Tenant paid rent in advance

[THR]

So for the first time my tenant elected to pay rent in advance - six weeks of it. As a result, I received double the rent I expected this month - and received it on June 30 (end of the month).

As a consequence, my end of year tenancy statement has another ~ $3,000 on it that I did not anticipate and it relates to the next financial year, but has been paid in this financial year.

Does anyone know what the tax implications are of receiving rental income in this financial year when it relates to a period in advance? I can't find any information on the ATO website about it (perhaps not looking in the right place!).

I don't want to have to pay income tax on it this year...! Should I ask the rental agency for a revised end of year statement?

Gah!

 

[Terry_w]

Generally taxed when received.

 

[Paul@PFI]

Taxed when received by an individual taxpayer...

A rare example of exception. Client IP lost to fire. LL policy paid a years rent as part of the claim for loss. It was received in June 2013 for the period through to May 2014. On first glace s6-5 ITAA97 considers the income derived on receipt and assessable in full in 2013. However, s15-30 treats an insurance claim differently and applies a test of "otherwise assessable"...Therefore it can be apportioned over the period of the loss of income and matched against expenses. In my client example I sought a private ruling that the Commissioner would not consider the rent received under "ordinary concepts" to bypass this rule.

The tenant payment issue can be problematic in many cases:
- Rent arrears
- Tenancy Tribunal claims for lost rent, damages and arrears which are paid in a lump sum
- Prepaid rent

Of course next year the income may be a month less...Or they might repeat this process. Or you might choose to prepay an equal value of expenses such a rates, strata etc.

 

[Rixter]

I don't want to have to pay income tax on it this year...!

You could of paid some of next years expenses in advance and offset the extra rental income.. did you do that?

 

[D.T.]

I don't want to have to pay income tax on it this year...! Should I ask the rental agency for a revised end of year statement?

Gah!

It really makes stuff all difference in the grand scheme of things. You'll have to pay it next year if you don't this year. It all works out the same.

It's also why I dont understand why people would want to prepay annual interest. It's just deferring the cost and means you won't have any deductions next financial year unless you do the same again. Just chasing tail like a dog unless there's a specific reason for it (like a CGT triggered sale you're trying to offset perhaps).

 

[Paul@PFI]

Dave - Yeah I have seen clients miss a year or the final year of their IP and its a huge whammy. I don't encourage it except if there is a massive capital gain in one year and they thinking of selling in the next.

 

[Rixter]

It's also why I dont understand why people would want to prepay annual interest.

Because I can get it working for me this year in advance instead of having to wait until next year or beyond...

No matter what investment vehicle you choose, one should always be working towards minimising risks and maximising cash flows where ever possible. Pre-paying expenses is just one tool at our disposal for doing so.

Investing is about leveraging Time & as well as Capital.

('time in' the market not 'timing' the market)

Working smart not hard.

 

[Paul@PFI]

That's a very fair point. Ditto to a PAYG Variation. I see many people who don't want to do one and patiently wait until April - 9 months later for a large refund. Others lodge in first weeks of July. Other claim variation and get a year up on refunds.

Around 80% of IP owners cant be convinced to invest in a QS report....Some would label that madness. Others aren't concerned. They don't want or care about tax savings.

For some it can represent a lot of IP cashflow. Important we don't judge others views as their circumstance isn't same as ours. Some need those refunds to fund the CF on IP #3 etc....Without it they would need to find $12,000 ? of cash...Its hard to find $1k lying around in shopperdocket fuel and grocery savings every month.

 

[Perp]

Because I can get it working for me this year in advance instead of having to wait until next year or beyond...

Say your interest is $50K, you're prepaying $50K in order to get, say, $20K back... aren't you better off having $50K working for you for an extra year, than $20K?

What am I missing?

 

[Rixter]

What am I missing?

Having both!

 

[Paul@PFI]

Perp - You got it wrong.

The bank lends you the prepaid interest. Its then repaid by monthly instalments. No draw on cashflow. Its borrowed. It can tie up limits as the years interest acts as a negative redraw. It builds over the year and then you repeat next year.

The only cashflow is the tax refund is bought forward a year.

 

[Perp]

Perp - You got it wrong.

The bank lends you the prepaid interest. Its then repaid by monthly instalments. No draw on cashflow. Its borrowed. It can tie up limits as the years interest acts as a negative redraw. It builds over the year and then you repeat next year.

OK, I still don't get it. So I have a loan of $1M. What debits and credits happen on 30 Jun so that I prepay interest?

 

[D.T.]

Say your interest is $50K, you're prepaying $50K in order to get, say, $20K back... aren't you better off having $50K working for you for an extra year, than $20K?

What am I missing?

Agree completely.

 

[Paul@PFI]

OK, I still don't get it. So I have a loan of $1M. What debits and credits happen on 30 Jun so that I prepay interest?

With prepaid interest the bank puts an entry through on 30 June which debits interest for the next 12 months. You now owe $1,050,000. ($50K based on 5%). Then each month you make repayts ($4166.66 IO)...30 June next year the loan is back to $1m...Do it again....

 

[Singo]

What about expenses?

I paid water rates which were invoiced last year and some maintenance invoiced last financial year (June) in new financial year (July). Can we claim them for last year?

And interest payments made in July carry some for some last year days as well? Can we apportion that part to last year?

 

[Perp]

With prepaid interest the bank puts an entry through on 30 June which debits interest for the next 12 months. You now owe $1,050,000. ($50K based on 5%). Then each month you make repayts ($4166.66 IO)...30 June next year the loan is back to $1m...Do it again....

So presumably they'll only do this if you have a LOC with a limit of >= $1.05M, right?

If you have a non-LOC that's approved at $1M, they won't let you go over $1M, will they?

 

[Paul@PFI]

What about expenses?

I paid water rates which were invoiced last year and some maintenance invoiced last financial year (June) in new financial year (July). Can we claim them for last year?

And interest payments made in July carry some for some last year days as well? Can we apportion that part to last year?

No. That is deductible when it is paid.

 

[Paul@PFI]

So presumably they'll only do this if you have a LOC with a limit of >= $1.05M, right?

If you have a non-LOC that's approved at $1M, they won't let you go over $1M, will they?

Yes a $1.050 limit needed. They may allow it. With prepaid interest the bank may (or may not) adjust limits. Its 5% of capacity at its worst I would think. Like a redraw it probably shrinks each month.

A question one of our good brokers could comment on?

 

[Perp]

Yes a $1.050 limit needed.

Then my point stands, because you could have withdrawn $50K in cash, if you had that much available, and had $50K working for you all year, rather than using it to pay interest and getting back $20K cash to have $20K cash working for you...

 

[Paul@PFI]

Its not a cost - If you had a $1.05 or a $1m facility you still havent used the $50k...Its a sunk cost. A cost not incurred.

I would argue most (if not all) borrowers have equity. It just acts as as short term apparent offset to that equity. Its very much like an offset account...It doesnt increase equity either. But its still funds in account.

Ahh...The world of tax where we can argue two positions and one of us will always be right and the other will always think they are.