Rental Properties – What to Provide an Accountant at Tax Time

Q: What does it mean for a property to be 'available for rent' in the context of claiming expenses?

A property is considered 'available for rent' if you've made reasonable efforts to rent the property, such as listing the property with an agent or on a website like Airbnb. It's important to note that the property doesn't necessarily have to be rented, but you must prove to the ATO that you have made the property available for rent.

As property investors preparing your tax returns is a necessary, though sometimes an unwanted, part of holding your investment property.

So, what sort of things should you be collating when preparing your income tax returns?

Hopefully this checklist will help you put together the information need to give to your property tax accountant.

PROPERTY INVESTORS TAX RETURN CHECKLIST

If the property is held in your individual name(s) then these are some of the things to consider

INCOME

Rental Property Summary from your Managing Agent
Reimbursement of Expenses such as water usage, etc.

WHAT CAN I CLAIM ?

So, you’ve just purchased your investment property and you are now wondering what you can claim on your tax return. Following is some of the common and some overlooked deductions that are available

Property must be available for rent

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It is important that the property is available for rent.

This doesn’t mean that the property has to have been rented but you have taken reasonable efforts to try and rent the property.

Negotiations with agents, advertising in local papers and other such things go toward proving that you have made the property available for rent. This can be extremely important where you had the property vacant for some period and must prove to the ATO that the property was available for rent.

If the property was not available for rent, then the expenses will need to be apportioned. You also need to be careful that the rent is not set so high that the property would generally not attract a tenant for the area in which it is located as the ATO could argue you have set the rent so high so as not to attract a tenant and therefore it was not available for rent.

If you merely intend to make the property available for rent and don’t take any steps to make it available for rent, then this will probably mean the expenses won’t be deductible until such steps are taken.

Even if the property has been taken off the market as you intend to do some repairs to the investment property then interest expenses and other costs such as council rates, etc. will still be deductible provided

You don’t leave the premises vacant for such a long period of time
The expenses are incurred with the view to gaining future income; and
You continue to make efforts to undertake repairs on the property.

If you merely intend to make the property available for rent but don’t actually take any steps to do so, then the ATO does not consider this to be sufficient. Steps that will help you in arguing that you have made the property available for rent include

Listing the property with an agent or on a website such as Airbnb, etc
Making sure the rent is set at a commercial rate considering the area in which it is located, age of the building, restrictions (e.g., pets), etc.
Ensuring that you don’t limit the times that the property can be used. E.g., a beach house which you don’t list or make available for rent during the holiday season e.g., Christmas so you and family and friends can spend time there.

Travel Expenses

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From 1 July 2017 travel expenses in relation to a residential investment property are no longer tax deductible. However, the change to legislation does not impact those individuals who hold commercial properties or are carrying on a business of property investing.

Note as well if the residential investment property is held by a company or a unit trust (and the units are held by a company) then the travel expenses can still be claimed.

Interest Expenses

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This can be quite a complex area and probably causes the most confusion and disagreements amongst advisers.

The ATO look at the ‘use test’ to determine the deductibility of interest. FC of T v Munro1 established this principle and looks at the application of how the funds are used to determine interest deductibility. Taxation Ruling 95/25 says that generally, the starting point for determining the essential character of an interest expense is to determine the ‘use’ to which the borrowed funds have been put, i.e., you trace the borrowed funds.

We will try and go through a few examples and common questions asked by clients to give you an idea of the deductibility of interest in each of those scenarios.

Can you claim an interest deduction for vacant land on which you intend to build an investment property?

Prior to 1 July 2019 things were a little different. Changes that were introduced into law have changed the landscape for deductions for interest deductions (and other costs which we will discuss below).

Prior to these changes we had seen several advisers who suggested that the interest expense should be capitalised (i.e., added to the cost base of the property and used to reduce the capital gain or increase the capital loss on sale) as no income has been earned at this stage. However, the relevant case was Steele v FC of T 2 and this case confirmed that provided certain things occur then the interest will be deductible despite no income having been received during the construction phase. The case says that the interest will be deductible provided that

The interest is not incurred ‘too soon’, is not preliminary to the income earning activities and is not a prelude to those activities
The interest is not private or domestic
The period of interest outgoings prior to the derivation of relevant assessable income is not so long, considering the kind of income earning activities involved, that the necessary connection between outgoings and assessable income is lost
The interest is incurred with one end in view, the gaining or producing of assessable income, and
Continuing efforts are undertaken in pursuit of that end.

Well from 1 July 2019 things have changed.

The costs associated with holding vacant land (this will include interest, council rates, land tax) will no longer be deductible. Unfortunately, there are no ‘grandfathering’ provisions in the legislation. So, what this means is that if you held vacant land prior to 1 July 2019, you are still denied these deductions going forward. Ouch!!

These costs will however be able to be included in the cost base. What this means is that when you eventually sell the property these costs will reduce the capital gain you make on sale.

TIP

If the vacant land is held by a company, a superannuation fund THAT IS NOT an SMSF, a public unit trust, managed investment trust or a partnership or unit trust which is made up of those type of entities then the new law doesn’t prevent you from claiming these holding costs.

There is also an exclusion if you are carrying on a business. So, if you are a property developer and hold vacant land as part of your property development business then the legislation won’t affect you.

What is considered to be vacant land ?

The Explanatory Memorandum provides some guidance and says that Land is vacant, for the purpose of these amendments, if there is no building or other structure on the land that is substantial and permanent in nature and in use or ready for use.

In this context, land does not have to refer to the whole of the land on a property title but could refer to part of the land on a property title. For example, if a property title includes two areas of land, one containing a factory and the other undeveloped, the part of the property title containing the factory has ceased to be vacant land, while the undeveloped area remains vacant land.

Chelsy owns a block of land. She intends to eventually build a rental property on the land. However, while the block of land is fenced and has a large retaining wall, it currently does not contain any substantial or permanent building or other structure. As the property does not have a substantial permanent building or structure on it, it is vacant land and Chelsy cannot deduct any holding costs she may incur in relation to the land

VACANT LAND AND INTENTION TO CONSTRUCT RESIDENTIAL RENTAL PROPERTY

Peter and Jim acquire vacant land with an intention to construct a new residential property which they will rent out.

Peter and Jim will not be able to claim a deduction for interest, council rates, land tax or maintenance costs until:

The construction of the residential investment property is complete
Approval has been granted to occupy the property; AND
The property is genuinely available for rent

TIP

Note that a ruling TR 2021/D5 has come out and paragraph 27 in Example 5 says Example 5 – new construction 25. Harry purchases vacant land on 1 July 2019 and builds a house on the land. He obtains the occupancy certificate on 9 February 2020. Harry lists the property with a real estate agent for lease on 1 March 2020. Any holding costs that Harry would otherwise be entitled to deduct from 1 March 2020 will not be denied by section 26-102, as from this date the house is lawfully able to be occupied and available for lease.

Loss or outgoing relating to holding land

26. Subsection 26-102(1) clarifies that any interest or borrowing costs to acquire land are included as a cost of holding land. Examples of other costs of holding land include council rates, land taxes and maintenance costs.

27. In the context of section 26-102, we do not consider the costs of constructing a substantial and permanent structure on the land, or any interest or borrowing costs (to the extent they are associated with construction), to be a loss or outgoing related to holding land.

So, although the interest on the loan for the vacant land won’t be deductible until the above events occur the interest on the loan for the construction of the building should be if it is planned to be used for income producing purpose

Maybe you are interested in the margin scheme ? if so check out our article on GST and the margin scheme

https://www.propertytaxsolutions.com.au/margin-scheme-property/

Frequently Asked Questions

What type of income and expense documents do I need to provide my accountant for my rental property tax return?

You need to provide your Rental Property Summary from your Managing Agent and all reimbursement of expenses such as water usage. Moreover, any receipts or documents for repairs or improvements you have done to the property throughout the year should also be provided.

What does it mean for a property to be "available for rent" in the context of claiming expenses?

A property is considered "available for rent" if you've made reasonable efforts to rent the property, such as listing the property with an agent or on a website like Airbnb. It's important to note that the property doesn't necessarily have to be rented, but you must prove to the ATO that you have made the property available for rent.

Can I claim travel expenses related to my rental property?

From 1 July 2017, travel expenses related to a residential investment property are no longer tax-deductible. However, this change does not impact those individuals who hold commercial properties or are carrying on a business of property investing.

How does the ATO determine the deductibility of interest for my rental property?

The ATO uses the 'use test' to determine the deductibility of interest. This refers to how the borrowed funds have been put to use. For instance, if you have borrowed funds to construct or repair a rental property, the interest on that loan can be claimed as a deduction.

Can I claim an interest deduction for vacant land on which I intend to build an investment property?

Changes to the law from 1 July 2019 have made it more difficult to claim deductions for interest and other costs for vacant land. Generally, these costs are no longer deductible unless the land is held by certain types of entities like a company or a superannuation fund, or if you are carrying on a business. However, these costs can be included in the cost base of the property, reducing the capital gain when you sell the property.