Depreciation is technically defined as, "the reduction in the value of an asset over time".

But Property Values Rise Over Time?

Historically property values have risen over time and this has generated significant wealth for investors. Although there is no guarantee property values will continue to rise there is a good chance they will. So based on that assumption depreciation should be a negative amount, right?

Wrong! and here's why.

Property value increases generally occur as a result of land (the scarce resource) values increasing combined with the increasing cost to build new properties (inflation). Take for example a house that sits for years without any repair or maintenance on a vacant lot in the middle of the CBD. Quickly that house becomes run down and reduces in value even if the land increases in value by a greater proportion resulting in the overall property value going up. Although this is an extreme example it demonstrates the point that the building itself will depreciate over time. Remember also that there is no depreciation claim on the cost of the land.

Using the option of engaging a quantity surveyor to prepare a Depreciation Schedule for your property maximises the depreciation claim by breaking the components of the property into their separately identifiable (and generally more highly depreciable) individual components. Carpet can be depreciated at 25% if it is separately valued whereas without a depreciation schedule it would simply form part of the building cost and be depreciated at 1/10th of that, only 2.5%.

See below to have a depreciation schedule prepared by our depreciation partners Washington Brown and receive a MONEY BACK GUARANTEE if you don't save twice their fee in the first year. Click below to access this deal and get an immediate estimate of the depreciation for your existing rental property(s).

CLICK HERE TO ACCESS YOUR MONEY BACK GUARANTEED DEPRECIATION SCHEDULE

Why is Depreciation Important?

Depreciation is important for two reasons:

  1. It is tax deductible; and
  2. It doesn't cost any cash therefore it generates a pure tax saving.

This means that unlike repairs and maintenance for example, that cost say $1,000 to generate a tax saving equivalent to your marginal tax rate, depreciation does not cost any cash. Therefore, every dollar claimed in depreciation will generate the equivalent tax saving as if you had spent that dollar. It can therefore be a very useful tool to reduce your Income Tax and to maximise the cashflow from your investment property.

Here are two very simple examples. One with depreciation and the other without depreciation.

From this it is obvious that without spending anything (other than the cost to have a depreciation schedule prepared) the depreciation claim will result in an annual tax saving of $3,322. If the property investor was to have this paid through a PAYGW variation then their weekly take home pay would increase by $63 a week.

There is a payback though, and that comes when the property is eventually sold and any depreciation claimed becomes a fully taxable recovery on the sale of the property so across the life of the property there is a nil tax benefit (presuming marginal tax rates remain constant).

If it Has to be Repaid, Why Claim it in the First Place?

The answer is as simple as the old adage, "a dollar today is worth more than a dollar tomorrow" or as some of our clients prefer to say, "I would rather have the money in my pocket than in the ATO's bank". We have already noted above, inflation generally causes the price of things to go up over time. Therefore, what we can buy with our dollar today is more than what we can buy with the same dollar in the future. The further away that future date then the greater the value of the dollar today.

Let me show you an example.

In 1980 the median price for a house in Brisbane was $37,379. In 2015 the median house price was $490,855 representing an annualised growth of 7.63%. This means that a single dollar in 1980 bought 1/37,379th of the average house compared to 1/490,855th of the same property in 2015. In other words you could buy more property back in 1980 for your dollar. In fact if you had one dollar invested in 1980 earning an annual rate of 7.63% interest it would be worth $13.13 dollars in 2015.

Clearly if we had a dollar to invest in 1980 we should want to take that dollar and use it rather than wait to get a solitary dollar in 2015 so any strategy to promote early cashflow and generate more funds to invest should be a good one.

So, What's It Worth in Dollar Terms?

Based on the average Brisbane house purchased in 1980 for $37,379 and sold in 2015 for $490,855 the additional potential cash created through the depreciation claims will be around $24,000 (less tax). Interestingly, if the property was purchased by borrowing 75% of the initial purchase cost then the buyer would have put down a deposit of just $9,345 so the bonus return from the depreciation repays the initial investment more than 2.5 times over.

Conclusions

1. Maximising the depreciation claim on your property improves cashflow and the overall return from your investment property.

2. Depreciation schedules prepared by appropriately qualified quantity surveyor's can maximise your depreciation claim in most circumstances.

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