You can save lots of dollars if you know the tricks to avoid capital gains tax when selling the investment property. Still, many first-time property investors become worried at the thought of paying high capital gains tax (CGT) on what they have earned from their investments, and it is attributed to their lack of knowledge of the rules.
For necessary assistance, you can consult a capital gains tax accountant. But to ease your job, we have outlined here a detailed guide on how to minimise the amount of CGT.
What Is Capital Gains Tax, And When Is It Payable?
Before we go into the main topic, let us discuss the meaning of CGT first. According to the Australian Tax Office (ATO) definition, CGT is the difference between the amount you paid for and the amount you sold the property for.
- If you lose some money on its sale, the difference will be treated as a capital loss. Any profit gained on the investment property sale will be considered a capital gain, and it should be declared on the annual income tax return.
- Unless excluded, you will be required to pay this tax on the sale of your property if it was acquired after 20 September 1985. Usually, the ATO adds the gain made on the sale of the property to the income tax return for the relevant financial year.
How can you avoid paying CGT on selling property in Australia?
When it comes to paying capital gains tax, the Australian Tax Office provides its taxpayers with some exemptions and concessions. Here we discuss three strategies that you may follow while selling your investment property.
Avoiding CGT by using the Principle Place of Residence Exemption
According to the general rule, if the investment property is your PPOR (Primary Place of Residence), capital gains tax can easily be avoided at the time of selling. This rule exists because usually, no one generates any income from living at their own home. That is why you will not be required to include any profit on the selling of your home on the annual income tax return. A property is considered to be the PPOR in the following situations.
- You and your family have stayed in the home for the entire duration that you have owned the property.
- All your possessions have been kept in the house.
- The address was used to receive postal mails.
- All the utility services are connected in your name.
- In addition, you should have lived in the property for at least 6 months from the date of settlement.
Avoiding CGT by using the Capital Gains Tax 6-year rule
If you provide a renting facility in your PPOR for a maximum of 6 years, you can also use that property as an investment according to the CGT 6-year rule. So, if you sell your home within those 6 years, you can be exempt from paying the capital gains tax.
For homeowners who wish to make some extra gains for the time they cannot stay in their home, the CGT 6-year rule can be a blessing to them. Also, they do not have to pay the CGT when it is eventually sold.
Avoiding CGT by when selling the investment property with an SMSF
In recent times, SMSFs (self-managed superannuation funds) have become more attractive to most property investors because, with an SMSF, you can borrow money to buy a property.
If you purchase the investment property through the SMSF, you can enjoy several tax benefits. For example, the fund will only need to pay tax on rental income at a rate of only 15%. It is relatively lower compared to other Australian income tax rates.
Moreover, the tax rate can drop from 15% to 10% if the property is kept for more than one year. It will also make you eligible to get a 33% discount on the CGT when selling the property.
Another significant benefit of the self-managed superannuation fund is that you will not need to pay any CGT on the investment property sale during the pension phase.
What If You Cannot Avoid Capital Gains Tax?
Even if your property fails to meet the eligibility for a full investment property exemption, you can minimise a significant amount of capital gains tax on the property sale. There are three ways to do it. However, before you proceed, you can discuss this with your financial advisor for better guidance.
You can increase your cost base with the expenses
Suppose you sell your property but do not meet the eligibility criteria to avoid paying the capital gains tax. In that case, you may think of increasing your cost base through different expenses. As capital gains are calculated by subtracting the cost base from the selling price; your cost base will equal the total purchase price and costs minus grants and depreciation.
The different expenses include:
- Incidental costs like rental advertisement fees, stamp duties, and legal fees
- Ownership costs
- Title costs like fees required for legal proceedings
- Improvement costs
The 12-month Ownership Partial Exemption
If your property is not a PPOR, you will not claim a full CGT exemption. In such a case, you can potentially minimise the amount of Capital Gains Tax. You can claim a 50% discount on the CGT if you have been the legal owner of the property for at least one year before selling it.
The ‘Years Lived In vs. Years Rented’ Partial Exemption
Did you convert your rental property into your primary residence? If that is the case, you will be eligible to claim a partial exemption on the CGT. The percentage of discount on the capital gains is calculated based on the years you had given rents to people, and the years you had lived in it.
Ending note
Therefore we can say that while dealing with Australian taxation, you need to be extremely careful with all the details and legal obligations to avoid any complications. So, it will be better to seek help from a top-rated professional who has an impressive track record over many years.
