Seller beware! (of CGT and Depreciation)

Seller beware!


Yesterday I had a chat with an old friend of mine, who found himself nearly broke after paying a tax bill that came as a surprise. Several years ago he bought a unit OTP in Sydney. The building had a gym, a pool, a BBQ area, lifts, etc. Over 4 years he claimed a lot of depreciation. In 2002 fy he sold the unit expecting to pay $20K in CGT. What he has not realised however was the fact that the claims he made over the years reduced property's capital base increasing the CGT. The actual CGT bill he received was around $45K.

Seller beware!

Say Cheese :p

Yeah this one catches a lot of newbies.

All those really expensive seminars rarely tell you that the huge depreciation claims on new property comes off the cost base.

You are spending capital not income folks.

Paul Zag
G'day Paul, Lotana & All

I tried to recall the details of this post in discussion with work colleagues last night but was unable to provide specifics for an example of how this would work. It was 04:00am after all!

Wondering if one of you might be kind enough to provide a practical example of the relevant CG formula at work on say an apartment purchased for $275K plus a furnishings package of $25K. Purchase costs and charges of around $18K. Total $318K. The apartment is then sold three years later for $375K.

Investor is in top tax bracket.

I hope i've provided enough (theoretical) information.

Cheers Ian
I believe the Jan Somers book on property investing mentions this.

The question then is whether it is worth claiming depreciation if it is going to come off the cost base?


Originally posted by Kevmeister
The question then is whether it is worth claiming depreciation if it is going to come off the cost base?

I would say "it depends" !

Over the long term, cash in hand NOW is way better than an extra CGT hit IF you sell some time in the distant future.

However, if you are buying to resell in the short term, then perhaps the extra CGT may not be worth it. Your accountant would be able to go through the sums in detail with you and do a cost-benefit analysis.
Am I meant to infer from the original post that the owner of the apartment is entitled to claim part depreciation of the common property? Why were the lifts, swimming pool, gym etc mentioned?

Or does the Body Corporate "own" these and depreciate them?

Not sure how this works.
The question then is whether it is worth claiming depreciation if it is going to come off the cost base?
Wouldn’t it be worth while to claim the depreciation if you held the property for more than one year, to claim the 50% CGT exemption?

Say a new property cost you $400,000. To simplify it, we’ll say that includes acquisition costs. You claimed $40,000 in depreciation over 3 years. So you get back $20K if you’re on the higher tax bracket.

You sell it for $400,000 net (after commissions etc). It was a dog of a property- but it keeps the illustration simple. You expect no CGT, but you discover that the cost base is $40K less because of the depreciation. So you have to pay CGT on $40K.

But there’s a 50% exemption because you’ve held it more than 12 months. So you pay tax on $20K. You’re still on the highest bracket, so you pay $10K. After you’ve claimed back $20K.

And that doesn’t even take into account the “real value” money you got back several years ago.

I think this concerns the diminishing value of cash due to inflation.

If we consider what $10k, buys today, and what it bought 20 years ago, then we all would have elected to buy that property 20yrs ago.

So, $10k today as a deposit, as opposed to $10k sometime in the future as a deposit, may show that its better to get the funds now rather than later.

Of course, if that $10k is used to fund a holiday than my arguement is moot :p

Michael G

If you look at your plans, it will indicate a "unit entitlement". This entitlement is your % ownership of the common property. Usually this is determined by initial purchase price / total price for the complex.

The unit entitlement determines your strata and sinking fund components, ie if your entitlement is 10% then you pay 10% towards repairs and maintenance.

I do not know exactly, but this may also be used to determine your depreciation entitlement of common property. This includes everything from the pipes to the properties to the common ground lights, and switch box, etc.

Michael G
I don't quite understand -

Say you bought the property for 100k and claimed 20k worth of depreciation.

The depreciation claims reduced the 'cost base' to 80k so if you sell the property now for 120k your CGT is 40k ? (120-80)


Originally posted by giraffe
The depreciation claims reduced the 'cost base' to 80k so if you sell the property now for 120k your CGT is 40k ? (120-80)

Not quite Giraffe... your "Capital Gains" are 40K, but your "Capital Gains Tax (CGT)" will be determined by other factors (ie. which tax bracket you are in etc). Capital gains tax is calculated by adding the gain to your taxable income and then they work out what rate to charge you tax at. Also if you've held for more than 12 months, you only add half of that gain to your income.

Let's say you are currently on a taxable income of $25Kpa, and you sold the property as in your example, after about 9 months of ownership. You made $40K in capital gains, so your total income for tax purposes in that year is $65K, and you use that figure to work out how much income tax you shoud pay in total.

However, if you kept the house until you had owned it more than 12 months, then you only add half of that gain to your income, so you earn $25K + $20K discounted capital gain = $45K taxable income, and so this is the figure that you would use to work out how much income tax to pay for that year.
A few calculations..


Some basic calculations to try and get my head around this...

Presume bought IP at 100k, Highest income tax bracket (50% to make it easy), and 10k depreciation each year and 0% rise in IP price.

End of Year 1 cost base = 90k
tax savings = 5k
If sold CGT = 2.5k

End of Year 3 cost base = 70k
tax saving to date = 15k (3yrs @ 5k pa)
If sold CGT = 7.5k (half CG = 15k x 50%)

Presume 25k income pa (30% tax)

End of Year 1 cost base = 90k
tax savings = 3k
If sold CGT = 1.5k

So same thing applies only if you have depreciated more than 25k from the prop you will move into the next tax bracket...:(

Seems that as long as you hold for more than the 12mths to get 50% of CG's deduction claiming depreciating leaves you in long as you have the $ to pay the CGT if you sell...:p. Also depreciating that 10k pa may take you into the lower tax bracket meaning even more savings.


PS: Hope this wasn't toooo basic so everyone is bored to death...;)