Private ruling: Rental property expenses - repair v capital expenditure
Date of advice: 22 February 2021
Published: April 2021
Ruling period: Year ended 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Are you entitled to a repairs deduction under section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) for $X? | A1: No. However, you would be entitled to a repairs deduction for a lower amount. See our Reasons for Decision for more information. | Q2: Are your insurance proceeds included in assessable income? | A2: Yes.

Relevant facts and circumstances: You purchased a newly built property in XXXX which has been used for rental purposes. In XXXX when replacing worn carpet you discovered that areas of the rental property were damaged due to water leaks. The property was inspected and you were provided with a report that concluded the cause of the damage was due to a defective pipe in the bathroom area causing a water leakage. You engaged a contractor to carry out work on the property to rectify the water damage. You were provided with a final invoice which totalled $X. The final quote included other items of work carried out which were not for rectification of the water damage. You lodged a claim with your insurance company who made an assessment. You received a payout amount of $Y in relation to the claim. The payout amount did not include an amount for loss of rental income; you were paid a separate amount for this. You have a lodged a review with the insurer requesting further insurance proceeds to cover the excess expenditure incurred in rectifying the damage caused by the water leaks.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 20-20 | Income Tax Assessment Act 1997 section 25-10 | Income Tax Assessment Act 1997 section 43-10 | Income Tax Assessment Act 1997 section 43-15

Reasons for decision: Summary: Section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for the cost of repairs to premises used for income-producing purposes. However, no deduction is allowable where the expenditure is of a capital nature. Subsection 25-10(3) of the ITAA 1997 excludes capital expenditure from being a deduction. If improvements have been undertaken to the property that expenditure will be considered capital in nature and the capital works provisions will apply. Section 43-10 of the ITAA 1997 states you can deduct an amount for the income year if: • The capital works have a construction expenditure area; • There is a pool of construction expenditure for that area; and • You use your area in the income year for income producing purposes. Section 43-15 of the ITAA 1997 allows you to deduct a portion of your construction expenditure. For capital works where an improvement to a building begun after 21 August 1979 the rate of the deduction is 2.5% over 40 years. | Detailed Reasoning - Application to your circumstances: You submit that you have incurred expenditure in the amount of $X for repairing water damage to the property. However, your insurance company has only paid $Y in relation to your claim for insurance proceeds to cover the costs for repairing the water damage. You explained that the difference received is because the insurance company argued that the cost of the work done exceeded what was necessary to repair the water damage. In effect you are asking the Commissioner to accept that a total of $X was spent on repairing water damage with none of it relating to any improvements made or other work, whereas your insurance company has not accepted this and they are in a better position than the Commissioner to be able to assess how much it would cost to repair the water damage. Documents that have been provided indicated some items of work that had been carried out either did not relate to fixing the water damaged areas or had improved the original state of the room. Given all of the above, the Commissioner cannot conclude that you are entitled to a repairs deduction of $X for rectifying the water damage. Our view is that the best indicator available as to how much you have spent that relates to only rectifying the water damage is the amount your insurance company has paid you for that work. Therefore, we accept that $Y can be deducted as a repair under section 25-10 of the ITAA 1997. The advice we can provide is that we do not consider that you would be entitled to a repairs deduction in excess of the insurance proceeds received that relate to the work done to rectify the water damage, whether that is the current amount that has already been received by the insurer for that work or for a higher amount if you receive additional insurance proceeds as a result of the review being undertaken by the insurance company. If you do receive further proceeds from the insurer you will only be entitled to claim a deduction equal to that amount. The insurance proceeds that relate to a repairs deduction you claim will need to be included in your assessable income as an assessable recoupment under section 20-20 of the ITAA 1997. The amount you have spent on the works that is not deductible as repairs is considered to be capital works expenditure that qualifies for the 2.5% capital works deduction.