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Edited version of private ruling

Authorisation Number: 1011521019462

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Ruling

Subject: Rental property expenses

1. Are you entitled to claim a deduction for the costs of the following repairs to your rental property?

Yes.

2. Are you entitled to claim a deduction for capital works for the costs incurred for the following to your rental property?

Yes.

This ruling applies for the following period:

Year ending 30 June 2008

The scheme commences on:

1 July 2007

Relevant facts and circumstances

The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are:

You purchased your rental property several years ago and it has been rented since that time and is currently rented.

You have incurred expenses to repair a leak in the bathroom.

You have provided a copy of an invoice providing details of the repairs undertaken.

You lodged an insurance claim for the damage incurred from the leak.

Your insurer's liability had been reduced as it was identified from reports that your policy does not cover damage or loss resulting from liquid escaping over a period of time where you could reasonably be expected to be aware of and failure to properly maintain or repair your property.

You experienced delays in identifying the damaged caused by a water leak under the bath due to the information provided by your agent and the vacating of your tenant requiring extension of time due to their frailness and ill health.

You received a payment from the insurance company to cover the cost of painting the water marked wall and the leak location costs.

You were also required to replace the carpets to the bedrooms as they were all water damaged by an unknown source not related to the water leak in the bathroom.

Reasons for decision

Summary

You are not entitled to a full deduction for the work on your rental property.

It is accepted that expenses incurred for the replacement of a shower tray and screen, plumbing costs, supply of materials for replacing damaged wall, painting, replacing toilet, replacing towel rails, replacing damaged carpets and replacing of exhaust fan, light and switches for your investment property are considered repairs and are deductible under section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997).

The replacement of the vinyl floor in the bathroom and toilet with tiles, cupboard and vanity, flix mix vanity, new laundry taps and new door stops are considered capital expenditure and you are entitled to a deduction for capital works.

Detailed reasoning

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent that they are incurred in gaining or producing assessable income, except where the outgoings are capital, private or domestic in nature.

Section 25-10 of the ITAA 1997 allows a deduction for the cost of repairs used for income producing purposes. However, subsection 25-10(3) of the ITAA 1997 does not allow a deduction for repairs where the expenditure is of a capital nature.

The word repair is not defined within the taxation legislation. Accordingly, it takes its ordinary meaning. In W Thomas & Co v. Federal Commissioner of Taxation (1965) 115 CLR 58; (1965) 14 ATD 78; (1965) 9 AITR 710 (Thomas' case), it was held that a 'repair ' involves a restoration of a thing to a condition it formerly had without changing its character. It is the restoration of deficiency in function rather than the exact repetition of form or material that is significant.

Taxation Ruling TR 97/23 indicates that expenditure for repairs to property is a capital nature where:

Replacement of a subsidiary part or entirety

TR 97/23 paragraph 38 considers that a property is more likely to be an entirety if:

According to paragraph 39 of the TR 97/23, property is more likely to be a subsidiary part rather than an entirety if:

In Thomas' case, which involved a claim for general repairs to a building, it was said that the question was not whether the roof or floor or some other part of the building, looked at in isolation, was repaired as distinct from wholly reconstructed, but whether what was done to the floor or the roof was a repair to the building.

Repair or improvement

Paragraph 45 of TR 97/23 distinguishes between a 'repair' and an 'improvement' to property which one needs to consider the effect that the work done on the property has on its efficiency of function.

If the works entails the replacement or restoration of some defective, damaged or deteriorated part of the property, one does not focus on the effect the work has on the efficiency of function of the part. That is not determinative of whether the property is repaired or improved. It is a relevant factor to take into account, however, in considering the effect of the work on the property's efficiency of function. It is possible, for instance, that the replacement of a subsidiary part of property with a part better in some ways than the original is a repair to the property without the work being an improvement to the property.

The issue of distinction between a repair and an improvement has been considered in many judicial and tribunal decisions.

One of the leading cases is Federal Commissioner of Taxation v. Western Suburbs Cinemas Ltd (1952) 86 CLR 102; (1952) 9 ATD 452; (1952) 5 AITR 300, where a cinema ceiling which was in a state of despair was replaced with a new ceiling of a different design and better material. It was held to be an improvement and not repairs, and that the cost of the ceiling was capital expenditure. The works did much more than meet a need for restoration; it provided a ceiling having considerable advantages over the old one.

Some of the factors pointing to an improvement rather than a repair are whether:

Capital works

Division 43 of the ITAA 1997 provides a deduction for capital works. Capital works includes buildings and structural improvements, and also extensions, alterations or improvements to buildings and structural improvements where a residential property is used for income producing purposes.

Section 43 -10 of the ITAA requires that:

Subsection 43-25(1) of the ITAA 1997 provides that the rate of deduction for capital works which began after 26 February 1992 for a residential rental property is 2.5%.

However, a deduction cannot be made prior to the completion of the capital works (section 43-30 of the ITAA 1997).

In your case, you have owned the rental property for several years. The property has been income producing since that time. You have carried out repairs to restore the property to its original condition, function and appearance prior to renting. You have provided a detailed list of the repairs to support your claim.

You experienced delays in identifying the damaged caused by a water leak under the bath due to the information provided by the Real Estate Agent and the vacating of tenant requiring extension of time due to their frailness and ill health. Repairs were carried out.

Repairs

Shower tray and screen

Your bathroom and toilet were damaged as a result of a leaking seal under the bath. You were required to fully remove the shower and bath and splash back to gain access to the seal and repair the damage caused by the leak. Your shower screen was damaged which made the original bath unusable. You replaced the shower tray and screen but did not replace the bath.

The replacement of the shower tray and screen without the bath does not result in a greater efficiency of function of the bathroom and is therefore not an improvement and is not a renewal or construction of an entirety. The shower recess is a function of the bathroom and replaced to restore the shower to its previous condition.

Accordingly, the cost of replacing the shower recess is not capital in nature and is deductible under section 25-10 of the ITAA 1997.

Costs of plumbing

Plumbing expenses for the removal of old waste lines and supply and install new waste lines and water pipes and testing of pipes is considered to be a repair and is deductible under section 25-10 of the ITAA 1997.

Supply of materials for replacing damaged wall

Internal walls to the bathroom and toilet were damaged by the water leak as they share common walls and were required to be replaced. The walls were replaced using similar materials. The walls are a subsidiary part of the building and are not an entirety and have been restored to its original function.

Therefore, the costs incurred in replacing the walls are considered to be a repair and are deductible under section 25-10 of the ITAA 1997.

Replacement of toilet

You have had to replace the toilet due to the damage to the walls from the water leak in the bathroom. The toilet was cracked at the base and could not be secured. The toilet was replaced with a similar standard

The costs of replacing the toilet are considered to be a repair and are deductible under section 25-10 of the ITAA 1997

Painting

Expenses incurred for painting of walls are considered to be a repair and are deductible under section 25-10 of the ITAA 1997.

Replace towel rails

Towel rails that were attached to the walls were pitted and rusted. Costs to replace the towels rails are considered to be a repair and are deductible under section 25-10 of the ITAA 1997.

Damaged carpets

You incurred expenses in replacing the carpets to the three bedrooms as they were damaged by water from unknown source during the time of tenancy. The replacement with a similar product and standard was to remedy the damaged that occurred during the period the property was income producing.

As you have restored the efficiency and function of the carpets to their original condition prior to the damage occurring, the costs incurred are considered to be a repair and are entitled to a deduction under section 25-10 of the ITAA 1997.

Replace exhaust fan, light and switches

You replaced switches attached to the damaged internal walls of the bathroom and toilet. A new light was installed to replace the old light in the bathroom with similar make as the attachment to the ceiling for the light had rusted. New exhaust fans were installed to replace previous ones that did not operate and were old.

Switches, replacement light and exhaust fans were to restore the efficiency of these items and not an improvement. Costs incurred are considered a repair and are deductible under section 25-10 of the ITAA 1997.

Capital works

Bathroom tiles

You have replaced the vinyl floor covering for the bathroom and toilet with tiles which is considered to be capital improvement rather than a repair. This is because a different material has been used which will likely result in a benefit in the look and value of the property. Therefore, an outright deduction is not available under either section 25-10 or section 8-1 of the ITAA 1997.

However as tiles are permanently fixed in place and are considered to become part of the building, you are entitled to claim a capital works deduction from the time the work was completed under section 43-10 of the ITAA 1997.

You have also incurred expenditure for the following capital works on your rental property in relation to replacing:

These expenses are incurred for items that do not go beyond being part of the setting of an income producing operation. The items form a permanent part of the fabric of the building and are considered plant within the definition of section 45-40 of the ITAA 1997.

The expenditure on the items is capital expenditure for which a deduction is allowable under section 43-10 of the ITAA 1997.

Additional information

In relation to your insurance claim you have received a settlement amount of $X for cost of painting the water mark and the leak costs. When claiming your deductions the amount of $X would need to be deducted from the total of your allowable repairs.


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