Guide to Investment Property Tax – What Can I Claim?

The question "exactly what investment property expenses are tax-deductible?" is one that is frequently asked, even by owners who already have more than one investment property in their portfolio. Are mortgage interest and property taxes deductible on investment properties? What can you tell me about the painting job that you completed earlier this year?

Are you familiar with all of the income tax deductions that individuals who own investment property, such as yourself, are eligible to receive?

Today, we are going to provide the answers to these questions so that you will have the confidence to tackle the tax deductions associated with your investment property.

The manner in which you utilize your property has a direct bearing on the amount of taxes that you are responsible for paying. To reduce the amount of money you have to pay in taxes, it is imperative that you have a solid understanding of the different types of taxes that you might be required to pay on your property.

Always check in with a registered property tax consultant to get expert guidance that is tailored to your circumstances.

What's the difference between home property tax and investment property tax deductions?

In most cases, you won't be required to pay taxes when you sell your primary residence or if you make a profit from the sale of your home. On the other hand, you won't be able to claim any expenses that you incurred when buying or selling your home. The income you receive from an investment property is taxable, but you may be able to deduct certain expenses from your tax return for the property.

Let's take an in-depth look at both of these options.

Property taxes on my home explained

Your home is regarded as your primary residence if you own it and make it your primary residence. This means that in most cases, you won't be required to pay tax when you sell your home, even if you make a profit (although, in most cases, you won't be able to claim any expenses that you incurred when buying or selling your home).

Nevertheless, the following are examples of circumstances in which you might be required to pay tax on your home:

• If you buy a second property, such as a vacation home, you will be responsible for paying capital gains tax on an investment property that you already own (more on that below).
• When purchasing a home in some states, you might be required to pay a tax known as stamp duty (as well as a levy land tax if your property is a particular value).
• If you buy a house with the intention of making improvements to it and then selling it for a profit, a practice that is commonly known as "house flipping," there may be tax and GST implications for you.Why is this important?

Whether you're buying, selling, or remodeling a home, you run the risk of being surprised by a hefty tax bill. This is something to keep in mind. Before you make your next move, you can save yourself the headache of an unexpected tax bill by doing your research, checking to see what taxes might apply, and counting the costs.

Capital gains tax on investment property explained

Your primary objective as an investor should be to maximize the amount of money you make from each of your properties. When the time comes to sell, you will either have a gain (also known as a capital gain) or a loss (also known as a loss on sale) (known as a capital loss). In either case, there are particular tax obligations to fulfill.

Navigating the real estate landscape? Partnering with a knowledgeable property advisor can help you make informed decisions for maximizing returns on your investments

If you sell an investment property and make a profit, lose money, or break even, you are required to report this transaction to the ATO in order to ensure that you are paying the correct amount of tax. Despite the fact that this is referred to as the capital gains tax on investment property, it is included in the calculation of your income tax.

When you file your subsequent tax return, the amount will be added to your income if you make it again.

Because you may be making a gain of potentially thousands of dollars, this may cause your total assessable income to be placed in a significantly higher tax bracket, which will result in a significant increase in the amount of tax you are required to pay.

You are not permitted to deduct losses from your taxable income under any circumstances. On the other hand, you can use it to reduce the amount of tax that you owe on other gains in capital when you file your subsequent tax return.

What are investment property expenses tax-deductible?

The Australian Taxation Office (ATO) has outlined in detail the types of tax deductions that can and cannot be claimed for investment properties.

When your investment property is being used for rental purposes, and only then, are you eligible to claim tax deductions for costs associated with that property (or genuinely available for rent).

One of the best ways to reduce the amount of tax you have to pay on an investment property is to become knowledgeable about the deductions you are eligible to claim. So, what kinds of costs are eligible for deductions related to your investment property?

Rental expenses you can claim in the same financial year:

• Fees for the strata, as well as council and land rates
• The costs of utilities
• Charges for advertising real estate
• Costs associated with property management
• The costs associated with property upkeep and repairs
• Insurance for landlords
• Certain legal costs (such as evicting non-paying tenants)

Rental expenses you can claim over several years include:

• Borrowing expenses: costs incurred in connection with obtaining a loan in order to finance the acquisition of your investment property, including but not limited to loan establishment fees, lender's mortgage insurance, stamp duty on your mortgage, and other similar costs.
• Capital expenditure: including both depreciating assets and improvements made to your property (which will help it generate more income) (such as carpets, curtains, white goods, and furniture for your investment property).
• Capital works: including things like extensions, renovations, and alterations to the structure.

However, only some of these expenditures are eligible to be deducted from your total income. At tax time, you won't be able to deduct certain costs associated with investment properties, depreciating assets, and other expenses related to borrowing money to pay for investment properties because certain conditions apply.

To ensure that you get the most money possible back from your tax return, you need to check into which expenses you might be able to claim as a deduction.

Tip: Use a property manager to help manage your taxes

It is a lot of work to keep track of all of your expenses so that you can report them to the ATO, and doing so will take up a good portion of your time.

If you are left with an uneasy feeling in your stomach, one solution that we can recommend is hiring a property manager to assist with the management of tax time. They are able to prepare annual statements for you, which will make it much simpler for you to claim all of your investment property tax deductions at the same time, despite the fact that they may charge you for this service.

Check out our suggestions for lowering investment property tax now that you understand the fundamentals of filing tax returns for investment property and what you are eligible to claim.

P&I or IO? - Best Loan Structure for Investment Property Explained

On the subject of property finance and property loan structure, the question "P&I or IO?" is sure to come up if you spend any amount of time looking through real estate investing forums or reading real estate news websites. If you are an aspiring investor who has little background knowledge, there is no doubt that those abbreviations left you scratching your head while holding a cup of coffee.

Interest-Only (IO) and Principal and Interest are abbreviations for Interest-Only and Principal and Interest, respectively (P&I). Because of the influence that they have on the interest rates that you will be charged and the total amount that you will owe, the various property loan structures are extremely important considerations to give some attention to during the property financing process.

Both of these strategies aren't foolproof, so you'll need to pick the one that's going to work best for you as you move forward in your real estate investing career.

In order to assist you in finding the most suitable loan structure for an investment property, we have defined some of the key terms that you might encounter, as well as the benefits and drawbacks of IO and P&I loans, and when it is appropriate to select one over the other, so that you are able to make a prudent financial choice with self-assurance.

Investment property mortgage definitions to remember.

First and foremost, it is imperative that you have a solid foundational understanding of the fundamental concepts that are discussed in relation to home loans and interest rates on real estate investments.

• The interest rate on a loan is the percentage of the total loan amount that is paid back to the lender in exchange for the use of the lender's assets.
• A variable interest rate is one that will change over the course of your borrowing period, as opposed to fixed interest, which has a rate that remains the same throughout the entirety of your borrowing period.
• After taking into account the effect of compounding interest, the rate of interest that you will actually pay on an annual basis is referred to as the effective rate.

Following our discussion of some fundamental concepts, it is time to move on to the most important question: whether to choose an interest-only or a principal and interest arrangement.

What is an interest-only property loan?

When you take out a mortgage that only requires you to pay the interest for a predetermined number of years, this type of loan is known as an interest-only mortgage. After this period, which can last anywhere from one to ten years on average, you will be required to start making payments on the principal along with the accrued interest (principal and interest).

Benefits of an interest-only loan structure

You will have the opportunity to benefit from the following loan structure, provided that you choose it:

• Reduced monthly payments during the period's initial fixed term.
• This gives you the opportunity to save money or prioritize other payments.
• You will be able to buy yourself some time so that you can spend more money on your investment property. You can furnish it, renovate it, and make sure that it is in excellent condition for the tenants who will be moving in.

Disadvantages of an interest-only loan structure

Having said that, interest-only mortgages on properties can have a few potential drawbacks, including the following:

• Due to the possibility of higher interest rates throughout the duration of the loan, you might end up paying more in total interest.
• Due to the fact that you are only paying the interest on your loan, it is possible that it will take you a longer period of time to repay it.

So, when should you choose interest-only loans?

When the economy is unstable, when there are fluctuations in the market, when your finances are already stretched thin, and when you want to take on multiple mortgages for several properties, interest-only loans are a good option to consider.

Interest-only loans require a lower payment each month and make more sense if any of the following conditions are met:

• You are currently paying off a mortgage on another property while simultaneously purchasing an investment property.
• You are going to experience a temporary decrease in income, such as because you changed jobs, started a family, or moved.
• You are converting your current residence into a property that will be used for investment purposes.

What are principal and interest?

Now that we've covered that, let's shift gears and talk about P&I. (principal and interest).

When you pay both the principal and the interest on a loan, as opposed to just the interest, the loan is repaid in full. You have the option of starting your repayments with this structure or switching to it after an initial interest-only (IO) period has passed.

Benefits of choosing principal and interest loans

The following ancillary services are included with principal and interest loans:

• It is likely that the amount of net interest that you pay back at the end of the loan will be lower.
• If you choose principal and interest as your repayment method, the bank will typically provide you with better interest rates.
• You can pay off your loan faster and end up with full ownership of the property sooner.

Disadvantages of principal and interest loans

The most significant disadvantage of selecting principal and interest loans is that you are required to make higher repayments right from the start. This can put a strain on your finances, particularly if you are working to pay off other debts or want to spend more money renovating your home.

So, when should you choose principal and interest?

When the market is doing well and you have the financial flexibility to make larger payments on the principal and interest of your loan at an earlier stage, you should consider getting a principal and interest loan.

Even though this loan structure will require you to make higher payments in the short term, in the long run, it will end up saving you money and helping you build equity in your home much more quickly. If any of the following apply to you, you should look into principal and interest loans:

• You are in a better position financially to make larger payments toward the principal of your loan.
• Since the market is doing well, you should be able to increase the amount of equity you have in your home.Interest-only vs principal and interest case study

Let me introduce you to Steph, a fictional character who dreams of becoming a real estate investor.

Steph has just recently finished paying off her home loan, and in celebration of this momentous occasion, she has decided to buy an investment property.

Because she has read our piece on how to find the best mortgage broker, she is aware of who she should consult regarding her various financial matters.

It is necessary for her to take out a loan in the amount of $300,000 and use a mortgage calculator in order to evaluate the differences between the interest rates on investment property and the amount she will be required to repay for both IO and P&I options.

On a home loan with a term of 25 years and an interest-only period of 5 years, her total outlay will amount to $446,800 if we assume that the interest rate will be 2.99% and that the interest-only period will last for 5 years. After the initial payment obligation period of five years, her monthly payments will be increased to $1,672 from the current amount of $758.

If Steph went with the P&I option, the total amount that she would have to pay would be $429,322, which is $17,478 less than what she would have to pay with the IO choice. Because of this, she would be required to make payments of $1,431 each month.

What should Steph choose?

P&I would be the most suitable choice for Steph given that she does not currently have to make repayments on any other loans and is in a position financially to make substantial payments right from the start of the loan. She will come out ahead financially in the long run and will be able to speed up the process of adding equity to her investment property.

Steph would be best served by going the P&I route; however, there are merits to be found in either alternative, and neither one is going to be ideal in each and every circumstance.

There is no magic solution to the problem of financing your property. Be sure to conduct in-depth research into your current circumstances and seek the advice of a financial professional before making any decisions.

The ATO tax returns crackdown on property investors

Each year, the ATO focuses its attention on a select group of important industries and fields. According to recent reports, investors in real estate should once again make sure that their tax returns are accurate by dotting their i's and crossing their t's. The ATO conducted an investigation and discovered that 90 percent of rental deductions contained an error. This led to the agency's decision to crack down.

One of the areas that the ATO will be focusing its attention on is the practice of investors who take money out of their property loans for personal use while simultaneously continuing to deduct the full interest rate on the loan. Make sure that you only claim the interest on the money that was used on or for the property if you intend to use funds borrowed from a property investment loan for a vacation, the purchase of a car, or any other purpose besides investing in property.

Another crackdown that has been announced will be directed at people who make a single claim on improvements to the property that should be claimed as depreciation over the course of several years. In other words, you cannot deduct the cost of capital improvements as a repair expense.

In addition, the Australian Taxation Office (ATO) has pledged to crack down on individuals who do not report income earned from short-term rentals such as Airbnb.

In conclusion, the ATO has issued a warning that they are "always watching" and that beginning this year, they will also be monitoring people's social media accounts to determine whether or not they are living above their means.

The easiest way to stay out of trouble with the ATO is to make sure that you are in compliance at all times throughout the year. Check out our brand new post for the new fiscal year to get a ton of helpful advice on how to ensure that you are prepared for success right from the start. The most vital point is that it is in your best interest to work with a trustworthy accountant who can assist you in obtaining a satisfactory and truthful return when it is time to file your taxes.