What can you depreciate when you renovate an investment property?

Renovating a property is one strategy that can increase your property’s value, and eventually your profit – not to mention the positive impact it can have on your tax depreciation entitlements.

When you carry out renovation work on an investment property, you are entitled to make depreciation claims for certain parts and aspects of the property. 

Depreciation can be expensed on the construction costs of your renovation project. Examples include new kitchen cupboards, bathroom tiling, or even a new toilet.

In addition, you can claim depreciation on upgrades to property, plant and equipment items, such as a new oven, dishwasher, curtains and blinds.

Now, lets look at things, you as an investment property owner should be aware of:

Common mistakes made when renovating (before and after)?

Most investors are keen to improve second-hand property upon its purchase, and they focus all of their energy and attention on the execution of the renovation work.

More often than not, these owners are inclined to adopt the mindset, “the faster the completion, the sooner the returns”.

While this is not entirely false, it can be a classic example of the ‘haste makes waste’ concept. In a rush to get the desired outcome, most investors are not aware that they are missing out on gains they could be making, even while they are still in the process of carrying out their final plan for the property.

Here are some common mistakes investors make before renovating a newly bought pre-owned property:

1. Discarding claimable depreciation assets

It is easy for old and used carpets, blinds, curtains, stoves, dishwashers and light fittings to present themselves as obsolete and no longer valuable when a property upgrade is the first thing on your mind.

But while these obsolete items may no longer be useable, this does not mean they cannot be claimed as a tax deduction.

Each of these taxable items can actually be assigned a value that can be claimed as a deduction against the investor’s tax. A deduction from tax is considered to be money gained.

When investors discard these items, they are also indirectly discarding money. In cases where the items can no longer be recovered from disposal, photographic representation may suffice, with the help of a quantity surveyor.

2. Not obtaining a depreciation schedule when purchasing an investment

When purchasing a fixer upper as an investment, before renovating, conduct an inspection with your quantity surveyor to identify the original value of each item.

These values are the basis of the tax deductions you can get by the end of your first year as the new owner of the property. Without these values, no tax deduction can be calculated in the first place.

3. Failing to update depreciation schedule upon completion of renovation

The depreciation schedule that you got for your pre-renovated property is intended to back up your depreciation claims on its old and existing assets.

This depreciation schedule does not cover the new assets installed on your property as part of the renovation. For this purpose, a new depreciation schedule is required.

4. Claiming new replacement items at once and in full

Don’t get too excited once you have renovated and think that whatever you have installed can now be written off immediately. A new item, such as carpet, has to be depreciated over its effective life, or the time frame specified for the said item to last before it needs to be replaced.

More often than not, claiming new items in full can create problems for you with the ATO, except where the work is considered a repair – but that’s a whole different tax matter.

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What is ’scrapping method’, and its effect on claimable depreciation deductions?

‘Scrapping’ is what the industry calls the process of discarding plant or equipment and/or capital works items that are no longer needed within your investment property. 

More often than not, these items still have a residual value that can be claimed by the owner, provided the use of the item prior to being scrapped was to generate income.

When seen from the vantage point of depreciation, scrapping can be financially advantageous as it may yield claims as high as 100% of the residual value of an asset.   

The enormous benefit of scrapping is evident when you notice that it results in as many deductions as the brand-new asset’s initial year. 

Just remember– in order for you to claim the residual value of the item, the item needs to be income-producing prior to being ripped out, and the property needs to be income-producing after the renovation has occurred.

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This article via Your Investment Property does not constitute advice; readers should seek independent and personalised counsel from a trusted adviser that specialises in property, a tax accountant and property design specialist.