Edited version of private ruling

Authorisation Number: 1011512097116

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Ruling

Subject: Capital gains tax

Question 1

Does section 118-192 of the Income Tax Assessment Act 1997 (ITAA 1997) apply to you when you calculate the capital gain or capital loss from the sale of your rental property?

Answer

Yes.

Question 2

Does section 118-185 of the ITAA 1997 apply to you when you calculate the capital gain or capital loss from the sale of your rental property?

Answer

No.

This ruling applies for the following period:

Year ending 30 June 2011

The scheme commenced on:

1 July 2010

Relevant facts and circumstances

You purchased a property after 20 September 1985 which you used as your main residence until for a number of years, until you moved and began to rent out the property.

You began to rent out the property on a date after 20 August 1996.

You continued to rent out your property until you sold it.

You were the sole owner of the property.

This property is less than 2 hectares in size.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 102-20.

Income Tax Assessment Act 1997 Section 104-10.

Income Tax Assessment Act 1997 Section 118-110.

Income Tax Assessment Act 1997 Section 118-185.

Income Tax Assessment Act 1997 Section 118-192.

Reasons for decision

Section 102-20 of the ITAA 1997 states that you make a capital gain or capital loss if and only if a CGT event happens. CGT events are the different types of transactions or happenings which may result in a capital gain or a capital loss.

The disposal of a CGT asset is the most common CGT event and is referred to as CGT event A1 (section 104-10 of the ITAA 1997). A taxpayer disposes of a CGT asset if a change of ownership occurs from the taxpayer to another entity.

Subsection 104-10(3) of the ITAA 1997 describes when the event happens. The time of the event is either when the taxpayer enters into a contract for the 'disposal', or if there is no contract - when the change of ownership occurs.

In your case, CGT event A1 happened when you sold your property.

Main residence exemption

Section 118-110 of the ITAA 1997 provides that you can disregard a capital gain or capital loss made from a CGT event that happens to a dwelling that is your main residence. To qualify for full exemption, the dwelling must have been your main residence for the whole period you owned it, the ownership period, and must not have been used to produce assessable income.

In your case, you purchased a house which you used as your main residence for a number of years, and then later used to produce assessable income, that is, as a rental property. Therefore you are not eligible for the full main residence exemption.

Calculating your capital gain

A capital gain is calculated by subtracting the cost base from the capital proceeds. The capital proceeds will be the amount you receive from the sale of your property.

The cost base is made up of five elements, briefly, these are:

- The actual amount you paid to acquire the asset (see below).

- Any incidental costs of acquiring the asset, and costs in relation to its disposal; including cost of transfer, stamp duty, legal fees, agent, accountant fees.

- Non-capital costs you incur in connection with your ownership, e.g. interest on money borrowed to acquire an asset, costs of maintaining, repairing or insuring the asset, rates and land tax. However, you can only include non-capital costs of ownership if they could not have also been claimed as a deduction.

- Capital expenditure you incur to preserve or increase the value of the asset.

- Capital expenditure you incur to establish, preserve or defend your title to the asset.

Section 118-192 of the ITAA 1997

If you start using part or all of your main residence to produce income for the first time after 20 August 1996, a special rule affects the way you calculate your capital gain or capital loss. This rule is set out in section 118-192 of the ITAA 1997.

In this case, you are taken to have acquired the dwelling at its market value at the time you first used it to produce income if all of the following apply:

- you acquired the dwelling on or after 20 September 1985

- you first used the dwelling to produce income after 20 August 1996

- when a CGT event happens to the dwelling, you would get only a partial exemption, because you used the dwelling to produce assessable income during the period you owned it, and

- you would have been entitled to a full exemption if the CGT event happened to the dwelling immediately before you first used it to produce income.

If all of the above apply, you must work out your capital gain or capital loss using the market value of the dwelling at the time you first used it to produce income. You do not have a choice.

In your case:

- the dwelling was acquired after 20 September 1985 and the dwelling was first used to produce income after 20 August 1996;

- you would have been entitled to a full main residence exemption if the CGT event happened to the dwelling immediately before you used it to produce income because it had been your main residence for your entire ownership period.

Accordingly, you have satisfied all the requirements of section 118-192 of the ITAA 1997. Therefore, for the purpose of calculating your capital gain or loss on the disposal of the dwelling, you are taken to have acquired the dwelling on the date you began to rent it out and for its market value at that time.

Section 118-185 of the ITAA 1997

Under section 118-192 of the ITAA 1997, you are taken to have acquired the property on the date it was first used to produce assessable income. Therefore, in your case, you are taken to have acquired the property on the date you began to rent it out.

As you used the property to produce assessable income from the date you began to rent it out until the date you sold it, there are no main residence days. Therefore, you cannot further reduce the capital gain by applying the formula in section 118-185 of the ITAA 1997.

Example

Your situation is similar to example 67 in the Guide to capital gains tax 2009-10 (available on ato.gov.au), which states:

Erin purchased a home on 0.9 hectares of land in July 2000 for $280,000. The home was her main residence until she moved into a new home on 1 August 2003. On 2 August 2003, she commenced to rent out the old home. At that time, the market value of the old home was $450,000.

Erin does not want to treat the old home as her main residence as she wants the new home to be treated as her main residence from when she moved into it.

On 14 April 2010, Erin sold the old home for $496,000. Erin is taken to have acquired the old home for $450,000 on 2 August 2003, and calculates her capital gain to be $46,000.

Because Erin is taken to have acquired the old home on 2 August 2003 and has held it for more than 12 months, she can use the discount method to calculate her capital gain. As Erin has no capital losses, she includes a capital gain of $23,000 on her 2010 tax return.