Learn to deduct and weave

By Barbara Drury | May 28 2009 | The Sydney Morning Herald & The Age (subscribe)

With interest rates at 49-year lows and the outlook for property prices uncertain, negative gearing an investment property isn't as attractive as it once was. That makes it all the more important for property investors to maximise eligible tax deductions prior to June 30.

Last year, the Australian Taxation Office wrote to property investors outlining what they could and couldn't claim, prompted by a blowout in claims in previous years.

While rental property deductions may not be an explicit target this year, GMK Centric tax director Eugene Berkovic says the Tax Office maintains a focus on inappropriate claims.

Berkovic warns the Tax Office is likely to take note if your claim is markedly different to claims made in previous years or out of line with taxpayers in similar circumstances.

According to the Tax Office, there are two broad categories of claimable rental property expenses: those you can claim in the income year you paid them, such as council rates, repairs, insurance and loan interest; and those you must deduct over a number of years such as structural improvements and depreciation.

David Naylor, of accountants and property specialists Chan & Naylor, says there are a number of things property investors can do prior to June 30 to maximise deductions.

"Most rental properties are managed on a cash basis by mum and dad investors so if land tax or rates are due, pay now rather than in July," he says.

Naylor also suggests bringing forward the timing and payment of repairs, being mindful that it has to be a repair rather than a capital improvement, such as a bathroom renovation, which must be depreciated over a couple of years.

"If it needs a coat of paint, broken tiles need replacing or kitchen cabinets need repairing, that's OK," says Naylor.

He also advises clients to make sure their property is properly insured and to pay next year's insurance premiums before June 30.

You may also be able to pre-pay up to 12 months interest on your investment loan and claim a deduction in the current tax year (see box below).

You can only claim interest in advance on fixed rate loans and Berkovic warns only individuals are eligible to claim. If you hold your investments in a trust or company, you don't qualify. Berkovic says one claim many overlook is a 2.5 per cent write-off against the cost of building or renovating an investment property, even if the work was carried out long before purchase.

You can claim a write-off on residential properties built since June 1985 and commercial properties built since July 1982. Structural improvements made since 1992 are also eligible. Naylor says people often buy a property that has been recently renovated and miss out on claiming depreciation on the cost of renovations and the building itself. To claim the write-off, you need to get a quantity surveyor's report. This will estimate how much your property cost to build and/or renovate. As the cost of the report is tax deductible, Naylor says it is well worth the effort.

According to the Tax Office, there are a number of common mistakes relating to rental property claims, such as claiming the full amount of expenses for holiday homes only available for rent part of the year or claiming for properties not genuinely available for rent.

The Tax Office warns against claiming the full cost of an inspection visit when combined with a private purpose such as a holiday. If you travel to Byron Bay for a weekend and inspect your rental property while there, you can only claim the portion of travel from your holiday accommodation to your rental property.

Another common mistake is overstating deductions for interest on loans that are only partly taken out to buy, renovate or maintain a rental property. If part of the loan is used to buy a car or fund a holiday, for example, that portion is not tax deductible.

Berkovic says people sometimes increase borrowings on an investment property to buy a principal residence, mistakenly thinking they can claim a tax deduction for loan interest.

This typically comes about when someone pays off their home and decides to borrow against it to buy a new residence, keeping their old home for rental purposes. "You have to look at the property for which the loan is taken out if it's not for income-generating purposes, you can't claim," says Berkovic.

Prepay loan interest

To prepay next year's interest on an investment property loan and claim a tax deduction this financial year, property investors must take out a fixed rate loan. But not all products allow you to pay interest in advance.

While the major banks all offer an interest prepayment facility, few of the smaller, non-bank lenders do.

David Naylor, of accountants Chan & Naylor, says you may be able to negotiate pre-payment of interest with your bank in return for a lower interest rate but says you should make sure the terms are written into the loan contract.

In the past month, lenders have begun lifting rates on longer-term fixed interest home loans, an indication that we are nearing the end of the low interest rate cycle.

Average fixed rates are currently 5.5-6 per cent for a one-year loan term, 6-6.5 per cent for three years and 6.5-7 per cent for five years.

Canstar Cannex analyst Frank Lopez says that although three-year fixed rate loans are generally the most popular, many people are opting to fix for one year because short-term rates have fallen in line with the Reserve Bank of Australia's cash rate, which is currently at 3percent.

"One-year rates are at such a low level that people are happy to lock in for one year and see what happens," says Lopez.

Of the major banks, NAB offers the cheapest fixed investment loans over one year (5.09 per cent), three years (5.64) and five years (6.09), while NAB and St George earn a Cannex 5-star rating for superior value.

What you can claim

* Advertising for tenants

* Agent fees and/or commissions

* Bank charges and interest

* Body corporate fees

* Borrowing expenses

* Council rates

* Decline in value of depreciating assets

* Gardening

* Insurance

* Land tax

* Pest control