One of the most common questions we receive from medical professionals who own a rental property relates to deductions for repairs and capital items. There are subtle differences between what each of these expenses are and how they’re treated in an income tax return, as we explain below.
The Australian Taxation Office (“ATO”) considers repairs to be replacing something which is worn out, damaged or broken as a result of renting out the property. Taxpayers are able to claim a deduction for the full cost of the repair in the year they incur the expense.
Examples of repairs include:
- Repairing electrical appliances, such as replacing the elements in an oven;
- Fixing a leaking tap; and
- Replacing a broken window.
However, there is an exception to this rule for “initial repairs”. These are costs you incur to repair items if the defect, damage or deterioration existed when you acquired the property. Initial repairs are treated as capital and added to the cost base of the property, so it’s important you keep records of these expenses until you sell the property.
Similar to repairs, maintenance expenses are able to be claimed as a deduction in the year they are incurred. Maintenance is work that is performed to prevent deterioration to keep the property in a tenantable condition.
Examples of maintenance expenses include:
- Mowing lawns; and
- Pool services.
Capital item – Depreciating assets
A depreciating asset is an item of plant which does not form part of the property. These items are able to be separated from the property and are less permanent than the property.
Examples of depreciating assets include:
- Window coverings;
- Appliances such as dishwashers, ovens and washing machines; and
You must depreciate the cost of a new asset over a number of years. You cannot claim an outright deduction for the cost of the new asset in the year it is incurred. The ATO releases a tax ruling every year to assist taxpayers in determining the effective life of an asset, being the number of years you claim depreciation (sometimes known as a capital allowance).
To use our earlier example, replacing the elements in an oven would be considered as a repair, however, replacing the entire oven is a capital expense and the cost of the oven must be depreciated over 12 years (the effective life given by the ATO). The labour to install the new oven is also required to be included in the cost of the oven and depreciated over the same period of time.
Capital item – Capital works improvements
A capital works improvement is anything that makes an aspect of the property better, more valuable, or more desirable, or changes the character of the item on which the works are being carried out.
Capital works improvements include:
- Building a new fence;
- Building a carport;
- Replacing a tiled roof with a steel roof; and
- Building a patio.
The deduction for capital works is claimed at 2.5% of the cost of the asset, per year.
Sometimes, it’s possible to have both capital assets and capital works expenditures, such as renovating a kitchen. The cost of appliances such as a dishwasher or oven can be depreciated and claimed over a shorter period of time, whereas the cost of the cabinetry and tiling will be treated as a capital works improvement. Therefore, it’s important to have detailed invoices from tradespeople to make tax time easier. This also maximises your deduction, as you can split the total cost of the renovation between the cost of depreciable assets and the capital works improvements.