I own a principal residence but, due to complicated family issues, moved out and rent while the family resides there. I'm thinking of buying another place for myself, a second residential property that would be subjected to capital gains tax (CGT) but does not generate an income. I've been told that expenses such as interest, insurance, rates, renovations, legal-bank-agency fees can be added to the capital base when sold to minimise CGT. Are there any other expenses that are deductible? C.T.

If you and your wife live in separate homes while still married, you can nominate both homes as main residences but can only claim a 50 per cent exemption on each.

If there is no reasonable likelihood of again living together, there is automatic rollover relief from CGT when ownership of the former main residence passes to one of the ex-partners.

Regarding your proposed new home, given that you cannot claim a deduction for expenses that are normally deductible, since it is your main residence (or vacant land or a holiday home), then rates, insurance, land tax, maintenance and interest on money borrowed to buy the property or finance improvements can be included in the cost base, as you will be buying the asset after August 20, 1991.

Although one of the elements of the cost base is a "non-capital cost of ownership", I have not heard of utility expenses being added to the cost base of a property and would caution against it unless you receive contrary advice. I have often mentioned I am not a registered tax agent and you should talk to your tax accountant.

Avoid overstretching

I am self-employed with a taxable income of $25,000 a year and my partner's taxable income is $50,000 a year. We are thinking of: 1. Buying a bigger place to live in (estimated value of $450,000). 2. Renting out our principal residence and trying to sell it within two years. Possible rental income is $350 a week. The loan amount is $280,000 on this property (with $120,000 in our redraw facility). We also have some shares with a market value of $25,000). How would this affect us in capital gains tax when we sell this rental property? Can we include the mortgage insurance that we paid when we bought this property as a cost? J.M.

If you move out of a principal residence and rent it, then you can use the market value at the time to determine your cost base, or you can apportion the profits by time after you have sold the property. You do not include borrowing costs if you can still claim them because you are still within the two-year period for amending the relevant income tax assessment.

You have a problem in that, if you redraw your $120,000 to buy a new home, then this is a new borrowing and the money is to be used to buy a non-income-producing asset, so the interest on this is not deductible. If, instead, you had placed your capital repayments into a mortgage offset account, and taken your $120,000 from that, then the interest on the original loan of $280,000 would be fully deductible should you rent the property.

My concern would be that, if you borrow another $450,000, you would have net borrowings of $610,000. At the current low mortgage rate of, say, 5.74 per cent, interest costs alone come to about $17,000 a year after including your $350 weekly rent. But rates are on the way up and you need to include at least $3000 a year as outgoings on your rental property. Once you include capital repayments, you would be stretched and, if one of you were to fall ill, or cease work, it could prove disastrous.

A more cautious approach is to sell your home and use the equity freed up as a deposit on a new home. Estimate how much you can afford in loan repayments after family expenses and then calculate the maximum you can borrow using an estimated average cost over time of, say, 7 per cent. The last two years have proved an excellent lesson on how events can turn against people who borrow too much.

If you have a question for George Cochrane, send it to Personal Investment, PO Box 3001, Tamarama, NSW, 2026. Helplines: bank ombudsman 1300 780 808; pensions 13 28 00.