• Dwelling used to produce income

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    Warning:

    This information may not apply to the current year. Check the content carefully to ensure it is applicable to your circumstances.

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    Usually you cannot get the full main residence exemption if you:

    • acquired your dwelling on or after 20 September 1985 and used it as your main residence
    • used any part of it to produce income during all or part of the period you owned it, and
    • would be allowed a deduction for interest had you incurred it on money borrowed to acquire the dwelling (interest deductibility test).

    The interest deductibility test applies regardless of whether you actually borrowed money to acquire your dwelling. You must apply it on the assumption that you did borrow money to acquire the dwelling.

    If you rent out part of your home, you would be entitled to deduct part of the interest if you had borrowed money to acquire the dwelling.

    If you run a business or professional practice in part of your home, you would be entitled to deduct part of the interest on money you borrowed to acquire the dwelling if:

    • part of the dwelling is set aside exclusively as a place of business and is clearly identifiable as such, and
    • that part of the home is not readily adaptable for private use - for example, a doctor's surgery located within the doctor's home.

    You would not be entitled to deduct any interest expenses if, for convenience, you use a home study to undertake work usually done at your place of work. Similarly, you would not be entitled to deduct interest expenses if you do paid child-minding at home (unless a special part of the home was set aside exclusively for that purpose). In these situations, you would still get a full main residence exemption.

    Example - Renting out part of a home

    Thomas purchased a home under a contract that was settled on 1 July 1997 and sold it under a contract that was settled on 30 June 2004. The home was his main residence for the entire seven years.

    Throughout the period Thomas owned the home, a tenant rented one bedroom, which represented 20% of the home. Both Thomas and the tenant used the living room and kitchen which represented 30% of the home. Only Thomas used the remainder of the home. Therefore Thomas would be entitled to a 35% deduction for interest if he had incurred it on money borrowed to acquire his home. The 'home first used to produce income' rule (explained below) does not apply because Thomas used the home to produce income from the date he purchased it.

    Thomas made a capital gain of $20,000 when he sold the home. Of this total gain, the following proportion is not exempt:

    Capital gain

    x

    percentage of floor area

    =

    taxable portion

    $20,000

    x

    35%

    =

    $7,000

    As Thomas entered into the contract to acquire the home before 11.45am (by legal time in the ACT) on 21 September 1999 and entered into the contract to sell it after that time, and held it for at least 12 months, he can use either the indexation or the discount method to calculate his capital gain.

    If you set aside and use part of the dwelling exclusively as a place of business, you cannot get a CGT exemption for that part of the dwelling by not claiming a deduction for the interest. Nor can you include interest in the cost base if you are entitled to a deduction but do not claim it.

    You can still get a full main residence exemption if someone else uses part of your home to produce income and you receive no income from that person.

    When a CGT event happens in relation to the home, the proportion of the capital gain or capital loss that is taxable is an amount that is reasonable having regard to the extent to which you would have been able to deduct the interest on money borrowed to acquire the home.

    In most cases this is the proportion of the floor area of the home that is set aside to produce income and the period the home is used to produce income. This includes if the dwelling is available (for example, advertised) for rent.

    Example - Running a business in part of a home for part of the period of ownership

    Ruth bought her home under a contract that was settled on 1 January 1999. She sold it under a contract that was entered into on 1 November 2003 and was settled on 31 December 2003. It was her main residence for the entire five years.

    From the time she bought it until 31 December 2001, Ruth used part of the home to operate her photographic business. The rooms were modified for that purpose and were no longer suitable for private and domestic use. They represented 25% of the total floor area of the home.

    When she sold the home, Ruth made a capital gain of $8,000. The following proportion of the gain is taxable:

    Capital gain

    x

    percentage of floor area not used as main residence

    x

    percentage of period of ownership that that part of the home was not used as main residence

    =

    taxable portion

    $8,000

    x

    25%

    x

    60%

    =

    $1,200

    As Ruth entered into the contract to acquire the home before 11.45am (by legal time in the ACT) on 21 September 1999 and entered into the contract to sell it after that time, and held it for at least 12 months, she can use either the indexation or discount method to calculate her capital gain.

    The 'home first used to produce income' rule (explained below) does not apply because Ruth used the home to produce income from the date she purchased it.

    For more information on rental properties (for example, negative gearing and deductions, get the publication Rental properties).

    End of example
    Last modified: 04 Mar 2016QC 27527