There are two things in life that are absolute – death and taxes. Real estate is no exception.
Real estate investment is a proven pathway to wealth creation. This is probably why around 20% of Australians own at least one investment property. However, real estate investment carries significant fixed costs, in the form of taxes, rates and fees. Further, these costs apply across all stages of the property life cycle.
The following post provides an introductory overview to real estate taxes and rates. I’ve outlined the most common and significant costs, however there may be others depending on your state or local area.
Please note that I am not a professional tax advisor. The information below is based on my own experience and research, and should not be treated as financial or tax advice. Before purchasing a property, please ensure that you obtain appropriate financial and tax advice from a certified professional.
Taxes and Rates #1: Stamp Duty
Stamp duty arises on the sale or transfer of real estate, among other assets. So whether you’re buying a first home or purchasing a new investment property, you won’t escape stamp duty.
The stamp duty rate will vary depending on which state you live in/choose to invest. For instance, stamp duty on a $500,000 investment property will be nearly $22,000 in Victoria, compared to Western Australia which will be nearly $18,000.
Most importantly, you cannot claim a tax deduction for stamp duty. Therefore, when purchasing a property, you should get comfortable with treating this expense as a ‘sunk cost’.
Taxes and Rates #2: Council Rates
You pay council rates for access to local utilities and public services. This includes water, sewage and other services needed to maintain your local area.
If you think that your council rates are consistent across your area, you’re in for a rude awakening. Your gross rental value (GRV) determines your council rate obligation. Said differently, it is based on your investment property’s rental return compared to others in the area. So if you have a stronger rental return than your neighbours, chances are you will be paying higher council rates.
Taxes and Rates #3: Strata Fees
If your investment portfolio includes apartments, then you would likely be familiar with strata fees.
Apartments have different requirements to detached, single-family homes, in that there are communal areas and general building maintenance requirements. The burden of managing these additional spaces are ultimately borne by the apartment owners.
The good news is that strata fees on investment properties are deductible for tax purposes. However, it’s worthwhile noting that, if a portion of the fees are allocated to a fund for capital improvements (e.g. new swimming pool), then this portion would be non-deductible.
You should also be mindful that strata fees don’t cover everything, although the amount of fees you pay would suggest that they should! For instance, replacement of in-unit appliances typically fall outside the scope of strata coverage.
Taxes and Rates #4: Rental Income
It seems obvious but it felt awkward to leave this one off the list. Owning an investment property will typically yield rental income. The treatment of said income is similar to your ordinary personal income, which is subject to a progressive tax bracket. So if you own multiple properties or earn high rental yields, you will likely have a portion of your income subject to a higher tax bracket.
However, similar to ordinary income, you will be able to offset certain property expenses against your rental income. The biggest item is typically interest on your mortgage, however other home maintenance and repair expenses may also be deductible. As outlined in my earlier post, property owners receive a tax benefit in the early years of investment, as the interest on the property typically exceeds the rental income yield.
Taxes and Rates #5: Capital Gains Tax
Selling your investment property will likely trigger capital gains tax. Simply put, you are taxed on the difference between your initial purchase price and your sales price.
If the sales price was below your purchase price, then you would have a capital loss and would not be subject to capital gains tax. However, the downside is that you cannot utilise this capital loss unless you sell and recognise a capital gain on another asset.
While capital gains tax can eat away at your profits, the Australian government offers taxpayers a 50% haircut on the total tax due. However, the government may clawback a portion of ‘negative gearing’ deductions that you benefitted from in the early years of owning the property.
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Real estate can prove to be an incredibly lucrative investment, especially for those with the patience and perseverance to stick with it. There is of course a material tax burden associated with real estate, as with any investment. For those wishing to build a sustainable real estate investment career, it is prudent to understand the tax obligations and make appropriate planning ahead of making any significant investment.
The content outlined above was written, edited and published by the Lost Realtor. The author has over 20 years or real estate sales and investing experience in the Australian property market. He has held senior positions in Australian building companies, including being the General Manager of the residential sales division of Collier Homes. His qualifications include a Bachelor of Commerce degree and a Graduate Diploma in Building and Construction Law.