Edited version of private ruling

Authorisation Number: 1011653128476

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Ruling

1. Are you entitled to claim a deduction for interest paid on a loan to finance the purchase of a rental property?

Yes.

2. Are you entitled to claim a deduction for insurance, water rates, electricity, body corporate fees and building write off?

Yes.

This ruling applies for the following period

1 July 2008 to 30 June 2010

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

You have borrowed money to fund the purchased of an apartment off a plan. You have incurred interest on the loan to purchase the apartment.

The apartment was built and made available for holiday rental.

You want to claim a deduction for the interest on the finance loan to purchase the property.

The developer of the apartment went into receivership

The body corporate is controlled by the developer.

Although the apartment complex was in receivership you were still able to rent out the apartment.

The receiver was appointed by the majority owner of the apartments.

The body corporate was disbanded.

The insurance on the apartments were paid to the receiver because the body corporate was disbanded.

You noticed minor water leakage around a bedroom window of the apartment.

You continued to rent out the apartment.

You started discussions to claim insurance for the water damage.

During an inspection, you discovered major damage to the master/first bedroom.

From the time of the inspection the apartment was un-rentable.

Straight after the inspection you contacted the insurance company to make a claim.

The insurance company stated the issue was due to a building fault and advised you to contact the builder.

The builder blamed the body corporate for a lack of maintenance.

There have been a number of inspections by the receiver, insurance company and builder.

The insurance company has now agreed that your apartment was damaged by a storm and agreed to pay for repairs.

The insurance company has offered cash settlement which you are considering.

Your intention for the whole time was for the apartment to be rented and producing income.

You want to claim a deduction for the building write off, water rates, insurance, electricity and body corporate fees.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 subsection 40-30(1)

Income Tax Assessment Act 1997 Division 43

Income Tax Assessment Act 1997 section 43-210

Reason for Decision

Section 8-1 of the Income Tax Assessment Act 1997 (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, or relate to the earning of exempt income.

Interest deduction

Taxation Ruling TR 95/25 deals with deductions for interest under section 8-1 of the ITAA 1997. Interest is deductible under section 8-1 of the ITAA 1997 where the expense has a sufficient connection with the gaining or producing of assessable income and it is not of a capital, private or domestic nature.

The test is one of characterisation and the essential character of an expense is a question of fact to be determined by reference to all the circumstances (Federal Commissioner of Taxation v. Roberts (1992) 39 FCR 118; 92 ATC 4787; (1992) 24 ATR 479 and Federal Commissioner of Taxation v. Smith (1992) 37 FCR 246; (1992) 92 ATC 4380; (1992) 23 ATR 494).

Interest expenses which relate to a mortgage used to purchase a rental property will only be deductible when the taxpayer is receiving assessable income from the rental property. If the taxpayer is not receiving any assessable income from the rental property then they are not incurring the interest expense in the gaining of their assessable income.

An existing property will be considered to be held for income-producing purposes if the property is:

· being rented out, or

· available for rent, or

· temporarily unable to be rented due to the carrying out of repair work.

In your case, the property is considered to be held for income producing purposes even though you were unable to rent it as you were carrying out repairs.

Therefore, the interest incurred on the loan used to purchase the property can be deducted from your assessable income as it is an expense that is incurred in gaining or producing this income.

Deduction for capital works; special building write-off

Under Division 43 of the ITAA 1997, a deduction is allowed for capital expenditure incurred in constructing capital works, including buildings and structural improvements. The deduction is either 2.5% or 4% of the constructing expenditure, depending on when construction started and the purpose for which the capital works are used.

For a residential property as in your case, the applicable rate is 2.5% as construction commenced after 15 September 1987.

Construction expenditure is determined on the basis of actual construction cost. Construction expenditure includes preliminary expenses such as architect's fees, engineering fees, surveying fees, building fees, costs associated with obtaining the necessary building approvals and the cost of foundation excavations.

Construction expenditure excludes the cost of the land on which the rental property is built, the cost of clearing the land prior to construction and the cost of landscaping.

In respect of a building constructed used in the prescribed manner during the year of income, the amount allowable to a taxpayer as a deduction (section 43-210 ITAA 1997) is worked out using the following formula:

Construction Expenditure x Prescribed Manner Days x 0.025

Days in Year

The 'prescribed manner' is use of the prescribed part for the purpose of producing assessable income or carrying on research and development activities.

You purchased the apartment of a plan with the sole intention of renting it out to produce income. In this instance, you are entitled to a special building write off of 2.5%.

Expenses you can claim an immediate deduction

You can claim a deduction for expenses only if you actually incur them and they are not paid by the tenant. Expenses for which you may be entitled to an immediate deduction, in the income year you incur them, may include;

· advertising for tenants

· bank charges

· body corporate fees

· capital works

· council rates

· decline in value of depreciating assets

· gardening and lawn mowing

· insurance

· land tax

· legal expenses

· pest control

· phone

· property agent fees or commissions

· repairs and maintenance

· stationery

· travel undertaken to inspect the property or to collect the rent

· water charges.

Under section 8-1 of the ITAA 1997 you are entitled to claim an immediate deduction for water, insurance and body corporate fees.

Deduction for electricity

Electricity charges are usually paid by the tenant, in which case the landlord is not entitled to a deduction for the expense. However, where the landlord has agreed to pay the electricity charges and the tenant is not required to reimburse the landlord for such expense, a deduction is allowable under section 8-1 of the ITAA 1997.

In the situation where the electricity expenses are a cost that is directly incurred by the rental property owner, in the course of earning assessable income from the property, like rates, insurance premiums and land tax payments, it is an ongoing expense of a revenue nature and not a capital expense for the purposes of section 8-1 of the ITAA 1997.

Therefore, under section 8-1 of the ITAA 1997, you are entitled to a deduction for the electricity you, as the landlord, personally incurred.

Note

The definition of a depreciating asset provides that it has a limited effective life and can reasonably be expected to decline in value over the time it is used (but is not land, trading stock or an intangible asset unless it is specifically included) (subsection 40-30(1) of the ITAA 1997).