Capital gains tax on property in Australia
Your investment property is an asset, right?
You purchased it for a set price and you may sell it for a different set price.
Well, capital gains tax (CGT for short) is the tax you pay on the profits when you sell your asset, in this case, when you sell your rental property.
Really simply, you bought an investment property for $500,000 and you sold it for $695,000 – the capital gain you made on this property is $195,000 (the difference between $500,000 minus $695,000).
But as with most taxes, there are some exceptions that apply but no stress! We’ll go through these with you.
As you’ve probably worked out, not all sales of assets result in a gain.
Also, when you sell your property for less than you paid for it, this is called a capital loss.
This blog will explain the intricacies of capital gains and loss when you sell your investment property and everything you need to know.
Starting from the top…
- What is Capital Gains Tax? (CGT)
- What is the Capital Gains Tax rate on property?
- How to calculate Capital Gains Tax on property investment
- What is a capital gains tax event?
- How do you report capital gains tax on property?
- Principal Place of Residence and capital gains tax
- You’ll want to know about the CGT Six-Year Rule
What is Capital Gains Tax? (CGT)
Capital gains tax (CGT) in Australia is a tax on the capital gain made on the disposal of an asset, such as a property or shares, which was acquired on or after September 20, 1985.
The capital gain or loss is calculated as the difference between the cost of the asset and the disposal proceeds.
What is the Capital Gains Tax rate on property?
The CGT rate is generally the same as the individual’s marginal income tax rate, however, certain assets may be eligible for a discount or small business concessions.
How to calculate Capital Gains Tax on property investment
To calculate capital gains tax (CGT) in Australia, you need to first determine the capital gain or loss when triggering a capital gain tax event, ie, when you dispose of an asset.
This is done by subtracting the cost of the asset (including any associated costs such as purchase and selling costs) from the disposal proceeds (the amount received from selling the asset).
For example, if you purchased a property for $300,000 and sold it for $500,000, the capital gain would be $200,000 ($500,000 – $300,000).
Once you have determined the capital gain or loss, you must include it in your taxable income for the year in which the disposal occurred.
As mentioned, the CGT rate is generally the same as the individual’s marginal income tax rate. But remember, certain assets may be eligible for a discount or small business concessions.
You can reduce the capital gain by the CGT discount if you held the asset for at least 12 months, or by the small business concessions if you are eligible.
You then need to apply the CGT rate to the capital gain.
Say for example, you received a capital gain of $200,000 on a property that you had held onto for over 12 months. Your marginal tax rate is 37% then, your capital gains tax would be $74,000 ($200,000 x 37%).
Not all sales of assets are subject to CGT. Your main residence is exempt, read more about this below, under the heading ‘Principal Place of Residence and capital gains tax’
You can offset capital losses against capital gains to reduce your CGT liability, so talk to your accountant about this as it can be a little tricky.
What is a capital gains tax event?
No, it’s not a party the ATO holds in your favour (you wish!).
A CGT event is when you sell or dispose of your asset. In this case, the date you sell your rental property.
In the accounting world, we say this date triggers a CGT event.
It is only once you have sold your investment property that you now have a CGT event to account for.
Now you’re thinking, so which date is it, the date you enter the contract or the day of settlement? It is the date you enter into the contract.
This date now becomes the date when you need to report your CGT event to the ATO.
How do you report capital gains tax on property?
You report your capital gains and losses in your income tax return in the financial year that the sale of your property was in. You will pay tax on your capital gains.
You will also record capital losses in your income tax return.
Even though it sounds like a separate tax, the capital gain you made on the sale of your property, will become a part of your taxable income for that financial year.
Principal Place of Residence and capital gains tax
Capital gains tax does not apply to the sale of your own home, known as your principal place of residence (PPOR for short), provided that certain conditions are met.
A Principal Place of Residence (PPOR) is a term used by the Australian Taxation Office (ATO) to refer to a person’s main residence. It is the place where a person or their family live for the majority of the time and it is considered their home.
For a property to be considered a person’s PPOR, it must meet certain criteria –
- Your property must have been used as your home
- You must have lived in the property for a continuous period
- Your property must be available for you to live in, and
- You must not have a more dominant connection with another property
The PPOR exemption is only available for one property at a time, so if you own multiple properties, you must nominate which property you consider your PPOR.
If you are unsure about which property to nominate, you should seek professional advice from a tax accountant or financial advisor.
It’s important to note that, if the property is used for income-producing activities such as rental or business purposes, it may affect the eligibility for PPOR exemption, and you may be eligible for a partial exemption instead.
You’ll want to know about the CGT Six-Year Rule
OK, now what is the CGT Six-Year Rule?
The CGT Six-Year Rule is a rule established by the ATO that applies to the sale of a property that was once used as a person’s principal place of residence (PPOR) but was later rented out or used for other income-producing activities.
According to the rule, if your property that was once a person’s PPOR is sold within six years of the date it was last used as a PPOR, the person may be eligible for a partial exemption from capital gains tax (CGT).
This exemption is calculated based on the proportion of the period that the property was used as a PPOR, compared to the total period of ownership.
For example, say you owned a property for 10 years, lived in it as your PPOR for 5 years, and then you rented it out for 5 years before selling it. You may be eligible for a 50% CGT exemption –
5 years of PPOR use divided by the 10 years of total ownership = 50%.
It’s important to note that the CGT six-year rule is a general guideline established by the ATO, and the eligibility for the partial exemption and the calculation of the exemption will depend on the specific circumstances of the case and the ATO’s discretion.
We also recommend you consider other factors that may affect the CGT calculation such as depreciation, capital losses, and any other expenses that you may have incurred as part of the property ownership.
That’s a lot of rules and exemptions on capital gains tax on property sales, isn’t it?
If you are not sure about your personal circumstance, Sleek can assist.
Contact us – we’re available by phone on +61 4 9100 0480, the chat box in the bottom right-hand corner or send us an email here.