Edited version of private ruling

Authorisation Number: 1011831280042

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Ruling

Subject: Property income and expenses

Question 1

Are you entitled to a deduction for your share of expenses in relation to a property co-owned with your spouse and child where your child lives in the property and no part of the property is rented out?

Answer: No.

Question 2

Where part of the property is rented out to a tenant at a market rate, will 25% of the rental payments and the tenant's contributions to the running costs of the property (for example, electricity) form part of your assessable income?

Answer: Yes.

Question 3

Where part of the property is rented out at a market rate, will you be entitled to claim 25% of the rental deductions available after apportionment for the area rented out and period of time during the year the property is rented out?

Answer: Yes.

This ruling applies for the following period

Year ending 30 June 2012

Year ending 30 June 2013

Year ending 30 June 2014

Year ending 30 June 2015

The scheme commenced on

1 July 2011

Relevant facts and circumstances

You are an Australian resident.

You and your spouse are looking to purchase a property with your adult child.

You would structure the ownership as 50% owned jointly by yourself and your spouse and 50% owned by your child.

Your child intends to reside in the property.

There is to be a written agreement in place to sell the property after a minimum term of 5 years on the condition that each person breaks even from a capital perspective.

Your child will not be paying you any rent.

In addition to your child living in the property, you may decide to rent a room to a tenant. The tenant would pay market value rent, plus a share of the living expenses (for example, electricity).

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

Reasons for decision

Summary

As your child will not be paying you any rent, this is not a commercial arrangement. A deduction is only available for expenses incurred in earning assessable income and as there is no income, you are not entitled to a deduction for the expenses.

However, if you have a tenant move in who will pay a market value rent, the rental payments and the tenant's contributions to running expenses will be considered assessable income.

The net rental income/loss from a rental property must be shared according to the legal interest of the owners, unless the equitable interest is different from the legal title. In your case, there is no evidence that the equitable interest is different to the legal interest. Therefore, if part of the property is rented out at a market rate, you and your spouse would each be required to declare 25% of the net rental income/loss from the property as you each own 25% of the property. This conclusion is not altered by the fact that your child is a co-owner and resides at the property.

Detailed reasoning

Rental income

Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that for an Australian resident, assessable income includes ordinary income derived directly or indirectly from all sources whether in or out of Australia.

Rental income is generally assessable as ordinary income.

Taxation Ruling IT 2167 discusses the Commissioner's views on whether rent from a residential property is assessable income where property is let to relatives. There are situations where payments that are described as rent are not assessable income. This is particularly the case where the arrangement is not conducted at arm's length.

In Case R16 84 ATC 179; 27 CTBR (NS) Case 67 the Board of Review held that one tenant in common can lease premises from their co-tenant in common (so as to have exclusive possession) and be liable to pay the amount reserved by the lease, and this amount is assessable income in the hands of the recipient. In such circumstances, the amount of rent being paid must be equal to that of a fully arms length transaction.

In your case, you and your spouse will jointly own 50% of the property with your child, who will also own a 50% share. Your child will live in the property but will not pay any rent.

Therefore this arrangement is not considered to be commercial or arm's length.

Rental deductions

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, except where the outgoings are of a capital, private or domestic nature.

IT 2167 states, that where property is let to relatives, the essential question is whether the arrangement is consistent with normal commercial practices in this area. If they are, the owner of the property would be treated no differently for income tax purposes from any other owner in a comparable arms length situation.

As discussed above, you will not be receiving any rent from your child. As you will not be receiving any income, you will not be entitled to claim a deduction for any property expenses under section 8-1 of the ITAA 1997.

Tenant

Division of net income or losses between co-owners of rental properties

Net income or loss from a rental property must be shared according to the legal interest of the owners, except in those very limited circumstances where there is sufficient evidence to establish that the equitable interest is different from the legal title.

A person's legal interest in a property is determined by the legal title to that property under the land law legislation in the State or Territory in which the property is situated. The legal owner of the property is recorded on the title deeds for the property issued under that legislation.

Co-owners of rental property are often family members, owning property jointly as joint tenants or tenants in common. Any agreement made by the co-owners, whether orally or in writing, to vary the proportion of net income claimable by each co-owner has no effect for taxation purposes. Such agreements are merely domestic in nature, and cannot override the taxation legislation in relation to the division of income or losses in relation to co-owners of rental properties.

In your case, you, your spouse and your child would like to jointly purchase a dwelling. You will hold 50% in joint ownership with your spouse, with the remaining 50% being held by your child.

The dwelling will be your child's main residence. In the future you may have tenants in the dwelling, with the tenants paying a market rate of rent per week, plus a share of the living expenses.

Taxation Ruling IT 2167 discusses whether a tenant's contribution to variable or running expenses is included in assessable income. It states:

Where the tenant/lodger, in addition to paying rent, or an amount for board and lodging, is required to make a separate contribution to specific variable or running costs such as electricity, heating, etc., the question arises whether the separate contribution is assessable income. On the basis that the separate contribution represents part of the reward of the owner of letting part of his residence, the amounts are considered to be assessable income. If the arrangements are such that the separate contribution is made on a precise sharing of costs basis the assessable income will be offset by allowable deductions. If the separate contribution is a fixed amount income tax deductions will be allowed for the part of the variable or running costs attributable to the tenant/lodger's use of the relevant facilities.

You and your spouse will each have a 25% ownership interest in the dwelling and have not provided any evidence to support that the equitable interest in the dwelling is different from the legal interest. Therefore, you and your spouse must each include 25% of any rental income from the tenant/s (including their contribution to running expenses) in each of your income tax returns.

Note: The fact that the dwelling is your child's main residence is not relevant in this situation. They are still a co-owner of a dwelling which is being rented out to produce assessable income. Therefore, the taxation principle applicable to the division of income and loss between co-owners of a rental dwelling will apply in your situation. As they own 50% of the property, they must declare 50% of the rental income from the property.

Deduction for expenses incurred in relation to the rental of part of a dwelling

Deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income.

Where a property is used partly for income production purposes, apportionment of the expenses incurred in respect of that property may be required.

As a general approach, apportionment should be made on a floor area basis, that is, by reference to the floor area of the residence to which the tenant has sole occupancy together with a reasonable figure for access to the general living areas including the garage and outdoor areas. The floor area used to produce income is divided by the total area of the building to arrive at the percentage of the costs that can be claimed as a deduction.

Paragraph 10 of IT 2167 states that:

If, for example, the tenant/lodger had sole occupation of one room in the residence and shared the general living areas equally with the owner/occupier, it would be appropriate to add one half of the floor area of the general living areas to the floor area of the room of sole occupancy in order to make the necessary apportionment.

If a property is used to produce income for only part of the year of income then apportionment of expenses may also be necessary on a time basis.

It is your intention that any tenant will pay a market value rent and their share of living expenses.

As the names of you, your spouse and your child are on the title deed, you are all legal co-owners of the dwelling. Therefore, the rental deductions must be divided between you, your spouse, and your child in accordance with your ownership interests. Therefore, you and your spouse can each claim 25% of the available rental deductions.

As discussed previously, to determine the total available rental deductions in relation to the property, you must first apportion the property expenses in relation to the area, and time, the dwelling has been used to produce assessable income. You and your spouse will then each be entitled to a deduction of 25% of this amount.

Years ruled on

It is noted that you asked for the private ruling to apply for the 2012 income year and onwards until the scheme ceases. The Commissioner does not rule for indefinite or extended periods as there may be changes to the facts of the arrangement or the law in question. Also, a public ruling may issue which affects the private ruling. Therefore, we have only ruled for the 2012 to 2015 income years.

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