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Edited version of your private ruling

Authorisation Number: 1012318142386

Ruling

Subject: Rental property deductions

Question 1

Are you entitled to claim an immediate deduction under section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) for the expenses you incurred in repairing water damage to the garage on your rental property?

Answer:

No

Question 2

Are you entitled to claim an immediate deduction under section 25-10 of the ITAA 1997 for the expenses you incurred in repairing termite damage on your rental property?

Answer:

No

This ruling applies for the following period

Year ended 30 June 2013

The scheme commenced on

1 July 2012

Relevant facts and circumstances

Your family trust has owned the rental property since 200X, and it had been used as a rental property since this time, except for a very short period of tenancy by the family.

In 2012, the property was transferred into your name.

The garage of the property suffered water damage which required the roofing and lining to be replaced. While this work was being carried out, extensive termite damage was discovered which needed to be repaired and a termite management system installed.

The repairs were undertaken.

The property was rented prior to and after the repairs were undertaken, and is currently still rented.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 25-10

Income Tax Assessment Act 1997 subsection 25-10(3)

Reasons for decision

Summary

The cost of repairs to the garage of the rental property, to correct water and termite damage, are considered 'initial repairs'. Therefore, they are capital expenses and not deductible under section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997).

Detailed reasoning

Section 25-10 of the 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. Expenditure incurred for repairs to property used for income producing purposes is of a capital nature where:

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 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:

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 1997.

In your case, work to the garage was necessary to fix water damage. The damage required the roofing and internal lining to be replaced. While this work was being carried out, extensive termite damage was discovered which needed to be repaired and, a termite management system installed.

The property in question was transferred to you from your family trust. The repairs necessary for the garage were undertaken. This was only approximately 3 to 4 months since the acquisition of the property. Therefore, it is reasonable to conclude that water and termite damage existed prior to you acquiring 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. The fact that your family trust earned income from the rental property prior to your acquisition of the property does not change the treatment of the repairs. The repairs were undertaken under your ownership of the property, and not the family trust's, as such, the repairs are considered initial repairs in your hands.

As a result, you are not entitled to a deduction for the cost of repairs to the garage (to fix water and termite damage) under section 25-10 of the ITAA 1997.

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