You may have heard Capital Gains Tax (CGT) mentioned when referring to property, but being another tax, you’ve put it in the too hard basket. I get it. No one likes to talk about tax, but, like clearing out drains, someone’s gotta do it!
So, at the risk of boring you, I’m going to explain CGT really simply so you can take it out of your too hard basket and even put it into practice.
What is Capital Gains Tax in Australia?
Put simply, when you sell a property, a profit or loss is recorded on it dependant on what you bought and sold it for. You can either make a capital gain or capital loss. Say you purchased a house for $400,000 in July 2013 and sold it for $550,000 in August 2018, the capital gain you made on the property is $150,000.
In Australia, if this property was purchased as an investment property, then the capital gain is subject to tax as it forms part of your income tax for the financial year it was sold in.
If the house is your primary place of residence then you are most likely not subject to CGT unless it is also used as your principal place of business. If you operate a business from home, then you may be subject to CGT if you sell. We recommend you speak with your accountant if you think this could affect you.
How Is CGT Calculated?
Capital gains tax is calculated on the profit you made from the sale of the property less any extra costs incurred in transferring or holding the asset. In our example above, the investor is subject to paying CGT on $150,000. But, if the property was sold after being owned for more than 12 months, then the CGT is reduced by 50% for individuals and 33% for super funds. Therefore, our investor will have $75,000 added to their taxable income for that financial year.
If the property is held for less than 12 months, then it is simply subtracting the cost base from the capital proceeds.
What If I Make a Capital Loss?
If your investment property makes a capital loss when you sell, that is you bought for $500,000 for example and sold 3 years later for $450,000, then you are not liable to pay CGT as you have not generated a profit. The loss is not deducted from your income tax however, but can be held over and deducted from a future CGT event. There is currently no expiry on the holding over of the loss.
How Do I Know If I Have To Pay CGT?
Basically, in Australia, if you have sold an investment property for a profit then the proceeds are subject to CGT. This is also the case for property owned overseas.
When Don’t I Pay CGT?
Great question. In short, you will not pay CGT on a property that is your primary place of residence. If you sell the family home and purchase another home, you will not be liable for CGT. The profit you make on your house sale is all yours. If you were running a home business from the property and this residence was the primary address for the business, then you could be liable for CGT. As mentioned above, it’s best to speak with your accountant if this is the case as they will be able to work it out for you.
The Sneaky Loophole
So, you may have been reading the last paragraph thinking to yourself, if you make your investment property your principal place of residence then you won’t be subject to CGT. And you would be correct. There are some small catches with this though. It isn’t a matter of signing a form and being on your merry way.
If you decide to move and turn your current primary residence into a rental property, then you may sell the house within 6 years of doing so and still be exempt from the CGT. There are two catches to watch out for though. You must sell before the 6th anniversary of your property becoming income generating and you must not have another principal place of residence during this time.
If you decide to move back into the property within that time, the 6 year exemption resets and you are eligible to re-let the property and start the clock all over again.
A principal place of residence is one that:
- You and your family live in
- Your furniture and effects are all there
- It’s where all your bills are sent
- You are enrolled to vote at that address
- Your utility connections are all at that address
- The property must have a habitable dwelling on the land.
As you can see, it really isn’t too hard to understand. Basically, as with anything in life, if you make a income/profit from a business venture, then you pay a form of tax on it. If you are thinking of investing in property or need help with working out your CGT, please call us. We’re here to help.