An Australian holiday home remains one of the most appealing investments. They are often the perfect place where families and friends can get together in close communion with nature. Some of these are situated in the middle of cities and provide a great alternative accommodation for people who would rather not stay in conventional hotels.
While holiday homes or rentals have always been popular with holidaymakers, the rise of the sharing economy with services such as AirBnB has further expanded the market for holiday rentals. This makes them an attractive investment and thousands of Australians make the plunge every year and purchase holiday pads.
However, the popularity of holiday homes also makes them a nightmare for the taxman. Many holiday home owners are over-claiming tax deductions on their expenses in these properties or simply claiming the wrong deductions. The practice has been so prevalent that the ATO is currently increasing its surveillance on holiday rentals to minimize instances of tax rorting. If you are planning to invest in a holiday home or rental, it helps to be aware of the various tax pitfalls that you may have to grapple with in owning and managing your holiday real estate.
Getting the Tax Returns of Your Holiday Rentals Right
To avoid getting caught offside and being forced to pay costly penalties, here are some details to keep in mind when it comes to holiday properties and taxes:-
Rental Returns Should be declared as an Income
If you will be renting out the holiday property over periods when you are not using it personally, you will need to declare the rental returns as income.
Renting out your holiday property
A major issue that the ATO has faced with the holiday homes is incorrect tax deduction claims. Holiday property owners claimed deductions for periods when they used the properties on their own or rented it out to family, friends or colleagues freely or at discounted rates called “mates rates”.
You are only allowed to claim tax deductions for periods when the property is genuinely available or rented in the open market at market rates. The expenses incurred for personal use or for “mates use” are not tax-deductible.
Claims on the cost of repairs and renovations
Holiday rentals are high maintenance properties. This is particularly the case for prestige properties that are situated in prime locations such as beaches. If you will be doing repairs and renovations on your holiday property, it is important that you know the right expenses that you can claim. The costs incurred when repairing damages or defects at the time of the purchase cannot be claimed immediately. Instead, these costs will be deductible over several years. You can only claim the ongoing costs for holiday property repairs and maintenance.
Splitting of Income and Deductions between Holiday Property Home Owners
One of the issues raised by the ATO has been cases where husbands and wives are splitting the holiday property income and deductions such that the higher earning spouse gets the bulk of the tax benefit even in cases where the property is owned 50-50. In case the holiday property has been acquired jointly with a spouse, the income and deductions should be split equally.
Large tax deductions claims
You should be cautious over the amount tax deductions claimed. Claiming a large deduction over a period when the holiday home was barely tenanted might open a Pandora’s Box. Ensure that the deductions claimed are reasonable in relation to the income that the holiday property generated.
Costs You Can Claim in Your Holiday Property
Not all the holiday rental costs can be claimed. Some of the areas that you can’t claim include the following:-
- You can’t claim the costs of acquiring and disposing of your holiday property. These include costs such as advertising costs, listing costs, stamp duty and conveyancing costs. Because they are of capital nature, they should be incorporated in the cost base of the holiday property.
- The expenses that you have not directly incurred as the property owner. You can’t claim costs incurred by the person that is renting the property.
- Costs not associated with the rental of the property. For example, if you took out a loan to purchase or renovate a holiday property and drew down some of the funds for other private uses, you can’t claim the interest payments on the same.
Some of the expenses incurred on your holiday property are not immediately tax-deductible. However, you can claim these over several years. These include costs such as the following:-
- Borrowing expenses: These are the costs that are associated with the property financing. They include loan establishment fees, title search fees and the stamp duty on mortgage.
- Depreciation costs on the assets in the rental property such as hot water system and air conditioning systems etc.
- Capital works deductions: These are costs incurred when altering, improving or extending the structure of the rental property.
These costs can only be claimed if they are incurred for the duration when the property was rented or was genuinely available in the open market for renting.
Keep the records
For tax purposes, ensure that you keep the records to back up your claims. You might face a substantiation nightmare if you are paying some of your expenses using cash.
Due to the large volumes of claims by rental property owners, the ATO is closely watching this year’s rental property deductions. As an owner, you have to be extra careful and double-check your claims to ensure you have filed correctly. To be on the safe side, you can use a tax agent or an accountant Melbourne professional who will go through your tax returns to ensure that you have claimed only what you are entitled to and that you have the records to justify the claims.