In the second part of our Tax insights | investing in property series, we extend our discussion of the capital gains tax (CGT) “main residence” exemption (sometimes also referred to as the “principal place of residence exemption”) in the context of Australian expats and investing in vacant land. We also consider the special “6 year rule” which extends the availability of the exemption up to 6 years from moving out of a main residence.
To recap quickly from Part 1 which you can read here, investors are exempt from CGT on selling a “main residence”.
Did you know: if you have sold a property and applied the main residence exemption, you must also complete the “supplement” individual tax return form to declare that a CGT event occurred for which you claimed the main residence exemption; failure to disclose the sale and exemption may result in an unnecessary ATO tax audit.
Australian expats and the main residence exemption
If you pursue a career outside Australia or otherwise permanently relocate overseas, you will probably cease to be an Australian resident for tax purposes. This does not mean that you will readily escape Australian CGT on your Australian assets and you may be liable to pay Australian tax on your departure.
Not so long ago, the Australian Government amended the CGT discount rules to deny any reduction in capital gains accruing to foreign residents.
Helpful tip: despite losing access to the CGT discount regime, Australian expats may still access the CGT main residence exemption.
In practice, this means that an Australian expat may sell a former Australian main residence tax-free provided it is sold no later than 6 years after departing Australia; alternatively, Australian expats could move back into a former main residence to refresh the concession period (for more details continue reading this article).
If an Australian expat holds a former Australian main residence (or residences) for more than 6 years, the accruing capital gains after 6 years will be taxable in Australia without the benefit of the CGT discount available to Australian residents; they would need to return to Australia to once again access the CGT discount regime on and from their date of resumed Australian residence.
Investing in vacant land
By definition, vacant land cannot be a “main residence” unless there is “dwelling” erected or placed on top of the land. Accordingly, you cannot ordinarily claim the CGT main residence exemption on the sale of vacant land.
Having said this, it is possible to buy a property adjacent to your main residence and to later claim the main residence CGT exemption on a sale of both the main residence and adjacent land. However, the adjacent land must be used primarily for private or domestic purposes in association with the main residence.
There are certain factors one would expect to be present if adjacent land is to be used in association with a main residence. For example, there will usually be easy access between the two properties and recurring (and not infrequent or transient) use.
On the contrary, an impassible fence or obstruction blocking access between the properties may indicate there is no associated use; leaving the adjacent land vacant and minimally maintained could also suggest there is no associated use.
How to go about selling your main residence and adjacent land
In order to claim the exemption on both main residence and adjacent land, they must be sold together and not separately.
If you sell them separately, the adjacent land will not be exempt from CGT and will prove a costly mistake.
The “6 year rule”
Broadly, the “6 year rule” modifies the CGT exemption for main residences so that it can still apply up to 6 years after moving out from the residence in cases where the property is subsequently tenanted and earning rental income.
Helpful tip: if you start renting out a former main residence, don’t forget to claim interest and tax depreciation deductions: see our previous article on negative gearing for more information.
The 6 year period of absence can also be “refreshed” each time you resume using the property as your main residence. In this way, the exemption can be accessed indefinitely subject to resuming residence at the property every 6 years or earlier.
However, if you allow 6 years to lapse before moving back into a property, any accrued capital gain after the 6 years lapsed to the time of moving back in will be taxable and the exemption will not apply.
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.
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Also, keep an eye out for Part 3 of our Tax insights | investing in property series, where we will discuss how to apply the CGT main residence exemption for investors with multiple main residences.