Private ruling: Rental property expenses incurred prior to being let
Published: September 2011
Ruling period: Year ended 30 June 2009 | Year ended 30 June 2010 | Year ended 30 June 2011
Date scheme commenced: 1 July 2008

Ruling: Q1: Can you claim interest and holding costs as deductions in respect of a rental property that is not ready to be leased? | A1: Yes. | Q2: Can you claim a capital works deduction in respect of a rental property that is not ready to be leased? | A2: No.

Relevant facts and circumstances: You purchased the relevant property in 2008 with the intention of renting the property to tenants. Some renovations were required before the property could be rented out and you intended that this work would be completed within 12 months of purchase. You applied for a loan in late 20XX to complete these renovations but your application was rejected. You completed the renovation of the bathroom and toilet during 20XX after saving the funds required. In 20XX you lodged a building and development application to further renovate the property. This work involved the removal of a wall and required the approval of the body corporate in addition to any necessary building approvals. The aim of this work was to generate higher rental income. The body corporate refused to grant permission for the work and you are considering lodging an appeal against the decision with the State Administrative Tribunal. However you were still unable to lease the property as you had already commenced work on demolishing the wall. With all the delays experienced it is unlikely that the property will be rented out prior to 20XX but you are still incurring loan repayments and other charges in respect of the property.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1 | Income Tax Assessment Act 1997 Section 43-10 | Income Tax Assessment Act 1997 Section 43-140 | Income Tax Assessment Act 1997 Section 43-160

Reasons for decision: Summary: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income. Taxation Ruling TR 2004/4 provides the Commissioner's view on the deductibility of interest incurred prior to the commencement of the relevant income earning activities. This ruling is considered to be equally relevant to other holding expenses incurred prior to the commencement of income earning activities such as rates and insurance. The ruling considers the implications of the decision of the High Court in Steele v. FC of T 99 ATC 4242; (1999) 41 ATR 139 ( Steele's Case ). In Steele's Case , the High Court considered the deductibility of interest expenses incurred on borrowings to purchase land intended to be developed for income production. It follows from the finding in Steele's Case that interest incurred in a period prior to the derivation of relevant assessable income will be incurred in gaining or producing the assessable income if: · the interest is not incurred 'too soon', is not preliminary to the income earning activities, and is not a prelude to those activities; · the interest is not private or domestic; · the period of interest outgoings prior to the derivation of relevant assessable income is not so long, taking into account the kind of income earning activities involved, that the necessary connection between outgoings and assessable income is lost; · the interest is incurred with one end in view, the gaining or producing of assessable income, and' · continuing efforts are undertaken in pursuit of that end. In Ormiston v. FC of T 2005 ATC 2340 ( Ormiston's Case ) a deduction for interest and other expenses was allowed in respect of the property even though the property had still not produced any income after nearly five years. However, it was shown that the taxpayer had identified what needed to be done at the outset and over the whole period had made continued efforts in pursuit of the property becoming income producing. Your circumstances are similar to those in Ormiston's Case and it is considered that the interest and holding expenses incurred are allowable deductions in terms of section 8-1 of the ITAA 1997. Section 43-10 of the ITAA 1997 allows a deduction for capital works that are used for one of the purposes set out in section 43-140 of the ITAA 1997. Section 43-140 of the ITAA 1997 permits a deduction for other capital works, which includes a rental property where it is used for the purpose of producing assessable income. Section 43-160 of the ITAA 1997 establishes that you are only able to claim a deduction for capital works during a period that the property was actually rented or is available for rent. As your rental property has not yet produced any assessable income and is not yet available for rent due to the renovation work in progress, a deduction for capital works is not allowable under section 43-10 of the ITAA 1997.

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