The terms ‘capital gains tax’ and ‘capital gains’ have been thrown around a lot in the real estate world but there are so many questions surrounding it. It is a part of everyday life to pay tax, and yet only a handful of people have a thorough understanding of paying capital gains tax.
We want everyone to make informed property purchasing decisions here at St Trinity so we will take you through the ins and outs of capital gains tax so that you will know exactly how it could benefit you.
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What is Capital Gains Tax (CGT)?
CGT is the tax you pay in a tax year on profits from selling assets, such as property. The government tax individuals for the money they made out of their properties. It is influenced by the market value of the property.
Do we have to pay it separately?
It is not a separate tax you have to pay; although it is known as ‘capital gains tax’, it is actually a part of your income tax and it is applicable to all of your properties, regardless of it being one of your investments properties or primary residence.
Why and when do we have to pay Capital Gains Tax (CGT)?
You pay capital gains tax because you have made a profit out of a property and like other taxes individuals pay, the Australian Taxation Office manages the details of CGT, including the tax rate and potential capital gains tax discount.
CGT is not a separate tax. Your net capital gains are included in your assessable income in the year you paid capital gains tax. CGT is due when you file your income tax return at the end of the same financial year.
We have capital gains, so is there a capital loss?
Yes! The measure of a capital gain/loss assesses the difference between your cost base (purchase price and other costs such as stamp duty, cost of advertising or marketing, etc.) and capital proceeds (sale price). This considers any incidental costs on the purchase and sale.
It’s a capital gain if you sell an asset for more than what you spent when you purchased it, and it’s a capital loss if you sell it for less.
You report capital gains and capital losses in your income tax return, with capital gains tax being the tax you pay for your gains.
Take a look at this example below:
You bought an investment property in 1999 for $194,000.
You sold this property in 2018 for $770,000.
Your purchasing costs in 1999 were $2,500.
Over the years of ownership, costs were $168,820.
Sales costs were $30,500.
770,000 – 194,000 = 576,000
576,000 – (2,500 + 168,820 + 30,500) = $374,000 (this is your capital gain)
How do we work out how much capital gain tax is needed to pay?
If you’re an individual, the tax rate paid is the same as your income tax rate for that year.
However, if you made a capital gain and you’ve held that asset for greater than 12 months, and you are an Australian resident for tax purposes, you can reduce your capital gain by 50%. This is called the capital gains tax (CGT) discount.
For example, if your net capital gain is $374,000 and all of the above conditions are applied, you qualify for the CGT discount and only pay tax for the $187,000 capital gain you make.
If you’re a company, you’re not entitled to any capital gains tax discount, and you’ll pay a 30% tax on any net capital gains.
Are there any exemptions?
According to the Australian Taxation Office (ATO), CGT applies to assets you sell or dispose of, except for some exempt assets, such as your home and car.
Although most properties are subject to CGT, including rental properties, holiday houses, hobby farms, vacant land and business premises, your main residence (your home) is exempt from CGT.
Your home is exempt from CGT if you are an Australian resident and the dwelling:
- Has been the home of you, your partner and other dependants for the whole period you have owned it
- Has not been used to produce income (not investment properties) – that is, you have not run a business from it, rented it out or ‘flipped’ it (bought it to renovate and sell at a profit)
- It is on land of 2 hectares or less.
How can we be smart about it?
Taxpayers can choose to realise their gains and pay tax at a time that’s advantageous to them because CGT provisions don’t treat the transfer of an asset by inheritance as a sale.
- You can do it after retirement when your income is low.
- If you have made a capital loss from your ownership, you can deduct it from your existing capital gains to reduce the amount of tax.
- If you don’t have other capital gains that year, you can carry over any capital losses to other income years and keep something handy for another time in your inventory.
To get more information on playing the capital gains tax game smartly, you can always gain some professional advice. There are financial services such as accountants, financial advisors and us, who are keen to explain how your pockets can carry more money.
What if I have capital gains?
If you have a capital gain, it will increase the tax you need to pay. You may want to work out how much tax you owe and set aside funds to cover it.
As a buyer, you could be eligible for a 50% discount on your capital gain (after applying capital losses) for any capital gains tax asset held for over 12 months before you sell it. Therefore, you should look into what you are eligible for based on your taxable income and assessable income to budget accurately.
Another benefit of Capital Gains
Another benefit is that you can deduct depreciation of the property against your income, reflecting the depreciation of the property over time. This may increase your taxable capital gain if you sell the property because the gap between the property’s value after deductions and its sale price will be greater.
Do you want to know more about CGT and how it works in your home-buying journey? We are happy to help you with all your questions about the topic and other property-buying queries.
Feel free to call our team anytime at (02) 9099 3412.