In spite of the battering that the residential market has taken of late, many Australians still aspire to own investment property.
When considering whether to buy new versus older property, price is only ever part of the equation.
And buying a new dwelling has numerous benefits over buying a second-hand property.
One important benefit that new homes offer investors is great capital depreciation, with up to 60% of the built cost being tax-deductible over time.
When considering a brand new investment property, and in particular, when deciding to build or purchase off the plan, it is wise to obtain advice from a depreciation specialist as early in the planning stages as possible.
That way, an investor will be aware of the best choices to make in order to maximise depreciation benefits.
For example, when a property is being built, the selection of fittings and fixtures will determine their dollar value in terms of depreciation deductions.
And this, in turn, will make a difference to the cash flow potential of a new investment property.
Let’s look at floor coverings by way of an example – carpet, versus timber floorboards, versus tiles. For depreciation purposes, each of these is deemed to have an effective life. Carpet – 10 years; timber floorboards – 15 years; and tiles – 40 years.
A $2,000 outlay on floor coverings, for example, would result in the following depreciation benefits in the first year: Carpet – $400; timber floorboards – $267; and tiles – $50.
Similarly, for a $2,000 expenditure on lighting, ornamental lights with a five-year effective life would incur an $800 depreciation benefit in the first year, versus down lights with a 40-year effective life and a $50 depreciation benefit in the first year.
And naturally, depreciation benefits continue in subsequent years until all amounts are exhausted.
Armed with this sort of knowledge, an investor might find it financially viable to upgrade a level of finish from, say, low to medium or medium to high.
But it takes an expert in the field to keep up with the machinations and new methodologies of the ATO, and to structure depreciation schedules that will maximise benefits for owners.
These days, for example, renovating is on the rise. And what some new or would-be investors may not know is that they can claim deductions for an old property that is scrapped.
When building a new investment property and tearing down an old home, items that are scrapped or removed, such as carpet, air conditioning units, stoves etc, may have left over value that can be claimed as a tax deduction in the year of removal.
The same applies to the qualifying structural element of the property. But the important thing is to obtain a tax depreciation report pre-demolition, in order to be eligible for any savings at tax time.
Depreciation is basically a numbers game, but with a twist. Broadly speaking, most of a building is claimed at 2.5% per year for 40 years, however, up to 25% of the total construction cost can be written off more quickly.
Good luck with that investment.
New property also means less headaches, especially if you are an out of town investor. I have found that getting a plumber or electrician in to look at things that are falling apart in an old home can be a huge expense!
Very interesting point about the quality of fittings and the associated depreciation.
I would have thought the depreciation amounts and timeframes merely reflect the cost and expected lifetime of the item: tiles need less repairs and last much longer than carpet etc. Choosing items simply because they give you a higher depreciation return sounds like a wasted exercise to me. You get more return for say carpets, but then have higher purchase + install costs, have to replace more frequently etc. I would have thought the end result would be no nett gain: other than keeping tradies employed but at a greater cost to the environment. After all isn’t this why the depreciation rules are as they are. End result is there is no free lunch.
Perhaps you can prove me wrong here?
Most property investors find that the first 3-5 years are the most difficult since cash flow can be tight. This is where the benefits of depreciation can really help. If you buy wise in an area of solid growth and good yields, your property should be easily cash flow positive after that period. If the carpets need renewing in 10 years, you should be plenty of equity to be able to afford that. The key is to buy well to begin with. Old doesn’t necessarily mean well…..
1. Of course, new properties usually come with less land, and it’s land that appreciates, even more so the bits on which density can be increased. But you didn’t hear it from Michael first.
2. Emlyn, you are dead right. Depreciation is as dodgy a reason to sway a property purchase, as is negative gearing (in a flat or negative market). Sure dep. can help cash flow early on, but you lose it either in the capital cost adjustment when you sell or when you have to replace the depreciated items. Depreciation credits should never be considered free money. Rather they should be put into a separate account as it is money committed to future costs.
3. Nevertheless, Michael is probably pedaling this angle because FHBs generally cannot afford new builds. Investors have been taking that risk for a few decades now. Of course, the real solution is to let land values keep falling until FHBs can afford to build again, like they could before banking deregulation.
Is there a reason FHB’s have to build? A quick look at realestate.com shows that you can purchase a 2 br unit in Loganholm for $180k, Caboolture $170k, Queanbeyan $200k, Penrith $179k, Adelaide $146k. Not sure where the real affordability issue is. The real issue seems to be wanting a McMansion or just ‘having’ to live in a trendy suburb with great coffee…….
WHen I was 20, the working class bought houses on 600-700m2 25-30km from the city, with 1-1.5 incomes. They had shorter commutes to work and more public transport options.
I presume you mean your examples are affordable for the working class.
However, they represent a drop in the standard of living – smaller home, smaller land content, further from work, less public transport options, requiring 1.5-2 incomes to service.
The affordability debate consistently overlooks this drop in std of living for the working and lower middle classes. It also overlooks the increase in the casualization of the workforce and lower job security. The affordability argument is carried on at the most dimwitted level, as if no one realizes median wage and median household income are different. And it totally ignores the change in standard deviation of wages from the median.
To understand the obesity epidemic you need look no further than longer commute times and requisite dual income households leading to less time for recreation and home cooked meals. Add an obesogenic built environment and anyone who thinks the std of living is equal or better now than 30-40 years ago doesn’t comprehend the price paid.
One day in the future, the RBA and various public sector elites will realize how blinkered their view was in allowing housing credit to grow much faster than household income and the growth rate of public infrastructure.
You are right prudent1, investors have been taking that risk for a a few decades now and have made a lot of money out of it….not sure where this comes in as a bad thing???
Angela, how much has your average Brisbane resi property investor made in the last 12 mths?
As I alluded, banking deregulation is the one off cause of the rate of capital growth outpacing GDP growth rate from the late 90s to end of 2009. Even the RBA and Treasury finally woke up to this in the 2nd half of 2010.
If you think the next 15-20 years will have similar growth to the last, then passive investment in the Gold Coast must be compelling for you these days.
I agree depreciation is not a reason to purchase a property but it sure helps with the repayments. More investors should be taking advantage of it.
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Glad to hear some people agree with me. I suppose the point I was trying to make, is that deciding how to fit out an investment property based on depreciation returns is a no nett gain exercise, with the ultimate loser the environment. Better to choose something that will last and is low maintenance.
Re. issue of affordability, I doubt the world is a better place to live now than 30-40 years ago, merely because there’s twice as many of us and half the resources left – double the number of people living in your house to see what it’s like. However despite this, it never ceases to amaze me all these GenY’ers whinging about how they can’t afford to buy a property, and yet they have plenty of money to pay $60 monthly fees for things like iPhone’s etc. I own my house outright and work, yet still use a 10 year old phone, I refuse to spend $60/month on a mobile. I think GenY’ers need a reality pill.