The Main Residence Exemption Explained
All property investors should know about the capital gains tax main residence exemption because it could end up saving you thousands of dollars when you eventually decide to sell your investment property.
Yet, we find that very few property investors are taking advantage of the exemptions made available to them by the Australian Tax Office (ATO).
To help guide you in accessing the most significant main residence CGT exemption, we’ve put together everything you need to know about the main residence exemption.
Understanding Capital Gains Tax (CGT)
Unfortunately, capital gains tax is part of the investment property journey, so it’s worth knowing when you might be liable to pay it.
So, before delving into the benefits of accessing the main residence exemption, you must understand your liabilities in terms of capital gains tax.
When you sell your investment property, you’ll either make a capital gain or loss.
Capital gains tax is the contribution you have to make to the ATO if you make a profit (in other words, a capital gain) from the CGT event (the sale of your investment property).
Your investment property is used to produce assessable income. So, if you sell your property and earn a capital gain, it’s considered part of your annual income tax and will need to be reported in your income tax return.
However, the ATO does allow you to claim certain capital gains tax concessions, one of which is the main residence exemption. This could save you thousands of dollars on the eventual sale of your investment property.
The two exemptions we will be introducing you to in the article are centred on the property being your main residence. These main residence exemptions include:
- the principal place of residence (PPOR) exemption (or the main residence exemption); and
- the six-year absence rule extending the main residence exemption.
There are also two additional capital gain exemptions you can claim, including
- a partial CGT exemption should you have held your investment property for 12 months or more before selling it; and
- the six-month rule, which allows you to keep two main residences (or PPORs) for six months in a situation where you buy your new home before selling the old one.
What Is the Capital Gains Tax Main Residence Exemption?
The main residence is usually exempt from tax when making a capital gain on selling the home.
Owner-occupiers typically don’t produce assessable income from their main residences, so the ATO exempts them from paying capital gains tax on the sale of their home.
However, for your property to be considered your main residence or your primary place of residence (PPOR), you will have to show the ATO, among other things that:
- you’ve lived in your main residence for the entire duration that you’ve owned it;
- you keep your possessions at your main residence;
- you use the property’s address to receive your post;
- the property’s connected utilities are in your name; and
- you are registered on the electoral roll covering that address
Now you may be wondering how this benefits you as a property investor and not an owner-occupier. Well, it’s worthwhile knowing about the main residence CGT six-year rule because it could qualify you for the main residence exemption.
How To Extend the Main Residence CGT Exemption
Can Property Investors Claim the Main Residence CGT Exemption?
The capital gains tax six-year rule allows property investors to treat their investment property as if it was their main residence for a period of six years to qualify for the main residence exemption.
So, just like an owner-occupier would sell their main residence without triggering capital gains tax liability, you, as a property investor, can do the same, provided that:
- your investment property was initially considered your main residence before it was used to produce assessable income; and
- you don’t nominate another property as your main residence for the same time period.
After establishing the property as your main residence, it is possible to move out and rent the property out for up to six years.
The most common way people claim the main residence six-year exemption is when they cannot reside in their home for some time, for example, due to work relocation or obligations out of state. Instead of leaving it empty, most people opt to generate an investment income from it.
Not only will you be generating an income while you are away, but you can also use the main residence exemption in the event that you sell the property and make a capital gain.
It could end up being a win-win situation for many property investors.
Another beneficial element of claiming the main residence exemption using the six-year rule is that it resets each time the property is re-established as a main residence when you move back in.
In other words, each time you move back home, the six-year rule resets. So you can claim the main residence exemption, provided that you don’t move away for more than six years at a time.
In 2017, Phillip bought his first property in Sydney. By occupying it immediately, he established it as a main residence. It has been his main residence for the entire period that he has owned it.
In 2020, however, due to the COVID-19 pandemic, he decided to move in with a friend who lived in the investment property he owns nearby so that he wouldn’t have to self-isolate alone.
Because he was only temporarily moving out, Phillip didn’t treat any other house as his main residence.
After a month of living with his friend, Phillip decided to investigate the option of renting out his property for a short-term lease so that he was at least generating extra income while he was away from his main residence.
He managed to secure tenants who ended up renting out his main residence from April 2020 – December 2020. After that, he was ready to move back home.
If Phillip decided to sell his property after being away for ten months, he would still be eligible to claim the main residence exemption because of the six-year rule. Therefore, he was not liable for paying capital gains tax.
While capital gains tax is an inevitable part of your investment journey, the ATO does allow you to claim certain exemptions.
Suppose you decide to sell your investment property. If that is the case, knowing about these CGT exemptions could end up saving you substantial amounts of money.
The most significant exemption offered to homeowners is the main residence exemption.
The good news is that property investors can also claim the main residence exemption by utilising the six-year CGT rule.
As long as you sell your property within six years of renting out, you can apply the six-year rule and qualify for the main residence exemption.
Unfortunately, however, as of July 2020, a foreign resident can’t claim the main residence exemption.
At Property Tax Specialists, our primary focus is helping property investors maximise their opportunities and legally minimising their tax liabilities.
To discuss any matter relating to capital gains tax, the main residence exemption or the six-year rule, get in touch today.
Please note that every effort has been made to ensure that the information provided in this guide is accurate. You should note, however, that the information is intended as a guide only, providing an overview of general information available to property buyers and investors. This guide is not intended to be an exhaustive source of information and should not be seen to constitute legal, tax or investment advice. You should, where necessary, seek your own advice for any legal, tax or investment issues raised in your affairs.