Private ruling: Letting residential properties
Date of advice: 22 March 2019
Published: May 2019
Ruling period: Year ending 30 June 2018
Date scheme commenced: 1 July 2017

Ruling: Q1: Are you carrying on a business of renting or letting residential properties? | A1: No

Relevant facts and circumstances: You are not engaged in full time employment. You have another source of income. You own less than ten rental properties. You earned gross rental income for the year ending 30 June 20XX. You have a net rental loss for the year ending 30 June 20XX. This loss is offset against your other income. Your intention is to set up a portfolio of investment properties for your retirement. One of your properties is a short-term rental located in a property pool at a resort. The remaining properties are long-term rentals, with some of the tenants being in their respective property for periods exceeding three years. You have previously engaged the services of a real estate agent for your first property. That arrangement was ceased as you were not happy with their management. You undertake the following activities in relation to the long-term rental properties: ● Advertise for tenants; ● Negotiate tenancy agreements; ● Answer applicant questions; ● Assess rental applications; ● Draw up tenancy agreements; ● Collect bond and rental payments; ● Liaise with tenants regarding repairs/maintenance; ● Attend to repairs/maintenance; ● Organise professional tradespersons when required; ● Undertake property inspections quarterly; ● Prepare Condition Reports; and ● Conduct final inspections. You pay the expenses for the properties, including council rates, water rates, excess water charges, mortgage repayments and any associated maintenance charges. You are the central point of contact for your tenants and have a good relationship with them. You find it cheaper to attend to the requested repairs yourself and only obtain professional assistance when necessary You complete a spreadsheet and provide it to your accountant for inclusion in your income tax return. You have a dedicated office at your place of residence, equipped with a computer, printer, filing cabinets and consumables. You incur motor vehicle and office expenses. You spend X days per week attending to the paperwork. Combined with the maintenance, you spend an average of X hours per week attending to the rental properties. You have not disposed of any properties in an attempt to get a better return on the properties other than from the rental income.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 6-5 | Income Tax Assessment Act 1997 Section 8-1 | Income Tax Assessment Act 1997 Section 995-1

Reasons for decision: Summary: Subsection 6-5(1) of the Income Tax Assessment Act 1997 (ITAA 1997) states that your assessable income includes income according to ordinary concepts. This ‘ordinary income’ includes amongst other things, income from salary and wages and business operations. Section 8-1 of the ITAA 1997 allows you to claim a deduction for a loss or outgoing that is incurred in gaining or producing your assessable income, or necessarily incurred in carrying on a business to gain or produce assessable income. These deductions are limited by the exclusion of losses or outgoings that are capital, private or domestic in nature. | Detailed Reasoning - Carrying on a business: Section 995-1 of the ITAA 1997 defines 'business' as 'including any profession, trade, employment, vocation or calling, but not occupation as an employee'. Normally the receipt of income from the letting of property to a tenant(s) does not amount to the carrying on of a business. Whether the letting of property amounts to the carrying on of a business will depend on the circumstances of each case. Generally, it is easier for a company that derives income from the letting of property to show that it carries on a business than it is for an individual. A person who simply owns an investment property or several investment properties, either alone or with other co-owners, is usually regarded as an investor who is not carrying on a rental property business. This is because of the limited scope of the rental property activities and the limited degree to which an owner actively participates in rental property activities. A conclusion that an individual is carrying on a business of letting property would depend largely upon the scale of operations. The issue of whether individuals are carrying on a business of letting property has been considered in a number of cases, some of which are discussed below. In Cripps v. FC of T 99 ATC 2428; (1999) 43 ATR 1202 ( Cripps Case ), the taxpayer and his wife purchased, as joint tenants, 14 townhouses which they rented out. They also purchased a property which was used initially as a holiday home but was later periodically rented out. A further property was purchased for residential purposes. After a failed attempt to sell it, it was also rented out. The Administrative Appeals Tribunal found that the taxpayer and his wife were mere passive investors and were not in the business of deriving income from rental properties. They rejected the taxpayer's argument that he had greater involvement with his 16 properties. In 11 CTBR (OS) Case 24 (Case 24) , the taxpayer's income included rents from three properties. The taxpayer employed a manager and an accountant - he was principally a letting clerk with authority to refuse tenants. He collected and banked rents, attended to repairs and supervised them, and controlled the caretaker and cleaners. He kept books in connection with rents and repairs, and rates and other outgoings. The taxpayer said he personally carried out the principal part of the management of his rent-producing properties and directed policy, attended to the financial arrangements and made decisions regarding repairs. The taxpayer claimed that he was carrying on a business. In holding that he was not carrying on a business, a majority of the members of the Board of Review said: It is obvious that some measure of supervision and management must ordinarily be exercised by a property owner who lets offices, &c., and if that does not amount to the carrying on of a business, the fact that he employs others to assist him, either in the letting of the properties or in the preparation of the accounts relating to his rents and outgoings, will not make any difference. For the foregoing reasons we are unable to uphold the claim that the taxpayer is engaged in a 'business as property owner’.... In 15 CTBR (OS) Case 26 , ( Case 26 ) the taxpayer derived income substantially from her joint ownership of a block of flats (containing 22 living units) with her sister-in-law. A swimming pool was shared with a neighbouring block of flats owned by the taxpayer's husband and his brother. A garden was maintained and a staff of one caretaker and one cleaner employed on both buildings with casual labour as required. The building was erected and financed by F & Co., the husbands of the joint owners, in the course of their business as building contractors. The general supervision of letting, rent collecting, servicing and maintenance was carried out by the owners or by F & Co. on their behalf. No charge was made by F & Co. for the extensive assistance given in the supervision of the flats. It was held that a business was not being carried on by the owners of the block of flats. On the other hand, Case G10 75 ATC 33 ( Case G10 ), the taxpayer owned two properties of which six units were let as holiday flats for short term rental. The taxpayer, with assistance from his wife, managed and maintained the flats. Services included providing furniture, blankets, crockery, cutlery, pots and pans, hiring linen and laundering of blankets and bedspreads. The taxpayer also showed visiting inquirers over the premises, attended to the cleaning of the flats on a daily basis, mowing and trimming of lawns, and various other repairs and maintenance. The taxpayer’s task in managing the flats was a seven day a week activity. The Board of Review held that the activity constituted the carrying on of a business. Taxation Ruling TR 97/11 Income Tax: am I carrying on a business of primary production? (TR 97/11) provides the Commissioners view of the factors used to determine if a taxpayer is in business for tax purposes. Its principles are not restricted to questions of whether a primary production business is being carried on. In the Commissioner's view, the factors that are considered important in determining the question of business activity are: ● whether the activity has a significant commercial purpose or character; ● whether the taxpayer has more than just an intention to engage in business; ● whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity; ● whether there is regularity and repetition of the activity; ● whether the activity is of the same kind and carried on in a similar manner to that of ordinary trade in that line of business; ● whether the activity is planned, organised and carried on in a businesslike manner such that it is described as making a profit; ● the size, scale and permanency of the activity; and ● whether the activity is better described as a hobby, a form of recreation or sporting activity. TR 97/11 states the indicators must be considered in combination and as a whole and whether a business is being carried on depends on the 'large or general impression gained' ( Martin v. FC of T (1953) 90 CLR 470 at 474; 5 AITR 548 at 551) from looking at all the indicators, and whether these factors provide the operations with a 'commercial flavour' ( Ferguson v. FC of T (1979) 37 FLR 310 at 325; 79 ATC 4261 at 4271; (1979) 9 ATR 873 at 884). However, the weighting to be given to each indicator may vary from case to case. In the Rental Properties 2018 guide ( Rental Properties guide ) published by the Australian Taxation Office the Commissioner sets out two examples that discuss the issue of whether or not the owner of one or more rental properties can be said to be carrying on a business. The first example, Example 3 on page 6 of the Rental Properties guide , outlines a situation in which the owners are not carrying on a rental property business. The Commissioner states: The Tobin’s own, as joint tenants, two units and a house from which they derive rental income. The Tobin’s occasionally inspected the properties and also interview prospective tenants. Mr Tobin performs most repairs and maintenance on the properties himself, although he generally relies on the tenants to let him know what is required. The Tobin’s do any cleaning or maintenance that is required when tenants move out. Arrangements have been made with the tenants for the weekly rent to be paid into an account at their local bank. Although the Tobin’s devote some of their time to rental income activities, their main sources of income are their respective full-time jobs. The Tobin’s are not partners carrying on a rental property business - they are only co-owners of several rental properties. The second example, Example 4 on page 6 of the Rental Properties guide , outlines a situation in which the owners are carrying on a rental property business. The Commissioner states: The D’Souza’s own a number of rental properties, either as joint tenants or tenants in common. They own eight houses and three apartment blocks - each block comprising six residential units - a total of 26 properties. The D’Souza’s actively manage all of the properties. They devote a significant amount of time - an average of 25 hours per week - to these activities. They undertake all financial planning and decision making in relation to the properties. They interview all prospective tenants and conduct all of the rent collection. They carry out regular property inspections and attend to all of the everyday maintenance and repairs themselves or organise for them to be done on their behalf. Apart from income Mr D’Souza earns from shares, they have no other sources of income. The D’Souza’s are carrying on a rental property business. This is demonstrated by: ● the significant size and scale of the rental property activities; ● the number of hours the D’Souza’s spend on the activities; ● the D’Souza’s extensive personal involvement in the activities; and ● the business-like manner in which the activities are planned, organised and carried on. As shown in the above cases and the views of the Commissioner listed above, the indicators with the greatest weighting are the scale or volume of operations and the repetition and regularity of the activities. | Detailed Reasoning - Applying the relevant cases and indicators to your circumstances: In many instances, it is obvious that an activity is being carried on as a business and no further investigation is required. Where it is less obvious, regard must be had for any other potential outcome when determining whether a particular activity should be considered to constitute a business and in determining the tests are to be applied in reaching such a determination. There are many decided cases that consider the issue where the potential outcome is between ‘business or hobby’ or ‘employee or independent contractor’ (with an independent contractor being considered to carry on a business). In this case, we are considering the question of ‘Are you carrying on a business’ with the other potential outcome being that the activity constitutes an investment that generates assessable income that is characterised as passive income. We have taken the factors from TR 97/11 as outlined above into consideration, and have applied them to the facts of your situation when making our decision as to whether or not you are carrying on a business of letting your rental properties as follows: Significant commercial purpose The 'significant commercial purpose or character' indicator is closely linked to the other indicators and is a generalisation drawn from the interaction of the other indicators. It is particularly linked to the size and scale of activity, the repetition and regularity of activity and the profit indicators. You own less than ten rental properties. Some of those properties are tenanted with long term tenants of exceeding three years. One of the properties is a unit at a resort and is located in a rental property pool. During the year ending 30 June 20XX, the rental income received in relation to your properties was $x. While the number of rental properties you own is more than in Case 24 , it is significantly less than Cripps Case and Case 26 . In all of these cases it was found that the taxpayers were not carrying on a business. Intention of the taxpayer The carrying on of a business is not a matter merely of intention; it is a matter of activity. It is appropriate to look at when the activities started and whether they add up to more than a mere intention to conduct a business. You receive rental income from your investment properties. You undertake some of the maintenance activities yourself and organise licensed professionals when required. You are now undertaking an active role in managing the rental properties as you no longer use the services of a property manager. Your intention in relation to the rental properties is to set up a property rental portfolio for your retirement. It is viewed that your activities are similar to a passive investor who has purchased a number of investment properties to use in relation to earning passive income and their future retirement income. Prospect of profits The taxpayer's involvement in the business activity should be motivated by wanting to make a tax profit and the taxpayer's activities should be conducted in a way that facilitates this. This will require examining whether objectively there is a real prospect of making such a profit from participating in the business of the taxpayer. You made a net rental loss. This loss is offset against other income and does not suggest the purported business is operating at a profit. You have not disposed of any properties you own in an attempt to get a better return on the properties other than from the rental income. Repetition and regularity The taxpayer's activities should involve repetition and regularity and have an air of permanence about them. With regards to letting of properties, repetition and regularity may be measured by factors such as regularity of maintenance, collecting of rent, management and advertising of the properties, insurance, dealing with tenancy agreements and inspection reports. In this case there appears to be some repetition and regularity in that you have owned the first of your properties since 20xx. Since this time, you have purchased four more properties, the last in 20xx. You record rents received, attend to maintenance and inspections and liaise with tenants. You maintain that you average XX hours per week attending to the properties. However, this repetition and regularity falls short of that shown in Case 103 which involved a taxpayer who owned a block of holiday flats for short term lettings at a beach resort. There was an extensive amount of work conducted on a daily basis in meeting tenants, providing cleaning, linen and other services which does not exist in your circumstances. Further, the D’Souzas ( Rental Properties guide ) dedicated 25 hours per week to managing their 26 properties. Your property activities are of a different nature to this. The majority of your current tenants are long term tenants. The activities you undertake in relation to your properties would also be undertaken by a property investor as was found in Case 24. The level of repetition and regularity of your activities is not as great as that noted in Case 26 where despite the management and maintenance activities undertaken in relation to 22 units, the property owners were not considered to be carrying on a business of letting properties. The fact that you manage the maintenance of the properties and carry out repairs does not indicate the carrying on of a business. The carrying out of maintenance or repairs on properties is likely due to the age of the properties or natural wear and tear properties sustain while being rented. The ongoing repair of rental properties is considered incidental to the ownership of the property and if the owner spends an extensive amount of time carrying out repairs this does not indicate that the owner is carrying on a business. The repairs carried out by an owner are to bring the property back to its functional form and are unlikely to result in an increased income. The overall impression is that you are not carrying on a business of renting properties. The income is derived predominantly from the letting of the property and not from activities 'carried on' in relation to renting out the properties. Activities of the same kind and carried on in a similar manner to those of the ordinary trade in that line of business If a taxpayer carries out their activity in a manner similar to other taxpayers in the industry, it is more likely that their activity amounts to the carrying on of a business. That is, the taxpayer's operations are of the same kind and carried on in the same way as those characteristic of ordinary trading in that particular line of business ( IR Commissioners v. Livingston 11 TC 538). This indicator requires a comparison between the activities of the taxpayer in question and those undertaken by a person in business in the same type of industry. Where the taxpayer's activities are similar in nature to the business, further support is given to the fact that a business exists. Generally, where the property owners grant exclusive possession of the property to the residents the relationship between the two parties is one of tenant and landlord, and the activity is more likely to be passive investment rather than a business. Similarly, activities constituting the mere maintenance of an asset and the mere collection of income do not indicate the existence of a business of renting premises. Your activity is renting out residential properties at market rates for lengthy periods. Whilst the unit is a short term rental, that activity is carried on by a property pool manager. Hence the relationship is considered to be that of a landlord and tenant. Organisation in a business-like manner, the keeping of books, records and the use of a system The activities conducted by, or on behalf of the taxpayer, should be carried out in a systematic and organised manner. This will usually involve matters such as the keeping of appropriate business records by the taxpayer. If the activities are carried out on the taxpayer's behalf by someone else, there should be regular reports provided to the taxpayer on the results of those activities. You compile all financial information including rental receipts, mortgage repayments, collating interest repayments, insurances and repairs. This information is kept in a spreadsheet and provided to your accountant for tax return completion. This activity is no more involved that a mere investor who owns a number of properties. The size and scale of the activity When considering this factor, we are looking at the scale in terms of the number of properties and what management input that may be required to conduct the activity. The business should be large enough to make it commercially viable. As discussed previously, you made a collective loss which has been offset against other income received by you. In Cripps’ Case , it was held that the renting of 14 two storey townhouses was not a business and in McDonald ‘s Case it was held that the letting of two units in different strata plans was also not a business. Similarly in Cases 24 and 26 the renting of 22 units and three properties respectively was also not considered a business. You currently rent out less than ten properties. As stated above, whether an activity of letting of property amounts to the carrying on of a business will depend on the circumstances of each case. The scale of your activities and volume of operations can be aligned and compared to these cases as you have less than ten properties. It would be expected that a person carrying on a business in letting rental properties would have a greater number of rental properties so as to be earning sufficient income to sustain their business activities. Hobby or recreation The activity does not have the nature of a hobby or recreational pursuit. The nature of the activity is similar to other rental property owners who are actively involved in some aspect of the property they own. | Detailed Reasoning - Conclusion: Except for the unit, the properties are not rented as short-term (nightly or weekly) rentals, but are rented under lease agreements which are typically long-term in nature. The relationship between you and the residents of the properties is that of a landlord and tenant; where the tenants have exclusive possession and control access to and from the properties. Although you state that you spend a great deal of time managing your properties, some management is considered the ordinary practice of a passive investor in rental properties. Excessive time spent managing less than ten properties, one of which is managed by a property manager, is your choice and does not strengthen your argument that you are carrying on a business. Your case can be distinguished from Cripps Case as in that case the scale, being 16 townhouses, was far greater than your X properties. Despite the fact that 16 townhouses were rented the Tribunal found that the taxpayers were mere passive investors and not in the business of letting rental properties. Similarly in Case 26 , despite the scale of operations of 22 units, the Tribunal found a business was not being carried on by the owners of the block of units. Again the quantity of rental units is far in excess of your X properties. Your activities are better described as leasing residential properties to receive passive income from a stream of rental income. The income is not derived from the services you provide; it is derive from the letting of the properties and is considered to be passive income. We do not consider that you are in the business of renting or letting residential properties. As you are not carrying on a business of letting residential properties, you are unable to claim business expenses.