You would have heard the word depreciation, but what does it mean?
It’s a slow change in value that happens to things over time.
Depreciation affects both cars and property.
A simple explanation:
Let’s start with cars. When you buy a brand-new car and drive it out of the showroom, it’s no longer considered “new”. Cars lose value as they get older and are driven more. This decline in value is called depreciation. In Australia, cars can lose value quite quickly, often around 20% in the first year and then around 15% each year after that. So, a car that’s worth $50,000 when you buy it might only be worth $40,000 or even less after just one year.
Now think about property, regardless of if it’s a house or an apartment.
Unlike cars, residential property generally tends to appreciate over time. This means its price increases as the years go by. However, the total price of a property is really made up of two components, namely the building and the land. Contrary to popular belief this applies to units as well, it’s just that the price of the land that the units are built on is spread across a number of dwellings. The land component of the investment tends to appreciate over time, while the building component tends to depreciate as it ages just like a car. The key difference is that buildings tend to be made out of more durable materials than cars and will typically deteriorate at a much slower pace.
When it comes to taxes, the decline in value over time is recognised by the Australian Taxation Office (ATO). In Australia, if you own a business and use a car for work purposes, you will be able to claim a tax deduction for the depreciation of that car. This means you can reduce the amount of income tax you pay by the amount the car has lost in value. When it comes to investment property, you can do the same thing. If you own an investment property, you can typically claim a tax deduction for the depreciation of the building as long as the building was built less than 40 years ago. For brand new properties you will also be able to claim the depreciation on the fittings and fixtures. There can be up to 6000 claimable items within your investment property, such as air conditioners, carpets, and even light switches. The recognition that these items wear out over time (or depreciate) can help offset the income you earn from rent, reducing the amount of income tax you were ordinarily due to pay.
Know your numbers:
Depreciation is a key concept to understand in both cars used for business and investment property, but the calculations are a little different for each due to the speed at which each item is deemed by the ATO to wear out over time. So, whether you’re thinking about buying a car or investing in property, knowing how depreciation works can help you make informed decisions for your financial goals. Having your own team of experts will help guide you on your journey.
Knowledge is Power
Owun is the Senior Education Specialist at the Blue Wealth Property Academy and hosts The Clever Investor podcast. He has worked in finance and property for well over 20 years and is known for being able to explain the complex world of wealth creation in an easy-to-understand way.