Edited version of private ruling

Authorisation Number: 1011729069153

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Ruling

Subject: Rental property - leased to relative

Question 1

Is the amount you actually receive as rent required to be included in your assessable income when you rent the property at a non-commercial rate to a relative?

Answer:

Yes.

Question 2

Are you entitled to claim all the rental property expenses, including interest costs, when the expenses are greater than the amount of rent received for a property which is rented at a non-commercial rate to a relative?

Answer:

No.

This ruling applies for the following period

Year ended 30 June 2010

The scheme commenced on

1 July 2009

Relevant facts and circumstances

You and your spouse purchased a property to rent to your relative.

The market rate for similar properties in the area is $XXX per week. However, as your relative has some medical issues and is a low income earner you have agreed to set the rent at a lower rate per week to help them.

You have stated that you purchased the property to provide your relative with accommodation and not as an investment property.

You were advised by your tax agent that due to the arms length rule you have to claim that you are in fact receiving the full rent of $XXX per week in order to claim the full amount of deductions applicable to the property.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Summary

The amount of rent that you actually receive is assessable income which should be returned in your tax return.

You are only entitled to claim rental property deductions up to the amount of rental income received as the property is not rented at a commercial rate.

Detailed reasoning

Section 6-5 of Income Tax Assessment Act 1997 (ITAA 1997) includes in your assessable income amounts which are ordinary income. The actual amount of rent you receive is considered to be ordinary income. There is no provision in the ITAA 1997 which allows a person to include a notional amount of rental income to be included in a tax return.

Consequently you are assessable only on the amount of rent which is actually charged, that is the lower rate per week.

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income.

Taxation Ruling IT 2167 discusses the Commissioner's views on non-economic arrangements where property is let to relatives. If property is let to relatives at less than commercial rent, the essential question for decision is whether the arrangements are consistent with normal commercial practices in this area. If they are, the owner of the property would be treated no differently for income tax purpose from any other owner in a comparable arms length situation.

Where property is leased to a relative for low rental, the rental is generally still considered to be assessable for income tax purposes. However, the losses and outgoings in relation to the property are not necessarily deductible in full.

The courts looked at the subjective purpose in Fletcher v FCT (1991) 91 ATC 4950 (Fletchers case), and the Court held that where an outgoing gives rise to a receipt of a greater than an amount of assessable income, it is often impossible to characterise an outgoing as being wholly incurred in gaining or producing assessable income without reference to the taxpayer's subjective thought process. The principle arising from Fletchers case was that where the deductions which were attributable to the activity are in excess of the assessable income from the activity it is necessary to review the taxpayer's subjective motive for incurring the expenses.

In your case, you have stated that the purpose for which you and your spouse purchased the property was to provide your relative with accommodation and not as an investment property. In order to do this you have agreed to charge them a rent which is affordable to them but one that is not considered to be a commercial rate. As such the subjective intention is considered to be assisting your relative rather than the purchase of an investment property. Consequently the principles in Fletchers case would apply to limit deductions, including interest on the loan for the property, to the amount of assessable income received, that is, the rent actually received.

As such, the rental income you receive is assessable income and you are only entitled to claim rental property expenses up to the amount of rental income actually received.

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