Private ruling: Rental expenses
Published: April 2012
Ruling period: Year ending 30 June 2010 Year ending 30 June 2011 Year ending 30 June 2012
Date scheme commenced: 31 July 2009

Ruling: Q1: Can you claim a deduction for costs incurred in relation to your investment property? | A1: No

Relevant facts and circumstances: You relied on a pest control company's report before you purchased an investment property. You signed a rental agreement to rent the property out with a holiday rental company. After you took possession of the property you discovered that the house would be required to be demolished. You are concentrating on reducing the mortgage to a level that will permit the bank to refinance the loan to demolish the house and rebuild. You do not expect any income producing activities to be achieved for at least five to seven years.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 8-1

Reasons for decision: Summary: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that a deduction is allowable for expenses incurred in gaining or producing assessable income, provided those expenses are not capital, private or domestic in nature. The principles in relation to the deductibility of expenses incurred in gaining or producing assessable income have been established through the views taken by the Courts, Boards of Review and Administrative Appeals Tribunals. It is not necessary that the expenditure in question should produce assessable income in the same year in which the expenditure is incurred. In Steele v. FC of T (1999) 197 CLR 459; 99 ATC 4242; (1999) 41 ATR 139 (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. Taxation Ruling TR 2004/4, in considering the above decision, concludes that interest incurred in a period prior to the derivation of relevant assessable income will be incurred in gaining or producing the assessable income in the following circumstances: · 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. While this does not require constant on-site development activity, the requirement is not satisfied if the venture becomes truly dormant and the holding of the asset is passive, even if there is an intention to revive the venture at some time in the future. While Steele's case deals with the issue of interest, the principles can be applied to other types of expenditure including council rates, land tax, bank fees and insurance payments on an income producing property are ordinarily deductible under section 8-1 of the ITAA 1997. In your case, you have incurred interest expenses, council rates, land tax, bank fees and insurance payments in relation to the property. Since purchasing the property in 2009 no work has taken place on the property due to the financial outlay required to demolish and rebuild the property. You also do not expect any income to be produced by the property for at least five to seven years. While we accept that when you purchased the property, you intended to use it for income producing purposes, the plan to renovate or rebuild the property become dormant and your holding of the asset has become passive. The reason for the delay is due to your financial position and not any factors intrinsic to the property development itself. Therefore, the expenses you have incurred for interest expenses, council rates, land tax, bank fees and insurance payments in relation to this property are not deductible as the necessary connection between outgoings and assessable income has been lost.

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