Your main residence, your home, is usually
exempt from capital gains tax, or CGT. In our previous video we talked about capital
gains tax and how it applies when you sell your rental property.
So what happens when you sell your rental property, but you lived in it as your home
for some time? Do you still have to pay capital gains tax? When I bought my first rental property I rented
it out for three years, but later decided to move in and I lived there for one year.
I recently sold it and made a profit of $100,000. So you don’t have to pay capital gains tax
on a quarter of that amount, which is for the one year you lived there, out of the four
you owned it. Yeah, it means I only have a profit, or capital
gain, of $75,000 to consider. But as I also held onto the property for longer than 12
months, I take 50% off and I only have to pay tax on $37,500. Now let’s look at a situation if the house
was Michael’s main residence first and then became a rental. And let’s say Michael chose
not to use the ‘absence’ or 6 year rule, which we’ll explain in a minute. If you start renting out your home for the
first time after 20 August 1996, a special rule affects the way you calculate your capital
gain or loss. You take the property’s market value at the time when it’s first rented out
as its cost. Let’s say Michael bought his home in 2006
for $400,000, and later started renting it out in 2010, when its value was $500,000.
In this case, Michael wouldn’t use the purchase price of $400,000 as part of his costs. Instead,
Michael would use the market value of the property when it was first rented out. That
is — the $500,000 amount. Michael could have determined this at the
time from local real estate agents, or from a qualified valuer. When Michael sold the property in 2014 for
$600,000 he deducted the market value of $500,000 — not the actual purchase price of $400,000
— to work out the capital gain. So Michael’s capital gain was $100,000.And
here, the 12 month period to be eligible for the 50% discount starts when the property
is first rented out, so Michael was eligible. And as he had no capital losses Michael would
apply the 50% discount so the capital gain in his tax return would only be $50,000. As a general rule, your property is no longer
your main residence once you stop living in it.
However, if your property was genuinely your main residence prior to becoming a rental
property, you can choose to continue to treat it as your main residence for capital gains
tax purposes for up to six years after you stop living in it.
This is known as the “absence rule”, “continuing main residence rule” or sometimes the “six
year rule”. So if Michael chose to use the “absence rule”
the $100,000 capital gain would have been fully disregarded.
But the catch is you can’t use the capital gains tax main residence exemption on any
other property for the same period. If you’d like to find out more and to watch
other videos in the series go to ato.gov.au/rental.