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What is Tax depreciation?

The Australian Tax Office (ATO) allows owners of income producing properties to claim a tax deduction called depreciation, on a building's structure and plant and equipment assets contained within it.  The first of these is called Capital works deduction and is only available on residential properties built after 1987. 

Simply put, the buildings construction costs are calculated at the time of building and these can be claimed at the rate of 2.5% over 40 years. For example, you buy a property for $500,000 that was built 10 years ago. The calculated cost to build this property at that time has been calculated to be approximately $200,000. Therefore, the ATO allows a Capital works deduction of 2.5% of $200,000 per year for 40 years which equates to $5000 per year.

Capital works are classed as the structure of the property and anything that is unmoveable. These include driveways and walls, kitchen cupboards and doors and fittings as well as baths, sinks and toilet bowls.

The plant and equipment of a property is classified as anything that is easily removable. Such things are air-conditioning units, hot water systems, blinds and curtains, light shades as well as solar panels just to name a few. Most items are depreciated over a period of 5 - 10  years but can vary per item and some are deducted immediately at 100% of their value. For example, the value of a couple of air conditioning units is valued at $5000 at the time of purchase. At a rate of depreciation of 10% per year, there is a tax advantage of $500 that can be claimed against your income of the property.

Obviously with these sorts of deductions, the greatest benefit of the depreciation is always the first few years whilst the Capital works deductions are constant. 

To get the maximum benefit from these deductions, it is practically a necessity to contact a reputable Quantity Surveyor who can calculate all these deductions and produce a depreciation Schedule that is used by your accountant every year at tax time.

It is also prudent to understand that by depreciating the property and gaining a tax benefit from it, there can be implications from doing so when the time comes to sell your investment. A Capital gains tax is charged at the time of sale and is calculated between the difference of the sale price and the cost price of the property. Although this is a complicated process where an Accountant and Quantity Surveyor are now essential, simply put the cost price of your property goes down as you depreciate it with a Capital works deduction. For example, if your original purchase price was say $500,000 and you have claimed a capital works deduction of $100,000 over a period of many years, the cost price of the property is now worth $400,000. Compare this against the sale price and you have an idea of the Capital Gains amount to be calculated.

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