A Labor-lite budget gave us negative gearing lite, but the depreciation changes might be about to cost you money.
One of the most-interesting but least-talked about things to come out of the budget is the change to depreciation in negative gearing.
Most of the media seemed to have missed it. I kind of missed it too. I thought it was just some small-fry changes aimed at heading off any pressure to seriously reform negative gearing.
But now I’m not so sure.
And the truth is that if these changes are implemented full-stick, it could cost you thousands of dollars every year and/or make it harder to on-sell your property.
In case you missed it, the proposed change will limit plant and equipment depreciation deductions to only those expenses directly incurred by investors.
Basically, if you didn’t write the cheque yourself, you don’t get to depreciate it.
This has the potential to shave several thousand dollars a year off a property’s cash-flow stream.
Consider the following three examples (and I tip my hat here to Louis Christopher at SQM Research, who’s done some great work helping us get a grip on the changes):
On-selling a New Build
Say you purchase a unit off the plan. There’s significant plant and equipment depreciation benefits that come with newly-built dwellings. We could easily be talking about five or six thousand dollars in the first year on a median priced unit in most cities. It tapers away after that, but even 6 or 7 years down the track we could still be talking about a couple of thousand a year.
Over the life of the property, we’re talking about something like twenty grand.
But under these changes, now, when you sell the property, the incoming buyer no longer has access to that depreciation stream. It’s gone.
And say you’re circumstances change, and you have to sell after only one or two years. The incoming buyer has no capacity to claim a depreciation deduction, not just in the year they buy, but in all future years.
They could lose up to twenty grand’s worth of value.
Hard to say how much that will hurt you sale price, but it’s certainly not going to help.
One thing that’s not clear is what happens if you flip the property before completion. Have you paid for the plant and equipment, or has the new buyer? The government needs to clarify this one.
All New Builds?
The above example assumes that the first buyer is the one paying for the plant and equipment. However, in the strictest sense of the word, the developer is the one who pays for it. In that sense, only the developer has a right to claim depreciation.
This would be a pretty hardcore interpretation of the change – basically purchasers of off-the-plan developments wouldn’t be able to access any depreciation benefits.
Most people think that this isn’t what the government intends, but now that the media has moved on, they might be able to slip it through. We’ll have to see.
It also creates a bit of a grey area. If I do like a one into four townhouse build, and then sell each one individually, what do I need to do to make sure that the new purchaser is the one paying for the plant and equipment in the eyes of the law?
The Fresh Reno
Lastly, say I buy a nice little doer-upper and spend $200K on plant and equipment. If I now sell the property to you, even if the paint is still drying, you cannot depreciate any of the plant and equipment.
No need to get any clarification here. This is exactly what the government has in mind.
There’s a bit of ambiguity here that needs to be clarified. That clarification will happen when the budget passes through parliament over the next couple of months.
However these changes are time-stamped with the budget on May 9. That means that these changes will affect any property bought and sold today, even though we still don’t quite know what the full ramifications are.
That’s not ideal. Realistically, if you’re buying, you’re going to have to assume the worst – even though the worst is pretty hard-core for off-the-plans.
If you’re selling, you’ll need to find a buyer that isn’t assuming the worst to get a premium price for your property.
At the end of the day, investors have just lost a benefit that was worth potentially several thousand dollars a year.
As I said, that’s not going to help prices.
Louis Christopher reckons it will help cool investor demand in the short term. It will be interesting to see. Most investors I know are pretty savvy with their depreciation schedules, and factor it in to their offer prices – but I tend to move in a savvy crowd.
Will your average mum and dad investors care? They should, but will they?
This also gives us a look at negative-gearing lite. Labor wanted to end negative gearing. This is a small, partial step. If it doesn’t move the dial, it will open the way for further reforms.
If it does crimp investor demand and the market softens, the government will be vindicated in their softly softly approach. It will be interesting to see.
So yeah, still waiting for a few details, but something to be on top of here.
Will this affect you and your strategies?