 

[Deltaberry]

A. Who cares who is right as long as you make money

B. You can also depreciate pre 1985 houses. In fact I depreciated over 50k on pre 1900 houses this year alone.

 

[Blacky]

Depriciation should be considered a distant 3rd behind capital growth and cashflow. It really should only be seen as the 'cream' in any cashflow projection....because of your reasoning above.

You're on the right track with your thinking. Comes back to 'why spend $1 to get 30c back?'

People are obessed about the wrong aspects of tax, and are those who dont understand the taxation system. Their thinking is narrow.


pinkboy

I wanted to give you some kudos but was told I need to share the love. I dont even remember kiving you kudos before...

Anyway... kudos again

 

[Peter_Tersteeg]

For most people, depreciation is fairly negligible on any single property. I wouldn't even call it a distant third. For me it's not a consideration on the purchase decision.

It's still out there and it does usually cover the cost of a report. If the government wants to give me a tax benefit I'll take it, but nothing would change in my investment strategies if they took it away.

The same could be said for my attitude to negative gearing. I occasionally get a reasonable amount of money in my tax return which is really nice, but if it wasn't available it wouldn't affect my day to day budgeting or cash flow.

 

[danwatto]

Thanks good points guys I think we think alike

B. You can also depreciate pre 1985 houses. In fact I depreciated over 50k on pre 1900 houses this year alone.

I'm interested in this.

I know I can claim things like fixtures and fittings, low value pool etc. Which will give me some in the first few years.

But I thought the building allowance didn't apply (unless new works/renovations were done), so it's only partial depreciation.

Am I correct or am I missing something about the building allowance?

 

[Deltaberry]

It's related to new renovations, some properties of which had underwent significant renovations by the previous owner with receipts/records etc of over $500k+. All you need to do is give the information to a depreciation expert and they'll work it out.

 

[Rixter]

Depreciation is just another tool for increasing ones cash flow.

Like CG & Rental Income it also compounds with multiple properties spread across your portfolio which can increase DSR considerably and aid increasing your portfolio further yet again.

Think big & long term as to it's advantages across ones larger asset base and that increased base exposure can provide to your extra potential CG harvest.

 

[JacM]

It's a nice "cream on top" but it's not overly wise to chase property with high depreciation in lieu of a property that is capable of standing on its own two feet. A depreciation schedule will not do you much good if you have nothing to write it off against (eg if you lose your job).

With that said, a property that is in positive cashflow terrain will have its positive component taxed. A depreciation schedule can help negate the "positive" that would otherwise have been taxable income.

 

[knightm]

Similar to the other depreciation thread running today I refer you to this thread, it really is worth reading. And I agree that tax is never the reason to invest. Profit is. Anything that can make holding a few easier along the way is worth it though.

 

[danwatto]

Similar to the other depreciation thread running today I refer you to this thread, it really is worth reading. And I agree that tax is never the reason to invest. Profit is. Anything that can make holding a few easier along the way is worth it though.

Thanks I've used Scott once before, and he did a free update to my schedule for me when I moved out of an IP that I lived in for a while. Will use him again.

 

[danwatto]

It also compounds with multiple properties spread across your portfolio which can increase DSR considerably and aid increasing your portfolio further yet again.

Hi Rixter,

Are you talking about real DSR, or the bank's DSR calculations?

The bank's DSR calculator is more concern to me, than real DSR since I can always budget to make anything work. But I'm always worried that one day the bank will say no - and this makes me lean more towards positive cashflow properties instead of negative+depreciation properties.

But this was based on the assumption that the bank doesn't take into account depreciation tax deductions, I mean they've never asked to see my QS reports or tax returns for proof of deductions, and if they did do it I would think it was based on a % estimate in their calculators.

But real DSR I can see how it can add up over say 10 properties. But on that same point, across lots of properties the savings you make buying older properties can add up too, being able to buy more sooner gets you growing faster and more land value.

 

[Deltaberry]

I never buy properties for depreciation. Didn't even cross my mind until my accountant said I should do it.

 

[depreciator]

Even I don't think possible depreciation should be a big factor in a purchase decision. It's a handy thing to defray holding costs, especially in the early years, while capital growth does its thing.

 

[Rixter]

Hi Rixter,

Are you talking about real DSR, or the bank's DSR calculations?

The bank's DSR calculator is more concern to me, than real DSR since I can always budget to make anything work. But I'm always worried that one day the bank will say no - and this makes me lean more towards positive cashflow properties instead of negative+depreciation properties.

But this was based on the assumption that the bank doesn't take into account depreciation tax deductions, I mean they've never asked to see my QS reports or tax returns for proof of deductions, and if they did do it I would think it was based on a % estimate in their calculators.

But real DSR I can see how it can add up over say 10 properties. But on that same point, across lots of properties the savings you make buying older properties can add up too, being able to buy more sooner gets you growing faster and more land value.

Real DSR & Bank DSR as some banks take tax into consideration.

Dont get me wrong, Im not saying buying for non -cash depreciation is the main focus.... its purely a CF tool that can be used as part of a bigger strategy.

 

[Rixter]

I never buy properties for depreciation. Didn't even cross my mind until my accountant said I should do it.

Yep, 4 out of 5 people who have IP have not heard of a Quantity Surveyor.

 

[chilliblue]

My concern for newer properties is the self certification for builders which is resulting in higher numbers of poorly built properties and sometimes incorrectly connections to utilities.

 

[morg]

A lot of good points above, particularly subsidising holding costs.
Don't forget that whatever you claim as depreciation, comes off your cost base as well.
This will come into play when working out your capital gain.
So while you're increasing your cash flow now, you will pay for it later when the ATO comes for its piece of your capital gain.
Just something to consider.