Hi jacqui,

Unfortunately, its not as simple as choosing not to claim the expenses, and therefore not having to declare the income. from the point of view of the tax office you are using your home to produce income, and its taxable (& you are entitled to claim your expenses against that income).

Declaring the rent isnt that big a deal, because your expenses will most probably be more than the rent, so you’d get a tax advantage from declaring it. The problem is that if/when you sell the property, you will not get the full main residence exemption for capital gains tax. So if your renting out 20% of your house, then 20% will be subject to capital gains tax when you sell. The tax department perceives this kind of arrangement to include shared common areas… that is, you might only be renting out one room, but you also loose the exemption for half all the common areas. So if there’s only two of you living there, then that percentage will be pretty close to 50%.

There’s an example here:
http://www.ato.gov.au/individuals/content.asp?doc=/content/36910.htm
bottom of the page.

That said… whilst of course I cant condone it, heaps of people do sublet a room to help with their mortgage and dont declare the income, its almost “unaustralian” not to. its probably not something to worry about if your being paid cash and your tennant is not collecting rent assistance from centrelink. (data matching)

hi andrew,

the details of this situation are particularly important.. I’m curious as to why your friend was living ‘between’ the properties for this period of time.

Regardless of what that situation is, there are three pertinent cgt “rules”:
6 month ‘overlap’:
http://www.ato.gov.au/individuals/content.asp?doc=/content/36888.htm

PPOR 6 year extension (that infra mentioned):
http://www.ato.gov.au/individuals/content.asp?doc=/content/36887.htm

“home first used to produce income” rule:
http://www.ato.gov.au/individuals/content.asp?doc=/content/36910.htm&page=3&H3
-but to use this rule you would have to have primarily lived in the first residence for the whole 12 months, and the new residence ‘secondarily’

points to remember:
1. he can claim the exemption on both properties for 6months, out of the 12 months he was living in both.
2. he can extend the ppor exemption on the first place for up to 6 years, but in doing so you would loose the exemption on the new house.
3. if the property was sold after 12 months of being a rental, and your friend lived in that property as a PPOR up until it became rented then the cost base for the purposes of calculating CGT would be market value at the time it was first rented. This is really important, and often results in substantial CGT savings.
4. your friend really really needs to talk to an accountant. the three rules listed above can have complicated interactions, for example, use of rule 2 will exclude the use of rule 3, and almost certainly result in paying more CGT than your friend has to. rule 1 also has ramifications for rule 3. The specifics of this scenario have ramifications for all three rules, and your friend needs to decide how he is going to “represent” the situation. And as infra said.. someone needs to do the math and determine the best course of action.

yep thats right.. the one thing you didnt mention was that you have to live in the new house for 3 months before you sell it.
so:
A: original existing house
B: first house you build before subdivision
C: second house you build after subdivision

buy > live in A > demolish A > build B > live in B > subdivide > start building C > sell B > live in C

at face value that would work..

but of course, there’s a number of potential issues which you need speak to an accountant about (do your activities constitute a business? … GST? … > 5 acres?) and.. you could make creative (and beneficial) use of the “home first used to produce income” rule – but thats a bit long winded to explain here.

oh.. and I gave you the wrong link before… this page is particularly relevant:
http://www.ato.gov.au/individuals/content.asp?doc=/content/00191831.htm&page=84&H84

In short.. you wouldnt pay CGT on the sale of the front house. But if you ever sell the back house (which you finally move into) there will be CGT payable.. although I’m a little unclear on exactly which period of time it would be payable on.. either from original purchase until you move in, or from demolition of the original house, until you move in. probably the latter…

The reason why you cannot claim the PPOR exemption on both is because the assets will end up being sold seperately…
CCH master tax guide 2010:
The main residence exemption does not apply to a CGT event that happens in relation to adjacent land or a garage, storeroom or other structure if that CGT event does not also happen in relation to the dwelling upon which the exemption relies (s 118-165). For example, land under a unit of accommodation will not benefit from the main residence exemption if the taxpayer sells that unit of accommodation separately from the land (Taxation Determination TD 1999/73). Similarly, where a vacant block of land is sold following the intentional demolition of a dwelling which was the owner’s main residence, this rule applies to deny the taxpayer a main residence exemption (ID 2003/248).

Also.. if you did not demolish the existing house, and simply lived in it whilst building the other house, then you’d have a 6 month ‘overlap’ period on which you can claim the CGT exemption on both.
http://www.ato.gov.au/individuals/content.asp?doc=/content/00191831.htm&page=81#P2751_286865

Re: What constitutes a business… as graham said, there’s no strict definition, and a little room to move.

The criteria generally considered in determining whether an activity is a business are:
-significant commercial activity
-a purpose of acting in a commercial way
-an intention to make a profit
-a reasonable prospect of profitability
-repetition or regularity of activity
-reasonable size and scale
-conformity with normal business practice
-existence of a business plan
-keeping of detailed business records
-commercial sales of product
-exercise of knowledge or skill (Taxation Ruling TR 97/11).

Furthermore, the definition includes “an activity done in the form of a one-off venture in the nature of trade”. For Example, the ATO considers that buying and renovating a commercial retail store with the intention of reselling at a profit would probably constitute an enterprise. However, simply because a profit has been generated does not in itself mean that an enterprise exists. (see GST Ruling GSTR 2001/7)

Based on all that, researching, buying, renovating, and selling, even one property could constitute a business, provided your primary intention is to turn a profit. However, given motivation you could argue that its not a business. As graham pointed out.. you could probably get away with that once or twice, but after three your starting to look more and more “repetitive and regular” That said.. 2 reno’s every year, 5 years in a row, looks pretty regular too.

As terry pointed out… for residential properties you only have to pay GST on properties which are “new” (less than 5 years old, and has not been sold before) OR “extensively renovated” (see GST Ruling GSTR 2003/3) However, in mav’s proposed example, partially renovating existing houses, the sales will be considered to be “input taxed” – so no GST is payable and input tax credits for acquisitions relating to the sale are not available.

So being considered a business would simply mean you can not claim the main residence exemption, and would not, in itself, mean that you have to pay GST.

This is definitely a situation in which you need to explain to a qualified accountant exactly what your intentions are and listen to what they have to say.

Hi kenny,
your absolutely right, the sale will be a cgt event, but also exempt.

Re: moving out whilst renovating, I simply meant that you didnt actually have to live there during the renovation for the main residence exemption to still apply. I should have been a little more concise, (now I look at my comment it really doesnt make much sense in relation to this situation) What I failed to point out is that if you dont actually live there subsequent to completing the renovation, you can still extend the main residence exemption.The three month thing is more relevant to situations where the property was not your main residence prior to renovating. My apologies.

literature:
extending main residence exemption:
http://www.ato.gov.au/individuals/content.asp?doc=/content/36887.htm

renovating prior to moving in:
http://www.ato.gov.au/individuals/content.asp?doc=/content/36883.htm

Terryod: it all depends on what interest he is claiming against the rent on that property he moved out of.. he cannot claim interest on loans used to construct the new property which he is now living in, even if those loans are secured against his original PPOR.

Benno: I thought “love and affection transfers” could only be conducted where no money changed hands? so at first glance, you wouldnt be able to use such a transfer to change your borrowing purposes around. I’m really not sure.. I’ll look into it.

Hi new2invest..

Basically no.. sale of your ppor will not be a cgt event.

That said.. there’s a few things which may mean your only eligible for a partial exemption – the period of time between purchasing and moving into the home may be relevant, in short you need to move in “as soon as is practically possible”. Also, if your running a business from home (even if its not your primary source of income)

Also, you may move out whilst renovating, provided that you move back in for at least three months after the renovations are completed, and still be cgt exempt for the entire period of ownership.

There’s some good info here:
http://www.ato.gov.au/individuals/content.asp?doc=/content/36883.htm

Hope that helps,

There is a transcript of the erdelyi case on austlii :
http://www.austlii.edu.au/cgi-bin/sinodisp/au/cases/cth/AATA/2007/1388.html?stem=0&synonyms=0&query=^Erdelyi

I sent you a private message with details of the summers case… because I couldnt find it on austlii – and posting portions of my reference materials here would probably be copyright infringement.

Both cases illustrate the importance of the other factors listed above, other than how long you lived there.

It depends on a few different things, so the actual amounts deductible may vary slightly, but that said.. you will be able to depreciate the cost of the item over a number of years regardless of when it is installed.

So whether its installed as part of the contract, or you pay for it seperately after construction is completed, you will be able to claim a tax deduction for it.. but you will not be able to claim it all in the year of expense. It needs to be depreciated over time (usually 8 years) and you claim a deduction for that depreciation. Best case scenario, you will be able to claim $1000 (pro-rata) in the first year, reducing to $0 over 8 years.

If its installed during construction, then after construction is complete you can get a quantity surveyor (depro or some such) to go through, assign value’s to everything, determine everythings useful life, and calculate a 20 year schedule of the total depreciation in each year. The depreciation on your heating system will be included in the schedule you receive. Depending on the contract and the quantity surveyor.. they may only depreciate the cost of the heating unit itself over 8 years, and the cost of the ducting etcetera as part of the building over 20 years. In that case the deduction for the heating system itself would be marginally less in the first year.. but you will catch it up over time.

Also (kindof unrelated but if I dont point this out.. someone else will) depreciating the item or the entire building will reduce/corrode your cost base for the purposes of capital gains tax.. so if you sell the property you may end up paying more in capital gains tax than you would have if you hadnt depreciated the building in the first place. but… if you do the math your still better off depreciating.