Most of us know that capital gains tax (CGT) is a tax on the profit made by an individual or business when they sell a capital asset. This includes a range of items, including property, shares (and cryptocurrency) and other assets such as jewellery.
If you own property, regardless of whether it’s your primary place of residence or an investment, it’s important to understand CGT.
Please note that this article has been written under the assumption that you are an Australian resident for tax purposes. Tax rates for non-citizens are fixed and you will generally not qualify for these exemptions.
How much is capital gains tax?
CGT is taxed at your individual tax rate, so how much you pay will depend on your tax bracket. This is because it is calculated as part of your personal income for the year. To work out how it impacts your tax bracket, you will need to add the capital gain (i.e. the profit) from the sale to your personal taxable income for the year.
The percentage is based on the total sale price of the asset minus what you paid for it. For example, if you sell a house for $1,000,000 and you paid $750,000 for it, you will only be taxed on the $250,000 you made from the sale. Conversely, if you made an overall loss on the property, that loss will be considered in your return and may reduce your tax owing for the year – a small consolation, but a consolation nonetheless!
However, things are never that straightforward, and fortunately there are some rules to help you save on CGT.
CGT exemptions on your principal place of residence (i.e. your home)
The place where you live might be an investment, but you won’t have to pay CGT on any gains you make on the sale of it, so long as you meet certain criteria.
To qualify for this exemption, you must have been living in the property for the entire time that you have owned it – more on this later. There are various ways of proving that this property was your principal place of residence (PPOR): utility bills for that address, as well as being on the electoral roll at that address are good evidence. Note that this will likely require living in the property for a period of at least three months. It is not enough to say that you lived there for two weeks and that this should qualify you.
If the property has been used to produce an income, you may not be eligible for the full exemption. This means that if you have rented it out, or if you have run a business from that property, it won’t qualify for the full exemption. The property must also be on a block of less than two hectares. If the block is larger than that, you may select two hectares to qualify for the exemption, and CGT will apply to the rest of the land.
Even if you don’t qualify for a full exemption on your PPOR, you may qualify for a partial exemption. The Australian Tax Office have more detailed qualifying criteria and a calculator to determine exemptions available online.
The CGT six-year rule
In case this wasn’t all complicated enough, we have rules within rules as well.
The six-year rule allows for a period of six years where you are not living in the property and are making money from renting it out. Basically, if the property was your PPOR, you are allowed to make a little money from it.
This can be a period of six years during the ownership, including at the end – for example, if you have purchased another property and are renting out your old property as an investment. It can also be used to cover periods where you were renting the property out to someone else during an extended absence, such as if you were working elsewhere for a period of time. It can also be more than one period of absence as well, so long as the total absence does not exceed six years.
To qualify for this exemption, the property must have been your PPOR at one point and you can’t have claimed the exemption in the last six years.
This exemption can be a little complicated as it is impacted by claims against your PPOR. You cannot claim depreciation etc. on two properties at once without attracting CGT on one of them, so it may be worth discussing this with your accountant.
The 50% CGT discount
If you held an asset for over a year, including a property, typically CGT is reduced by 50%. This means that you will only pay tax on half the money you earn from a property if you sell it more than a year after buying it. This discount is only available to individuals and trusts, not companies, however most individuals selling non-PPOR properties will be eligible for this exemption. This has been a broad overview of CGT and how it applies to properties owned by an individual. Of course, and as always, your individual circumstances may impact your eligibility for these exemptions, so it’s important to talk to a tax professional. It’s also important to look for ways to reduce CGT, such as keeping track of receipts and claiming improvements as capital works to reduce CGT liability. If you have an accountant, it’s worth a phone call to make sure you’re doing what you can to avoid paying unnecessary taxes, especially CGT on property sales.