Property depreciation allows Australian investment property owners to claim a tax deduction for the decline in value of their building and its assets over time. This is a non-cash deduction, meaning you do not need to spend money each year to claim it. For many investors, depreciation is one of the largest deductions available and can significantly reduce taxable income.
Understanding how property depreciation works, the categories of deductions, and how to calculate your entitlements is essential for maximising your investment returns.
What is Property Depreciation
Property depreciation in Australia is divided into two main categories as defined by the Australian Taxation Office (ATO).
Capital Works Deductions (Division 43): This covers the structural elements of a building, including walls, floors, roofs, doors, and fixed fittings. Division 43 allows a deduction of 2.5 percent of the original construction cost per year over a 40-year period. For a building that cost $500,000 to construct, this equates to a $12,500 annual deduction.
Plant and Equipment Deductions (Division 40): This covers removable assets and fittings within the property, such as carpet, blinds, hot water systems, air conditioning units, and appliances. Each item has an effective life determined by the ATO, and the deduction is calculated based on the decline in value over that effective life.
Division 43 deductions apply to buildings constructed after 15 September 1987 for residential properties. Buildings constructed before this date may still qualify for Division 40 deductions on plant and equipment items.
Why Property Depreciation Matters
Depreciation is a significant tax benefit for investment property owners because it reduces taxable income without requiring any cash outlay. The deductions can be substantial, particularly in the early years of owning a new or recently renovated property.
Reduces your taxable income, potentially resulting in a tax refund or lower tax payable
Improves cash flow on your investment property by offsetting rental income
Can turn a negatively geared property into a more financially manageable investment
Applies to both new and second-hand properties, although the rules differ for plant and equipment in second-hand properties purchased after 9 May 2017
How Depreciation Calculators Work
Property depreciation calculators estimate the deductions you may be entitled to claim based on key inputs about your property.
Key inputs: The main inputs include the property's construction date, original construction cost, purchase price, type of property (house, unit, commercial), and details of any renovations or improvements. The calculator also considers the plant and equipment items present in the property.
Example walkthrough: Consider a property with an original construction cost of $500,000, built in 2010. The Division 43 deduction would be 2.5 percent of $500,000, or $12,500 per year. If the property also contains $30,000 worth of plant and equipment items with an average effective life of 10 years, the Division 40 deduction could add several thousand dollars in the first year, depending on the depreciation method used.
Diminishing Value vs Straight-Line
The ATO allows two methods for calculating Division 40 (plant and equipment) depreciation.
| Feature | Basic | Standard | Premium |
|---|---|---|---|
| Method | Diminishing Value | Straight-Line (Prime Cost) | |
| How it works | Higher deductions in the early years, declining over time | Equal deductions spread evenly over the effective life | |
| Best for | Investors wanting to maximise deductions early | Investors wanting consistent deductions each year | |
| Total deduction | Same total over the asset's life | Same total over the asset's life |
The diminishing value method applies a higher percentage to the remaining value of the asset each year, resulting in larger deductions in the earlier years. The straight-line (prime cost) method spreads the deduction evenly across the effective life of the asset. Both methods yield the same total deduction over the life of the asset.
Calculating Depreciation for Tax Purposes
To accurately calculate your depreciation entitlements, follow these steps.
Determine the construction date
Establish when the building was constructed. This determines eligibility for Division 43 deductions and the applicable rate.
Establish the construction cost
Obtain the original construction cost of the building. If this is not available, a quantity surveyor can provide an estimate based on the building's specifications.
Identify plant and equipment items
List all removable assets and fittings in the property, including their estimated value and effective life as determined by the ATO.
Choose a depreciation method
Select either the diminishing value or straight-line method for Division 40 items. Division 43 deductions are always calculated at the flat rate of 2.5 percent per year.
Commission a depreciation schedule
Engage a qualified quantity surveyor to prepare a tax depreciation schedule. This document is required by the ATO and provides the detailed calculations needed for your tax return.
Follow ATO guidelines
Ensure all claims comply with current ATO guidelines, including the restrictions on plant and equipment deductions for second-hand properties purchased after 9 May 2017.
Factors Affecting Depreciation Rates
Several factors influence the amount of depreciation you can claim on your investment property.
Age of the property: Newer properties generally attract higher depreciation deductions because more of the building's value remains to be depreciated. Older properties may have limited Division 43 deductions remaining but can still offer Division 40 claims on recently installed items.
Renovations and improvements: Any renovations or capital improvements made to the property create new depreciation entitlements. The cost of the renovation work can be depreciated under Division 43 (for structural work) and Division 40 (for new plant and equipment items).
Government policy changes: The 2017 budget ruling restricted Division 40 deductions for plant and equipment items in second-hand residential properties purchased after 9 May 2017. Under this ruling, only the original purchaser of a new asset can claim Division 40 deductions. Subsequent owners can only claim Division 43 deductions on the building structure.
Market conditions: While market conditions do not directly affect depreciation calculations (which are based on cost, not market value), they can influence the purchase price and therefore the potential return on investment when depreciation deductions are factored in.
Maximising Your Depreciation Claims
There are several strategies to ensure you are claiming the maximum depreciation deductions available.
Engage a quantity surveyor: A qualified quantity surveyor can identify items and construction costs that you may overlook. Their fee is also tax-deductible, and the depreciation schedule they produce typically pays for itself many times over through increased deductions.
Get a building inspection: A thorough building inspection can identify all the depreciable components in your property, particularly those that are not immediately visible, such as items within walls, ceilings, and subfloors.
Use depreciation software or a professional: While online calculators provide estimates, a professional depreciation schedule prepared by a quantity surveyor is the most accurate and ATO-compliant approach.
Track replacements and improvements: Whenever you replace or upgrade items in the property, record the cost and date. These new items create fresh depreciation entitlements that can be claimed by the current owner, regardless of the 2017 ruling.
Frequently Asked Questions
QWho can claim property depreciation?
Any Australian taxpayer who owns an investment property that produces assessable income can claim property depreciation. This includes individuals, companies, trusts, and self-managed super funds. You cannot claim depreciation on your primary place of residence.
QHow does rental income affect depreciation claims?
Depreciation can only be claimed for periods when the property is available for rent or actively rented. If the property is used for private purposes during part of the year, the depreciation claim must be apportioned accordingly.
QCan I claim depreciation on an old property?
Yes, but with limitations. Division 43 deductions are available for buildings constructed after 15 September 1987. For older buildings, you can still claim Division 40 deductions on plant and equipment items if you are the original purchaser of those items (for properties purchased after 9 May 2017). Renovations to older properties also create new depreciation entitlements.
QWhat is a depreciation report and do I need one?
A depreciation report, also known as a tax depreciation schedule, is a document prepared by a qualified quantity surveyor that details all the deductions you can claim on your investment property. The ATO requires this report to substantiate your depreciation claims in your tax return. It is a one-off cost that covers the life of the property.
QWhat is the difference between Division 43 and Division 40?
Division 43 covers the building structure itself, including walls, floors, roofs, and permanent fixtures, depreciated at 2.5 percent per year over 40 years. Division 40 covers removable plant and equipment items such as carpets, blinds, and appliances, each with their own effective life as determined by the ATO.
QHow did the 2017 budget ruling affect depreciation claims?
The 2017 budget ruling restricted Division 40 (plant and equipment) deductions for second-hand residential investment properties purchased after 9 May 2017. Only the original purchaser of new plant and equipment items can claim Division 40 deductions. Subsequent owners of second-hand properties are limited to Division 43 (capital works) deductions on the building structure.
QCan I switch between diminishing value and straight-line methods?
You can choose a different method for different assets, but once you select a method for a particular asset, you generally cannot switch methods for that asset. It is important to choose the method that best suits your financial strategy from the outset.
QIs the cost of a depreciation schedule tax-deductible?
Yes. The fee paid to a quantity surveyor for preparing a depreciation schedule is a tax-deductible expense. It can be claimed in the financial year in which the fee is paid.
QDo I need a building inspection for depreciation purposes?
While not strictly required, a building inspection can help identify depreciable items that may not be immediately visible. Quantity surveyors typically conduct their own inspection of the property when preparing a depreciation schedule, but a separate building inspection can provide additional detail.
QWhat happens to depreciation when I sell the property?
When you sell an investment property, the depreciation you have claimed may affect your capital gains tax calculation. The ATO requires adjustments to the cost base of the property to account for depreciation previously claimed. This is known as a balancing adjustment and should be discussed with your accountant before selling.
QCan I claim depreciation on a property I renovated?
Yes. Renovation costs create new depreciation entitlements. The structural renovation work can be claimed under Division 43 at 2.5 percent per year, and any new plant and equipment items installed as part of the renovation can be claimed under Division 40.
QHow much depreciation can I claim in the first year?
The amount varies depending on the property's construction cost, age, and the plant and equipment present. For a new property with a construction cost of $500,000 and $30,000 of plant and equipment, the first-year deduction could be $15,000 or more when combining Division 43 and Division 40 claims.
QDoes depreciation apply to commercial properties?
Yes. Commercial properties are eligible for both Division 43 and Division 40 depreciation deductions. The 2017 budget ruling restricting plant and equipment claims on second-hand properties applies only to residential properties, so commercial property owners can still claim Division 40 deductions on second-hand items.
QWhat records do I need to keep for depreciation claims?
You should keep a copy of your tax depreciation schedule, records of any renovations or asset replacements (including costs and dates), purchase contracts, and settlement statements. The ATO requires records to be kept for five years from the date of lodging the tax return in which the claim is made.
QCan I claim depreciation retrospectively?
Yes. If you have not claimed depreciation in previous years, you can amend your tax returns for the past two to four years (depending on your circumstances) to include the missed deductions. A quantity surveyor can prepare a schedule that accounts for prior year entitlements.
QHow do I find a qualified quantity surveyor?
Look for a quantity surveyor who is registered with the Australian Institute of Quantity Surveyors (AIQS) and has experience preparing tax depreciation schedules for investment properties. Ensure they are recognised by the ATO as a qualified person to estimate construction costs.
Key Takeaways
- Property depreciation is a non-cash tax deduction available to Australian investment property owners
- Division 43 covers building structure at 2.5 percent per year over 40 years, while Division 40 covers plant and equipment items
- The diminishing value method provides higher deductions in the early years, while the straight-line method provides consistent annual deductions
- The 2017 budget ruling restricted Division 40 claims on second-hand residential properties purchased after 9 May 2017
- A tax depreciation schedule prepared by a qualified quantity surveyor is required to substantiate claims with the ATO
- Renovations and asset replacements create new depreciation entitlements regardless of the 2017 ruling
- The cost of a depreciation schedule is itself tax-deductible
- Depreciation claimed during ownership may affect capital gains tax calculations when the property is sold
References and Resources
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