Tax insights: investing in property (part 1)

About to buy your second property?  STOP AND READ THIS!

We previously published a popular article discussing negative gearing with property investments which offered 5 useful tax tips to consider when buying property.

In this series, we will discuss further opportunities to take into consideration when investing in property.

Part I discusses what happens with a property purchased in one individual’s name in the context of a proposed second property investment.  Please look out for further articles in this series (we may adapt and expand the topics based on feedback and reader interest).

Buying property in one person’s name

It is not unusual to find that a property is acquired in only one spouse or partner’s name.

There can be many reasons for doing this, including (but not limited to):

  • the property was acquired before the individuals were married or entered into a de facto relationship;
  • one individual is the “breadwinner” and is the only person with significant borrowing capacity; and/or
  • for asset protection reasons, one individual is exposed to commercial risks (e.g. sole traders and partners in general partnerships).

If the property is used as a “main residence” (i.e. the owner’s family home), it can attract substantial income tax and land tax concessions.

Did you know: the capital gains tax (CGT) exemption for a “main residence” applies up to a limit of 2 hectares (5 acres) of land.  Similarly in NSW, a “principal place of residence” (PPOR) is exempted from annual land tax up to a limit of 2 hectares.  Now you know why 5-acre blocks of land can be attractive targets for property investment!

Before you move out of your first property, you might wish to consider restructuring your sole ownership of a family home as there may be significant one-off and recurring tax and duty savings in giving half of your interest in the property to your spouse or partner.

Did you know: in NSW, you can transfer 50% of your interest in a “PPOR” to your spouse without attracting NSW duty on the transfer in certain circumstances; if the property qualifies as a “main residence” for income tax purposes, any capital gain on the transfer is exempted from income tax.  

Let’s consider the potential quantitative tax benefit of restructuring a solely-owned property in the following example:

James bought Property X before he married Anita.  They both live in Property X and it is their “main residence” and “PPOR” for tax and duty purposes.

James just got a payrise and he now earns $100,000 a year.  Anita currently stays at home looking after their 10-month old daughter.

The property market is doing quite well and Property X is now worth $1,000,000 but James and Anita want to move closer to the CBD for lifestyle reasons.  A local property manager has indicated Property X can achieve a rental of $600 per week ($31,200 per year).

If James transfers 50% of his interest in Property X before they move into their second property:

  1. Anita will save $17,990 in NSW duty otherwise payable if they fail to complete the transfer before they move out.
  2. James will not be liable to income tax for the capital gain that otherwise arises on transferring 50% of Property X to Anita thanks to the “main residence” exemption.
  3. Anita will pay nil income tax on her share of the rental income.  If James fails to transfer 50% of Property X to Anita, James would pay $5,772 (excluding the Medicare Levy) of income tax annually on the rental income that would have been tax-free since Anita is not earning an income and can take full advantage of the tax-free threshold for Australian residents.

Bottom line: James and Anita are better off by $23,762 (and more) in the first year of moving into their second property by taking advantage of income tax and duty concessions to transfer half of Property X to Anita at the right time.  They also keep pocketing the annual tax savings of $5,772 on the rental income which is now taxed at a lower marginal rate (and possibly tax-free if Anita is under the tax-free threshold).

This example demonstrates how simple but effective tax planning can make a significant cash flow saving to investors about to buy and move into a second property.

A word of caution

There are very specific circumstances which need to be satisfied if seeking to take advantage of the duty concession and income tax concessions; transactions may also affect asset protection strategies, retirement planning and borrowing arrangements.  Accordingly, specialist advice and assistance should be sought before attempting a property restructuring transaction.

Disclaimer

This article is intended to provide commentary and general information. It should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this article.

We hope this article was helpful to you or your clients.  Please feel free to leave a comment below.

 


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