Capital gains tax (CGT) is one of the many important factors that property investors need to consider when making big investment decisions. The profit you make when you sell an investment property can have a significant impact on your taxable income, and as with salaries, wages and business profits, the Federal Government will be looking for its share at tax time.
One predictable thing about investing in property is that you’ll probably have to deal with Capital Gains Tax (CGT) eventually. Unless you hold your property for the extreme long term. And even then, there may be CGT implications when the property is eventually sold or inherited. It’s a big deal, but it’s also a concept that many property investors struggle to understand and come to terms with.
Capital Gains Tax was introduced in Australia on 20 September 1985 and generally applies to assets acquired from that date. That is of course unless an exemption applies. Put simply, a capital gain or loss is calculated by comparing what you receive when you sell an asset with its cost base, which can include the original purchase price and certain associated costs.
How much tax do I pay on capital gains for my properties?
As a property investor, your net capital gain forms part of your personal taxable income. Although it has a separate name, Capital Gains Tax isn’t actually a separate tax from your income tax.
Accordingly, how much CGT you pay depends on your individual tax rate, your other income, any capital losses and the discounts or exemptions you’re entitled to claim.
This means there’s no single capital gains tax rate in Australia. Two investors selling identical properties for the same profit could end up paying very different amounts of tax, depending on their circumstances.
How to get CGT discounts
Capital Gains Tax can be tricky for property investors to avoid. Fortunately, there are ways to bring down the amount you pay and help boost your property profits.
Firstly, if you’re an Australian resident for tax purposes and have owned your investment property for at least 12 months, you may be eligible for the 50% CGT discount when you sell it. This means only half of your eligible capital gain is included in your taxable income, after applying any capital losses.
For example, let’s say you sell an investment property and make a capital gain of $100,000 after accounting for your eligible purchase, ownership and selling costs.
Assuming you have no capital losses and qualify for the full 50% discount, only $50,000 will be added to your taxable income.
So, if the salary you earn from your job is $65,000, your total taxable income would become $115,000, assuming you have no other income or deductions.
It may still look like a big jump, but without the discount, the full $100,000 gain could be included in your taxable income. That’s why understanding the 12-month ownership rule can make a big difference.
Keep in mind that foreign and temporary residents may not qualify for the full discount, and different rules apply to companies, trusts and superannuation funds.
Other ways to lower your Capital Gains Tax
As your net capital gain is added to the rest of your taxable income, a clever way to minimise how much you pay is to make sure you’re claiming all the deductions you’re entitled to. For example, eligible concessional superannuation contributions or prepaying certain investment expenses may help reduce your overall taxable income, depending on your circumstances and the applicable tax rules.
Timing is also everything. Many investors think Capital Gains Tax is applied in the year they settle the sale. However, for a standard property sale, it’s generally the contract date that determines the financial year in which the capital gain or loss arises. Where possible, timing the contract for a financial year with lower expected income could make a significant difference to your tax bill.
It’s also important to understand that your capital gain is generally calculated using the sale proceeds minus the property’s cost base. This includes more than just the original purchase price, and getting it right could save you thousands in unnecessary tax.
This is why consistent and accurate record keeping is such a crucial part of growing a successful property portfolio across the years. These days, smart cloud-based software makes keeping track of those expenses much easier!
There are several costs that may be included in your property’s CGT cost base, including:
- Purchase costs: Stamp duty, conveyancing, legal fees, buyer’s agent fees and certain other acquisition costs.
- Selling costs: Real estate agent commissions, advertising, marketing and legal fees associated with the sale.
- Capital improvements: Renovations and improvements such as new kitchens, bathrooms, extensions or other structural improvements.
- Certain ownership costs: Depending on when you acquired the property and how it was used, some non-deductible ownership costs may be included.
- Title costs: Certain legal expenses associated with establishing, preserving or defending ownership of the property.
Keep in mind that expenses you’ve already claimed, or can claim, as income tax deductions generally cannot also be included in your CGT cost base. Capital works deductions can also reduce your cost base, potentially increasing your capital gain when you sell.
It’s worth keeping those renovation invoices and depreciation schedules, even if the work was completed years ago. They could make a big difference when it comes time to calculate your CGT.
If you choose to invest using a Self-Managed Super Fund (SMSF), the unique ownership structure can provide some additional tax benefits.
Investment income in a complying SMSF is generally taxed at a concessional rate of 15% during the accumulation phase. If the fund sells an eligible asset after holding it for at least 12 months, it may also qualify for a one-third CGT discount, reducing the effective tax rate on that gain to 10%.
In some circumstances, capital gains on assets supporting retirement-phase income streams may be exempt from tax altogether.
Although this seems like a very attractive option, there are plenty of other factors to consider, including contribution rules, investment restrictions, compliance costs and the fund’s overall investment strategy.
If you’re considering buying property through an SMSF, it’s worth speaking with a qualified SMSF adviser or tax specialist to understand whether it’s suitable for your circumstances.
The main residence exemption
When it comes to property, the most well-known exemption from Capital Gains Tax is the main residence exemption. This generally applies when you sell the home you live in, also known as your principal place of residence (PPR).
If your property has been your main residence for the entire ownership period and you meet the eligibility requirements, you may not have to pay any CGT when you sell it.
There are a few factors the ATO considers when determining whether a property is your main residence:
- You and your family live in it.
- Your personal belongings are in it.
- It is the address your mail is delivered to.
- It is your address on the electoral roll, and
- Services such as phone, gas, and power are connected.
These factors help establish whether the property was genuinely your home, but no single factor determines eligibility. If you’ve rented out the property, used part of it to earn income or lived elsewhere during ownership, you may only qualify for a partial exemption.
What if your home becomes a rental property?
There’s a special six-year rule that may allow a property that was previously your main residence to remain exempt from Capital Gains Tax for up to six years after you move out and use it to produce income.
For example, if you move out of your home and rent it to tenants, you may still be able to treat it as your main residence for CGT purposes during that period. However, you generally can’t claim another property as your main residence for the same period, apart from limited exceptions.
Interestingly, if you move back into the property and genuinely re-establish it as your main residence, you may be able to access a new six-year absence period if you later move out and rent it again.
If the property was your main residence before you first rented it out, you may also need to use its market value at the date it first became income-producing when calculating a future capital gain.
The rules can become complicated if you’ve owned multiple homes, rented the property for longer than six years or changed how the property was used, so it’s important to keep accurate records of those dates and property values.
What’s changing with Capital Gains Tax from 1 July 2027?
If you’re planning to hold your investment property for the long term, there’s another important change worth understanding.
From 1 July 2027, Australia’s Capital Gains Tax rules are changing, with the existing 50% CGT discount being replaced by an inflation-based calculation for affected gains.
Under the new rules, the cost base of eligible investments will be adjusted for inflation, and a minimum tax rate of 30% will apply to affected capital gains.
But before you panic, the changes won’t simply wipe out the CGT discount on everything you’ve already invested in.
Transitional arrangements preserve the existing CGT treatment for eligible gains accrued before 1 July 2027, while the new rules generally apply to gains arising from that date. Investors in eligible new residential builds will also have a choice between the existing 50% discount and the new arrangements.
For property investors, this makes keeping accurate purchase records, renovation costs, valuations and other CGT information even more important.
The bottom line? Understanding your capital gains position before you sell could make a substantial difference to your investment decisions.
Take the guesswork out of Capital Gains Tax with TaxTank
Worried you might lose documents over the years and cost yourself a heap of hard-earned dollars? It’s a common fear for property investors, especially when you’re trying to remember what you spent on renovations ten years ago!
Fortunately, there’s a much easier way to keep track of it all.
TaxTank’s Property Tank helps you manage your investment properties, track income and expenses, record depreciation and calculate Capital Gains Tax when you’re ready to sell.
With the built-in CGT calculator, you can work through your property’s cost base, selling costs and applicable concessions to calculate your capital gain or loss. TaxTank also brings your capital gains together with other income, deductions and investments to help you understand your overall tax position.
And if you also invest in shares, ETFs or cryptocurrency, Holdings Tank helps you track those investments and calculate capital gains and losses too.
The best part? You don’t need to wait until tax time to understand where you stand.
Ready to take control of your property investments and Capital Gains Tax? Try TaxTank free for 14 days, with no credit card required.
