Edited version of private ruling

Authorisation Number: 1011589519701

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Ruling

Subject: Rental property repairs and capital work deductions

1. Is your portion of the costs incurred to replace part of the boundary fence of your rental property soon after the property was purchased considered a capital expense?

Yes.

2. Is your portion of the costs incurred to replace another part of the boundary fence of your rental property two years after it was purchased deductible as a repair?

Yes.

This ruling applies for the following period

Year ended 30 June 2007

Year ended 30 June 2009

The scheme commenced on

1 July 2006

Relevant facts

You purchased a rental property.

A few months later, the property's boundary and front fences were replaced due to white ant damage.

You were required to pay a portion of the cost of replacing the fences.

You also incurred additional costs to have a lean-to attached to the old fence demolished and removed.

Two years later, the boundary fence on the other side of the property and part of an internal fence attached to the boundary were replaced due to deterioration.

You were required to pay a portion of the cost of replacing these fences.

You also incurred additional costs to have the old fence removed and to have a replacement gate installed.

Reasons for decision

Section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for the cost of repairs to premises 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.

Taxation Ruling TR 97/23 discusses the circumstances in which expenditure incurred for repairs may or may not be an allowable deduction under section 25-10 of the ITAA 1997.

The word 'repair' is not defined within the taxation legislation. Accordingly, it takes its ordinary meaning. Works can fairly be described as 'repairs' if they are done to make good damage or deterioration that has occurred by ordinary wear and tear, by accidental or deliberate damage or by the operation of natural causes (whether expected or unexpected) during the passage of time (paragraph 15 of TR 97/23).

While some works may be fairly described as repairs, the expenditure will be considered capital in nature in some situations, and therefore not deductible under section 25-10 of the ITAA 97. Expenditure incurred for repairs to property used for income producing purposes is of a capital nature where:

· the works result in a greater efficiency of function in the property, therefore representing an improvement rather than a repair, or

· the extent of the work carried out represents a renewal or reconstruction of the entirety, or

· the work is an initial repair.

An improvement

An 'improvement' involves bringing a thing or structure into a more valuable or desirable form, state or condition than a mere repair would do. Some factors that point to work done to property being an improvement include whether the work will extend the property's income producing ability, significantly enhance its saleability or market value or extend the property's expected life.

In your case, the replacement of the boundary fences of your rental property would not be considered an improvement as it was simply done to restore the property's fences to their original condition.

An entirety

TR 97/23 states that a thing or structure is more likely to be an entirety if it is an integral part, but only a part, of entire premises and is capable of providing a useful function without regard to any other part of the premises. The Ruling states that something that is part of a building, for example, a roof or wall, is just that and no more. The building itself is the entirety.

In your case, the portion of the fence replaced on your rental property on each occasion would not be considered an entirety.

Initial repair

If work is carried out to remedy defects, damage or deterioration that existed at the date of acquisition it is considered an initial repair and any expenditure incurred is considered capital in nature. The cost of effecting an initial repair is still not deductible even if some income happens to be earned after acquisition but before the repair expenditure is incurred.

The main consideration in relation to initial repairs is the appearance, form, state and condition of the property and its functional efficiency when it is acquired. Expenditure that remedies some defect or damage to, or deterioration of, property is capital expenditure if the defect, damage or deterioration:

(a) existed at the time of acquisition of the property, and

(b) did not arise from the operations of the person who incurs the expenditure.

It is immaterial whether at the time of acquisition the taxpayer was aware of the condition of the property, including its need for repair. It is also immaterial whether the purchase price reflected the need for repairs. An initial repair expense is not the type of repair expenditure ordinarily incurred as a working or operating expense in producing assessable income or in carrying on a business. This is because it lacks a connection with the conduct or operations of the taxpayer that produce the taxpayer's assessable income. It is essentially an additional cost of acquiring the property or an improvement in the quality of the property acquired. Initial repair expenditure relates to the establishment of the profit yielding structure. It is capital expenditure and is not deductible under section 25-10 of the ITAA 97.

Fence replaced initially

In your case, the boundary fence and the front fence of your property were replaced soon after purchase due to white ant damage.

As this was only one to two months after you purchased the property, the white ant damage to the fence would have existed prior to you purchasing the property.  

As the work done was to repair a defect existing when the property was acquired, the repair is considered an initial repair and therefore, capital in nature.

Therefore, the costs incurred to replace your fence, including the cost of having the lean-to attached to the old fence demolished and removed, are not deductible as a repair under section 25-10 of the ITAA 1997.

You will, however, be entitled to a capital works deduction for these expenses under section 43-10 of the ITAA 1997. The relevant rate allowed for your capital works deduction is 2.5% per annum over 40 years while the property is being used for an income producing purpose.

Fence replaced two years later 

In your case, the boundary fence and part of an internal fence attached to the boundary were replaced two years after purchase due to deterioration. The replacement of the fence in this case can fairly be described as a repair as it was done to make good damage or deterioration that had occurred by ordinary wear and tear during the time it was used as a rental property.

Therefore, the costs incurred to replace the fence, including the costs to have the old fence removed and a replacement gate installed, are deductible as a repair under section 25-10 of the ITAA 1997.

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