Tax deductions & Depreciation????????

Hi Guys
After much consideration and some helpful advice from some of you here on the forum about our original plan to buy, reno then sell IP's, we have decided to change direction and buy & hold.
Found a property (which would be our first IP) and am wanting to put an offer in. Its a 1977 BV with 3 bedrooms, 2 bathrooms, 2 car garage and listed for $215K. Deceased estate. Agent told us they would sell for $200K so i have been basing my calculations on the $200K but am having trouble working out if it will be costing me money, neutral or putting money in my pocket. Agents property manager says it would rent out for $260 per week.
Below is what i have come up with. Am i barking up the wrong tree with these figures in regards to TAX DEDUCTIONS & DEPRECIATIONS.

Allowed total costs to be $210K (incl stamp duty, legals)
Deposit of $42K from LOC @ 5.23%
80% Loan = $168K @ 5.23%

Claimable Expenses below:
Interest on loan = $10,983
Agents fees = $1518 (8% + 2 weeks rent) Based on 48 weeks per year
Rates = $2200 (Council and Water)
Insurances = $1000? approx (Building, Contents & Landlord)
Maintenance = $1000? approx

Total Expenses = $16701
Rental Income = $12480 (based on 48 weeks)

So i am $4221 per year/ $81.17 per week out of pocket. So at this point it is negative. But beyond this point is where i am not so sure what TAX DEDUCTIONS & DEPRECIATION do to the equation. I have worked out something below and was wandering if you guys could steer me in the right direction if i am correct, sort of correct or totally wrong.

Currently my taxable income is $62K without any IP.
Tax payable would be $12,627.(incl 1.5% Medicare Levy)

With IP above my total income would be $74480 ($62000 + $12480 rent)
Taxable Income = $57779 ( $74480 income minus $16701 expenses)
Tax payable = $11,191 (incl 1.5% Medicare Levy)

$12,627 - $11,191 = $1,436 difference.
So does this mean that originally i was $4221 negative for the year but now i would only be $2785 negative for the year.
I havent factored in anything for depreciation but on a BMT calculator it suggested a first year deprciation of $1200. So does this come off the taxable income further reducing my holding costs?

Hope i have explained my situation clearly enough.

regards
RTF
 
Hi Guys
After much consideration and some helpful advice from some of you here on the forum about our original plan to buy, reno then sell IP's, we have decided to change direction and buy & hold.
Found a property (which would be our first IP) and am wanting to put an offer in. Its a 1977 BV with 3 bedrooms, 2 bathrooms, 2 car garage and listed for $215K. Deceased estate. Agent told us they would sell for $200K so i have been basing my calculations on the $200K but am having trouble working out if it will be costing me money, neutral or putting money in my pocket. Agents property manager says it would rent out for $260 per week.
Below is what i have come up with. Am i barking up the wrong tree with these figures in regards to TAX DEDUCTIONS & DEPRECIATIONS.

Allowed total costs to be $210K (incl stamp duty, legals)
Deposit of $42K from LOC @ 5.23%
80% Loan = $168K @ 5.23%

Claimable Expenses below:
Interest on loan = $10,983
Agents fees = $1518 (8% + 2 weeks rent) Based on 48 weeks per year
Rates = $2200 (Council and Water)
Insurances = $1000? approx (Building, Contents & Landlord)
Maintenance = $1000? approx

Total Expenses = $16701
Rental Income = $12480 (based on 48 weeks)

So i am $4221 per year/ $81.17 per week out of pocket. So at this point it is negative. But beyond this point is where i am not so sure what TAX DEDUCTIONS & DEPRECIATION do to the equation. I have worked out something below and was wandering if you guys could steer me in the right direction if i am correct, sort of correct or totally wrong.

Currently my taxable income is $62K without any IP.
Tax payable would be $12,627.(incl 1.5% Medicare Levy)

With IP above my total income would be $74480 ($62000 + $12480 rent)
Taxable Income = $57779 ( $74480 income minus $16701 expenses)
Tax payable = $11,191 (incl 1.5% Medicare Levy)

$12,627 - $11,191 = $1,436 difference.
So does this mean that originally i was $4221 negative for the year but now i would only be $2785 negative for the year.
I havent factored in anything for depreciation but on a BMT calculator it suggested a first year deprciation of $1200. So does this come off the taxable income further reducing my holding costs?

Hope i have explained my situation clearly enough.

regards
RTF

Easy e.g.

$20,000 rent = inome
$22,000 cash expenses (ie things you actually pay for each year)
----------
$2,000 loss = this is what it costs for you to hold before tax.

Then consider non cash tax deductions - depreciation, LMI etc = things you may have paid for once but can still claim without having to fork out money again.

$1200 fittings
$800 LMI (20% per year for 5 years generally)
----------
$2,000 further loss


= $4,000 total loss.


Income is $62,000 before hand
New income is now $58,000

Tax saved= $1500 (estimate - work it out properly)



Actual cashflow = $2000 loss and $1500 tax back = $500 loss
 
Thanks for your reply Terry.
I appreciate your example and please don't take this the wrong way but is it possible to just stick with my above example so i can get my head around my very own real example/situation. I am very new to all this and would find it much easier if the figures i have provided could be used to point out the right and wrongs if any. It is very very possible that i have left out some areas that would need to be considered in my example, but is what i described correct?

thanks
 
The depreciation deductions on a 1977 property which hasnt had extensive renovations in the past 10 years might be negligible even if a quantity surveyor was paid to prepare a report. By depreciation deductions I'm referring to plant & equipmnet and fixtures & fittings. Your $1200 seems very high and using a website estimation tool might be leading you astray. ie the 1977 issue .

In addition the propery is potentially not eligible for capital allowance deductions of 2.5% / 4% of the contruction cost as it was constructed prior to the start date of relevant tax law.

I would call and discuss your concerns with BMT. BMT offer a fee guarantee that if they cant deliver tax savings of their fee they discount / rebate their fee - Even to Nil. They would happily discuss this and guide you as they wont want you to pay $$ and waste their time either.

Also why did you allow 48 weeks agent fees. Why not 52 ?

Of the "net rental loss" of $4221 you would likely receive a tax benefit in form of a higher tax refund at a marginal tax rate of 35% (say) = $1477. So your cashflow "loss" is $2744. Also consider if your loan is P&I or interest only. If its interest only no change to the above. If its P&I you need to factor in the higher repayments above the interest as a cashflow out. ie : Bank repayt is $422 FN but repays are $600 = $4628pa principal reductions.. Results in net cashflow out of $7372 ($283 FN)
 
I think it's a good move. It will get you a lot further in the longer term, if not so much in the shorter term.

LMI has been mentioned, That's Loan Mortgage Insurance, which is payable if your loan goes above 80% of the value of the property (or security). You've mentioned 80% of the total including acquisition costs- which is above the 80% of the property's value. If you have the LOC available I'd use that, if you have enough available, to ensure that you don't have to pay LMI.

The property you are looking at is older. It's true that if it hasn't had work done on it then you cannot claim depreciation. However, if it's that old and doesn't have work then it has scope for renovation, to increase rent as well as value.

You are on the right track with regard to expenses. Make sure that you can afford the number you get out- and add a substantial amount to allow for unforeseen events.

The other side is the growth. Make sure that you have a property which will grow- as far as you can tell- in order for it to be worth while. I'd be guessing perhaps a country city or town given the price? What's the local economy of the town like? History of growth? Rental vacancies and rent growth? If it's an older place I'd be guessing that the immediate area is well built out. You don't want a place with lots of vacant land.
 
The depreciation deductions on a 1977 property which hasnt had extensive renovations in the past 10 years might be negligible even if a quantity surveyor was paid to prepare a report. By depreciation deductions I'm referring to plant & equipmnet and fixtures & fittings. Your $1200 seems very high and using a website estimation tool might be leading you astray. ie the 1977 issue .

In addition the propery is potentially not eligible for capital allowance deductions of 2.5% / 4% of the contruction cost as it was constructed prior to the start date of relevant tax law.

I would call and discuss your concerns with BMT. BMT offer a fee guarantee that if they cant deliver tax savings of their fee they discount / rebate their fee - Even to Nil. They would happily discuss this and guide you as they wont want you to pay $$ and waste their time either.
Thanks Paul for the advice, i rang BMT and spoke to Aaron and he was very confident that it is worth while doing a depreciation schedule even on a 1977 property. He done some quick calcs and got a min figure of $2500 - $3000 in the first year.

Also why did you allow 48 weeks agent fees. Why not 52 ?
I allowed the property to be a least on average vacant for 1 month a year. Agents don't charge you if its vacant do they?

Of the "net rental loss" of $4221 you would likely receive a tax benefit in form of a higher tax refund at a marginal tax rate of 35% (say) = $1477. So your cashflow "loss" is $2744. Also consider if your loan is P&I or interest only. If its interest only no change to the above. If its P&I you need to factor in the higher repayments above the interest as a cashflow out. ie : Bank repayt is $422 FN but repays are $600 = $4628pa principal reductions.. Results in net cashflow out of $7372 ($283 FN)
Yes the above calcs were on interest only and i did keep in mind the P&I repayments.
 
I think it's a good move. It will get you a lot further in the longer term, if not so much in the shorter term.
Thanks Geoff for your earlier advice and pointing out some of the tax issues that would have eventuated.

LMI has been mentioned, That's Loan Mortgage Insurance, which is payable if your loan goes above 80% of the value of the property (or security). You've mentioned 80% of the total including acquisition costs- which is above the 80% of the property's value. If you have the LOC available I'd use that, if you have enough available, to ensure that you don't have to pay LMI.
Ah yes i see your point here. So just borrow 80% of the house cost ($160K) and use LOC for the 20% deposit and aquisiton costs ($40K + $10K = $50K)

The property you are looking at is older. It's true that if it hasn't had work done on it then you cannot claim depreciation. However, if it's that old and doesn't have work then it has scope for renovation, to increase rent as well as value.

You are on the right track with regard to expenses. Make sure that you can afford the number you get out- and add a substantial amount to allow for unforeseen events.
What would you consider a substantial amount? 5% of total holding costs, 10% or more?

The other side is the growth. Make sure that you have a property which will grow- as far as you can tell- in order for it to be worth while. I'd be guessing perhaps a country city or town given the price? What's the local economy of the town like? History of growth? Rental vacancies and rent growth? If it's an older place I'd be guessing that the immediate area is well built out. You don't want a place with lots of vacant land.
The growth of properties in the town does worry me slightly but the 2 towns either side are getting better. You guessed right with it being a country town - MORWELL, VIC. Need to do some more research on the other questions about the town you have asked. Vacant land not an issue.
 
Ah yes i see your point here. So just borrow 80% of the house cost ($160K) and use LOC for the 20% deposit and aquisiton costs ($40K + $10K = $50K)
Got it in one.

What would you consider a substantial amount? 5% of total holding costs, 10% or more?
Haha- if I could answer that, they wouldn't be unforeseen costs.

Just make sure that you have some money to spare at the end of each week- perhaps put it into your LOC so that it's available if it's needed. Things happen which will eat into your cashflow. A hot water system blows up, a treee blows down. Insurance will cover some things, but even then there's an excess. If you live too close to the line you may have issues.
 
Then consider non cash tax deductions - depreciation, LMI etc = things you may have paid for once but can still claim without having to fork out money again.

$1200 fittings
$800 LMI (20% per year for 5 years generally)
Sorry for the newb question - what is LMI?
 
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