Working out what’s deductible

A common question from property investors is whether expenditure on maintaining their property will be tax deductible. In most cases the answer is not clear cut.

The main issue is determining whether the expenditure has restored the property or specific asset to its original condition or if it has been enhanced and adds to the capital value.

This is an important distinction as the taxpayer will either gain an immediate tax deduction for the full amount, a depreciation deduction each year over the life of the asset or no deduction at all.

The courts have recognised that this is an area fraught with problems and have developed various tests to help tax payers determine the correct tax treatment.

Answering the following questions will help clarify if the expenditure is general repairs/ maintenance or capital in nature:

■ What is the principal reason for the expenditure? Has something broken or is an asset being acquired?

■ Is the expenditure recurrent? Regular expenditure suggests maintenance and likely deductible whereas capital tends to be one off and work of a reasonable scale.

■ Does the expenditure create a separate identifiable asset?

■ Does the expenditure create an enduring benefit?

■ Is it funded by fixed or circulating capital? Projects funded with long-term debt tend to be capital due to the size and scale of the project.

Other indicators of capital expenditure include:

■ The reconstruction, replacement or renewal of the asset or substantially all of it.

■ A change to the assets character, functionality or an improvement to the asset.

These examples illustrate how the above tests can be applied.