capital gains and write off of building when demolishing rental property

Question

Hi. I purchased a rental property in May 2009. It was 100% rented from that time to when it was demolished (cost to demolish $10,000) in May 2011. I have since built a new home on the land after the rental house was demolished. I then moved into the home in November 2011 as my principal place of residence. My previous principal place of residence was sold in January 2011.

The rental house was purchased for $470,000 (inc of buying costs). I have a Annual Land Valuation Notice with a Current Site Valuation amount of $320,000 in October 2010.

I have claimed $4804 in Building Allowance out of total $167,390. I have read in ATO literature that I can claim the balance now that property has been voluntarily demolished.

Can you please advise on the capital gains issue and the claiming of the balance of the Building Allowance, Depreciation on Assets and Low Value Pool.

Thanks very much.
Danny Gray













Answer

Firstly Danny it is not like you have a choice not to claim the building depreciation and then not have to add it back to the cost base. The legislation requires you to reduce your cost base by any building depreciation you were entitled to claim whether or not you claimed it.

So, assuming the property was used as a rental property right up to the point of demolition you can claim the balance of the building allowance in your tax return in the year the property was demolished. ID 2010/35
You can also scrap (write off) anything remaining in the depreciation schedule for the old house.


CGT Calculation:

There is no need for any valuations because the property was first held as a rental property there is no resetting of the cost base. It is all a matter of apportioning the capital gain between days covered by your main residence exemption and days not covered.

Section 118-140 allows you to cover two properties with your main residence exemption at the same time for a period of up to 6 months before one of the properties is sold, providing you lived in the property that sold for at least 3 months in the last 12 months and when you weren’t living there you did not use it to produce income. As a result your main residence exemption coverage of this previous rental property can begin in July 2010.

Your cost base will include all the usual elements such as purchase price (less the value of plant and equipment), buying and selling costs, improvements. Note improvements will include your demolishing costs and the cost of the new dwelling. This amount is then reduced by the special building write off you have claimed as a tax deduction.


Section 110-25(4) allows you to increase the cost base by any costs associated with owning the property that have not otherwise been claimed as a tax deduction. This is particularly relevant to the period of time that you live in the ex rental. You can increase the cost base by cleaning materials, light globes, lawn mower fuel etc not to mention the basics such as interest, rates, insurance, repairs and maintenance.

Having established the cost base as per the above it is then deducted from the sale proceeds (less the value of plant and equipment) to calculate your capital gain that gain is then apportioned between the number of days covered by your main residence exemption and the number of days not covered. This method of calculation results in the expenses incurred during the period you lived there contributing to reducing the gain while you were not, in particular section 110-25(4).

The ultimate trick is to die in the property. If the property is covered by your main residence exemption when you die then your heirs inherit it at market value at date of death with no historical CGT liability.

Notice how I have excluded plant and equipment from the cost base calculation. Plant and equipment are subject to normal income tax not capital gains tax. Fortunately, the ATO will accept that the value of the plant and equipment at the time of sale (unless something unusual has happened) is the written down value in the depreciation schedule. This means that you simply reduce the purchase price by the amount of plant and equipment you started to depreciate when you first purchased the property and also reduce the selling price by the remaining value of the plant and equipment.

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