Firstly, What Are Elements Of The Cost Base – And What Is The Reduced Cost Base?
First of all, as you probably know, we are talking about Capital gains tax – when we mention cost base or reduced cost base. That is a tax that individuals and businesses pay when they sell assets (such as property or cryptocurrencies) at a profit. (source: https://www.ato.gov.au/Individuals/Capital-gains-tax/)
*Our site is not like the ATO’s or other accountants. We make this easy for you to understand. Videos, examples, everything!
Why Do People Actually Want To Know About The Cost Base Of Their Assets?
The higher the cost base of your asset, the lesser your profit, the lesser your tax. That is why people are always trying to inflate their cost base. Generally speaking, it is how much you paid for it. That can be money you gave for it or another property you exchanged for the ownership. However, in many instances you get to inflate this cost base further with:
-expenses you had to acquire it (or the market value of an asset you relinquished in exchange for that one)
-money you spent keeping that asset i.e. holding costs (source: https://capitalq.com.au/news/can-property-holding-costs-be-included-in-the-cgt-cost-base/)
-costs you entail when getting rid or selling said asset
-costs you incur defending your rights to own the asset.
VIDEO RESOURCES:
Examples of CGT in Australia: https://www.youtube.com/watch?v=w3YEFNeIEEM
CGT Steps: https://www.youtube.com/watch?v=vvARfTt9pGw
Why you need to know your incidental costs well.
If you miss one of these, you will pay more taxes. That is how important these are. In fact there are 10 opportunities to claim them.
Section 110.35 (source: http://classic.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s110.35.html)
Number 1: Paying your accountant, surveyor and a range of other professional service providers. There are a few other conditions here (source: https://www.ato.gov.au/Forms/Guide-to-capital-gains-tax-2021/)
Number 2: Any transfer costs you incur with your transaction and the change of ownership
Number 3: In many instances there will stamp duty involved. Or other similar sort of fees.
Number 4: Entertainment is not deductible at the best of times. They most certainly don’t here. However, any other form of marketing or advertising to attract a buyer (or a seller) can be added. Just like the others above, they help you increase your cost base and reduce your profit.
Number 5: Any valuation that you have to do or re-do to determine how the asset’s ownership is shared, apportioned is also allowed into the cost base. Please keep track of all these. CGT is at a rather punitive rate.
Number 6: Everything costs money these days. If you are doing title searches, looking up land titles, you will incur costs. Except for travel costs, the other charges are deductible. Yes, the ATO still has an allergic reaction to travel.
Number 7: Any conveyancing costs (kit if you don’t want to use a lawyer or conveyancer, there are DIY solutions, an unaffiliated source: https://www.diyconveyancingkits.com.au/products/conveyancing_kits.aspx)
Number 8: Your borrowing expenses. That is not the loan itself but rather things like application fees or mortgage discharge fees (source: http://classic.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s110.35.html)
Number 9: If the head company of group of businesses that are consolidated (e.g. they do their accounts together in a specific manner), is not part of the group though, then relevant expenses are allowed in the mix. For instance, expenses that relate to the asset transferred or sold occur because of a transaction between the actual members of that group. This one will sound a bit complicated to most readers.
Number 10: Sometimes there are exit fees, out of the ownership of an asset, at the exit point. They are often called exit or termination fees or similarly. These can definitely be added to the cost base. As an accountant, this one I often see missed and it all adds up.
Exceptions not allowed in the cost base
- You cannot claim anything you have already claimed as a deduction in any other way, at any other time, financial year i.e. no double dipping allowed
- If you missed out and did not claim a deduction, but can still claim it, because you are not the period allowed to amend the return, same deal i.e. go and amend the return! Please bear in mind that amending a bunch of returns attracts the ATO’s gaze too.
As you can tell, there are numerous incidental costs you can benefit by keeping good records (or miss out). This is definitely an area worth getting organised with a proper filing system from the get go. The shelves may cost $20 and save you tens of thousands of dollars. Please have a look at some of the advice on Indeed (source: https://www.indeed.com/career-advice/career-development/organize-your-paperwork)
One important distinction – it’s not just about the cost base.
This post is not about anything but the cost base. However, you should be aware that there are ways to buy assets that ensure a favourable tax outcome when it’s sale time. Timing is important. Getting the right advice even more so. Some use their superannuation to achieve impressive tax feats. (source: https://moneysmart.gov.au/property-investment/smsfs-and-property)
Let’s resume our discussion of reduced cost bases. We have just covered, what the ATO calls, the first two cost elements. The third one is..
Cost of owning the asset.
Like the others, there is a timing issue here too. In this case, you can only claim the costs of owning the asset if you acquired that asset after 1991. That is as per section 110-25 (4) (Source: http://classic.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s110.25.html)
Example:
Let’s say you take out a loan to purchase an asset, your monthly repayments are made up of two things:
- Repayment of the principle
- Interest that you are charged
The repayment of the principle is not deductible – usually, much to my clients dismay. Only the interest component is deductible.
Repairs and maintenance are also deductible, just like the cost of insuring the asset.
Any rates or land tax (if the asset is land, obviously) is allowed as part of the cost base.
Sometimes an asset will be re-financed. For instance, halfway through repayments, an asset can be re-valued and re-financed at a different and lower rate. If there are any interest expenses incurred on the amount borrowed for re-financing purposes, that is also allowed into the cost base.
VIDEO RESOURCE:
Refinancing In Australia: https://www.youtube.com/watch?v=2XUBhO0lbQY
Other times, the owner of the asset will need additional funds to improve the asset or to change it dramatically (or in a significant manner) in a positive manner. These borrowed funds will, again, have two components. Whilst the principal component is not deductible, the interest expenses sure are.
Section 108-17 and 108-30 outline exceptions to these elements. For instance personal use assets are excluded and so are collectables. (source: http://classic.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s108.30.html)
The Personal Use Asset Myth?
As per section 108-20, personal use assets are items that are mainly for personal (or an associate’s) enjoyment or use. (source: https://iknow.cch.com.au/360document/atagUio695918sl24365995/income-tax-assessment-act-1997-section-108-20-losses-from-personal-use-assets-must-be-disregarded/overview)
*Many have tried to claim cryptocurrencies are personal use assets, unsuccessfully. If it is an investment, an attempt to make a profit or part of business entreprise (Even a small one), the ATO politely advises that it would be highly “unusual” that the cryptocurrencies would be considered personal use asset. (source: https://www.ato.gov.au/Tax-professionals/TP/Cryptocurrency—investment-or-personal-use-asset/)
Unsurprisingly, the fourth element is often missed in the years that precede the disposal of a long term asset.
Capital costs to increase/preserve the value of your asset – or to move it and install it.
Example:
The example provided by the ATO is applying for zoning (whether successful or unsuccessful). Any costs incurred here are deductible.
However, any costs attributing to preserving goodwill is not.
Example:
Party A pays Party B to not operate a similar business within a certain distance. That is considered a payment to preserve the goodwill of Party A. (source: https://blog.taxideas.com.au/ideas/business-related-capital-expenditure-preservation-of-value-of-goodwill). However, Party A may be able to claim a deduction against the business income itself.
Any costs incurred to move or install or re-install an asset is part of the fourth element.
We are not talking about depreciation as this an entire topic in its own right.
Example
For novices, a short example, if a depreciable asset is worth $5000. And it has a useful life of 5 years. As a broad generalisation, you may be able to get a deduction of $1000 per year, or one fifth. Or more, if you are using accelerated depreciation.
Let’s look at the fifth and final element of the cost base
Section 110-25 is worth having a look at. This is to do with any activities and the resulting capital expenditure you incur to “establish, preserve or defend your title to the asset, or a right over that asset.” As you can tell, the law and tax sources tend to make a mouthful out of potentially simple terms.
(As per section 103-5, you can give property instead of actual monetary exchanges, both can count towards being an expenditure where relevant)
Example:
ATO provides this one. A suitable where you have a right over an asset can be a call on a share. (source: https://www.ato.gov.au/individuals/capital-gains-tax/calculating-your-cgt/cost-base-of-assets/)
Additional notes:
Interestingly, one of the notes state that some of this only applies in the instance of having a CGT event (source: http://classic.austlii.edu.au/au/legis/cth/consol_act/itaa1997240/s110.25.html).
Please be careful with deductions from capital works. They are not to be included if you can claim them as a tax deduction.
Also, if only part of an expense can be related to a particular asset, by all means, split it up and allocate the right amount.
If you are after more information on CGT events themselves, you will find it here, again in a very understandable language. Not clunky at all. (source: https://www.mytaxguy.com.au/cgt-events-can-you-spot-them/)
If cost base calculations are getting too hard?
If all this is getting a bit much, the ATO has provided a calculator to make your life easier. You can find it here (https://www.ato.gov.au/Calculators-and-tools/Capital-gains-tax-record-keeping-tool/)
They promise they will not be snooping around. The tool allows you to keep records and perform your calculations. Personally, I believe you should do all this yourself and keep track of everything in a super secure and private manner. But, some swear by it – it does allow you print reports (source: https://www.ato.gov.au/Calculators-and-tools/Capital-gains-tax-record-keeping-tool/).
Otherwise, perhaps reading large swathes of technical tax jargon is not your thing. Throughout this article there are video resources. We will be adding more too. Just grab some popcorn, click on a link and watch some videos. If you are in a cinematic mood, here’s a whole hour of CGT training kindly provided by our CPA friends next.
VIDEO RESOURCE:
CGT Training: https://www.youtube.com/watch?v=C0oqZKbx61A
If we have not lost you, here’s a list of exceptions and scenarios where you need to be careful. That is because there is a mixture of the above and other important rules too. It is kind of like mixing medication – you want to know about these interactions!
CGT interactions (“contraindications”):
- Where you use your home to produce an income
- Beware of situations where you have capital works deductions
- Inheritance
- Any sort of bonus shares, units, rights and options provided to you to acquire shares and units
- Anything that deals with depreciation too
- Demergers and CGT events
- Consolidated groups (source: https://www.mytaxguy.com.au/cgt-events-can-you-spot-them/)
- GVSR i.e. General Value Shifting Regime (source: https://www.ato.gov.au/Business/Consolidation/In-detail/General-value-shifting-regime/Overview-of-provisions/?anchor=Keyfeatures#Keyfeatures)
- CGT debt forgiveness
- Any sort of non-monetary consideration for acquiring a CGT asset should perk up your ears. However, please be extra careful where you begin (or end) a financial arrangement or transaction in return for owner in an asset.
Disclaimer:
There you have it folks! This is post rather elaborate but obviously not enough to compete with anything an accountant or even a junior tax lawyer would know. You definitely should not be basing any of your financial decisions on the above. So, why produce this for you? Or, an even better questions is, why read it all? It is your financials at the end of the day. You may need to know a little more before you meet your accountant, so you can make the right decision. That’s probably where our content fits. It is definitely not to be taken as general or specific advice concerning your financial situation.