There are two types of Federal Budgets; the ones where governments make hard decisions that can be painful for voters (which usually come just after an election) and ones which aim not to rock the boat too much (which usually come just before an election). With the next federal election widely assumed to be less than a year away, Budget 2018 was firmly in the latter camp.
For property investors in particular, this was a Budget notable more what didn’t happen than what did. With the Labor party promising major changes to the tax rules around negative gearing, the government went out of its way to avoid any significant tax changes to the way property investments are taxed. So, there were no further restrictions to the deductions property owners can claim, no changes to the capital gains tax (CGT) rules as they apply to property owners and no major changes to the way superannuation funds operate and are taxed.
So, was the Budget a non-event? Well, not quite. Whilst measures targeted at property owners were thin on the ground, there were a number of measures – some good, some bad – that you need to be aware of:
Personal tax cuts
Undoubtedly the headline measure in this year’s Budget was the announcement of a seven year program of personal tax cuts; all individual taxpayers will benefit from the tax cuts, so whilst not directly targeted at property investors, they will still be good news, assuming they are implemented in full (by no means guaranteed, given the unpredictable nature of the current Senate).
Step 1: Low and middle income tax offset to be introduced
Starting from 1 July 2018, a new low and middle income tax offset (LMITO) will be introduced as a non-refundable tax offset of up to $530 pa to resident low and middle income taxpayers, payable through until 2021/22.
This new offset, which supplements the existing low income tax offset (LITO), will provide a benefit of up to $200 for taxpayers with a taxable income of $37,000 or less. For those with a taxable income between $37,000 and $48,000, the value of the offset will increase at a rate of three cents per dollar to the maximum benefit of $530. Those with taxable incomes from $48,000 to $90,000 will be eligible for the maximum benefit of $530. For those with taxable incomes from $90,001 to $125,333, the offset will phase out at a rate of 1.5 cents per dollar. For taxpayers earning more than $125,333, no offset will be available.
Despite starting from 1 July 2018, taxpayers will have to wait at least a year to enjoy the benefit of the new offset since it will need to be claimed in your 2018/19 tax return, which can only be lodged from 1 July 2019 onwards. The offset will then either reduce the amount of tax payable to the ATO or increase the size of a refund. Taken together, a typical middle income couple stands to be over $1,000 per year better off due to this new tax offset.
Step 2: Changes to the tax thresholds for middle income taxpayers
From 1 July 2018, the top threshold of the 32.5% income tax bracket will be increased from $87,000 to $90,000.
From 1 July 2022, the low income tax offset will be increased from $445 to $645, and the 19% tax bracket will be increased from $37,000 to $41,000 to lock in the benefits of the LMITO in Step 1.
The increased low income tax offset will be withdrawn at a rate of 6.5 cents per dollar for incomes between $37,000 and $41,000, and at a rate of 1.5 cents per dollar for incomes between $41,000 and $66,667.
From 1 July 2022, the top threshold of the 32.5% income tax bracket will be further increased from $90,000 to $120,000.
Step 3: Removing the 37% personal income tax bracket
The 37% tax bracket will be removed altogether from 1 July 2024.
From 1 July 2024, the top threshold of the 32.5% tax bracket will be increased from $120,000 to $200,000.
Taxpayers will pay the top marginal tax rate of 45% for taxable incomes exceeding $200,000, and the 32.5% tax bracket will apply to taxable incomes of $41,001 to $200,000.
According to the government, somebody with annual earnings of $100,000 will be $1,125 better off a year in 2024-25. Those on $160,000 will save $3,825 a year and those on $200,000 will be $7,225 better off.
Given the magnitude of those cuts for high income earners, this is likely to be the most politically difficult aspect of the new tax plan and the government may find it hard to find sufficient support to pass this measure. But with the government promising that it’s “all or nothing” in relation to these tax cuts, it’s too early to assume any of these tax cuts are locked in.
Deductions for vacant land to be denied
From 1 July 2019, tax deductions will not be allowed for expenses associated with holding vacant land. This is claimed to be an integrity measure to address concerns that deductions are being improperly claimed for expenses, such as interest costs related to holding vacant land where the land is not genuinely held for the purpose of earning assessable income. The government says that it will also reduce tax incentives for land banking, which deny the use of land for housing or other development.
In practice, property investors typically cannot currently claim deductions for property (including land) unless it is being used to produce assessable income; exactly the situation that this new integrity measure is designed to lock in. In practice, therefore, this measure is unlikely to impact most property investors.
The measure will apply to land held for residential or commercial purposes. However, the “carrying on a business” test will generally exclude land held for commercial development.
Deductions that are denied will not be able to be carried forward for use in later income years. Expenses for denied deductions that would ordinarily be added to the CGT cost base (such as borrowing expenses and council rates) may be included in the cost base of the asset for capital gains tax (CGT) purposes when sold. However, deductions denied for expenses that would not ordinarily be a cost base element would not be able to be included in the CGT cost base.
The measure will not apply to expenses associated with holding land that are incurred after:
- a property has been constructed on the land, it has received approval to be occupied and is available for rent, or
- the land is being used by the owner to carry on a business, including a business of primary production.
Self Managed Super Funds (SMSFs)
SMSFs are a popular vehicle for holding property investments and there are a couple of minor, but eye-catching, changes which will be welcomed by those who manage their own superannuation.
Increased membership of SMSFs and small APRA funds
New and existing self-managed superannuation funds (SMSFs) and small APRA funds will be allowed to have a maximum of six members from 1 July 2019. Currently, the maximum allowable number of members in an SMSF and a small APRA fund is four.
Three-yearly audit cycle for some SMSFs
The annual audit requirement for self-managed superannuation funds (SMSFs) will be changed to a three-yearly requirement for SMSFs with a history of good record keeping and compliance, ie for SMSF trustees that have a history of three consecutive years of clear audit reports and timely lodgements of the fund’s annual returns. This measure will commence on 1 July 2019.
Mark Chapman is the Direct of Tax Communications at H&R Block.