Investment Property Ownership Taxes – GST, Land Tax and Income Tax

Recently we kicked off a series of discussions designed to help inform our readers regarding the tax treatment of property investing in 2021.

We are breaking it down into three stages being –

  • Tax Implications of Investment Property Acquisition
  • Tax Implications of Investment Property Ownership, and
  • Tax Implications of Investment Property Disposal.

In our first post we started with the Tax Implications of Investment Property Acquisition looking at –

  • Transfer Duty (previously known as Stamp Duty)
  • Goods & Services Tax (“GST”)
  • Foreign Residents Withholding Tax

Then we moved onto the Tax Implications of Investment Property Ownership starting with –

  • Goods & Services Tax (“GST”),
  • Land Tax.

Today we continue with more Tax Implications of Investment Property Ownership but this time focusing on the big one…

“Income Tax” Implications of Investment Property Ownership

In the case of Income Tax, there is little difference between the treatment of residential and non-residential property.

Though there is a difference between the treatment of a developed property (ie. one with a residence or building on it) and vacant land.

But first, we will look at the two elements that make up the taxable income upon which Income Tax is paid.

Assessable Income

In the standard scenario where a residence or commercial building is leased to a tenant, the rent that is earned by the property owner is considered ‘assessable income’ and therefore Income Tax will be payable on the rent received at the prevailing tax rate applicable to the property owner.

Deductible Expenses

However, the property owner is able to reduce their assesable income by the amount of any expenses incurred in connection with earning that assessable income.  These are the ‘deductible expenses’.

It helps to break deductible expenses down into a few categories.

The first category of such deductible expenses are the property ‘holdings costs’ which include –

  • Council Rates
  • Insurance
  • Land Tax (yes this is one of the few taxes that is also tax deductible)
  • Repairs & maintenance
  • Water Rates

Then there are ‘financing costs’.  These apply where money is borrowed inorder to acquire (or build or renovate) the property.  These include –

  • Borrowing costs (being the fees charged by a lender in order to establish a loan used in connection with the property)
  • Interest (charged on the loan used in connection with the property)

Next there are ‘management costs’ which are the expenses incurred in connection with managing the renting of the property to the tenant.  These include –

  • Advertising (for tenants)
  • Bank fees (associated with the bank account used to receive the rent)
  • Management fees (charged by the Real Estate Agent managing the property)

Finally, there are ‘non-cash expenses’ which represent the decline in value of the building and associated fixtures and fittings located on the property and used by the tenant.  These include –

  • Capital Works (the decline in value of the building)
  • Capital Allowance (the decline in value of the fixtures and fittings located on the property)

Taxable Income

The taxable income upon which Income Tax is paid is determined by subtracting the total deductible expenses from the total assessable income.

Illustrative Example 2

Joe Smith owns a property which he rents out for $500 per week.

He purchased the land for $250,000 and spent $200,000 building a house upon it.

He borrowed $350,000 from the bank to do so.

He also spent $3,000 on a fridge, washing machine, clothes dryer and dish washer which he placed in the house for the tenants use.

Joe uses a Real Estate Agent to manage the property.

His taxable income from owning the investment property is determined as follows –

Assessable Income
Rent ($500 per wk for 52 wks) $26,000
Total Assessable Income $26,000
Less: Deductible Expenses
Advertising (Advertising to find the tenant) $150
Bank fees (On the account into which rent is received at $5 per month) $60
Capital allowances ($3,000 depreciated over 10 years) $300
Capital works ($200,000 amortised over 40 years) $5,000
Council rates $950
Insurance $550
Interest ($350,000 at 3.5%) $12,250
Land tax $300
Management fees (9% of rent received) $2,600
Repairs & maintenance $250
Water rates $750
Total Deductible Expenses $23,160
Taxable Income $2,840

Then, Income Tax is paid on the taxable income…

Income Tax Payable

In the above example, Joe would pay tax on only $2,840 even though he received a total of $26,000 in rent.

The amount of Income Tax payable is determined by the applicable tax rate that applies to the property owner.

So if we assume Joe earned $100,000 from his job, his marginal tax rate (including Medicare Levy) would be 34.5%.

Therefore the Income Tax Joe will pay on the taxable income earned from owning his investment property would be $979.80 ($2,840 x 34.5%).

Negative Gearing

So “what is negative gearing” we hear you say.  We will cover that in our next post…