How Tax Depreciation Can Put Thousands Back in Your Pocket

Andrew:: Hi, I'm Andrew Wright, principal of Professional Southport, and this is the Andrew Wright Property Podcast. I've built a multi-million dollar property portfolio delivering a seven figure annual rental income, and led my real estate team through thousands of sale and lease transactions in each episode. I share real deals and strategies that will help you find, fund and operate profitable property deals.

The aim of this show is to provide education and build a community of like-minded investors who can collaborate, share insights, and help each other in each other's journeys. You can make excuses or you can make money, but you can't do both. So come and join us.

Good day listeners, and welcome back to the Andrew Wright Property podcast. It's very important when you're scaling an investment property portfolio that you get advice on structuring your investments, tax planning, estate planning, even preparing for minimization of land tax, maximizing your borrowing capacity, et cetera. It's all very, very important.

The purpose of today's podcast is to make sure that you don't rely on your accountant to maximize your after tax cashflow on your investments. Today I'm very, very happy to introduce to you one of the founders or the main founder of BMT Tax Depreciation, Brad Beer. How are you Brad?

Brad:: Good, Andrew. Great to be here. Love talking tax depreciation as well.

Andrew:: Yeah, it's exciting stuff. Property. Don't turn off your podcast now just because we're not going through a deal. This stuff is very, very important. And let me tell you, my motivation here is from my own experience when I've actually gone to the effort of employing actually BMT in most cases, to prepare a quantity surveyor's report on the amount of depreciation I can claim, it can actually make tens of thousands of dollars a year in difference or even hundreds of thousands of dollars a year difference depending on your portfolio.

Brad, can you tell us a little bit about the business that you founded and where it started from?

Brad:: Look, originally it started back in 1997 out of Newcastle. I actually came in just after the start, about 12 months later, and I started as the first employee. It was at uni and I went to get some work experience. One person working there out of a spare room. And we just concentrate on this niche of depreciation schedules, and then you learn how to do them properly and well. Not an area that was really well done by the quantity surveying industry and also something that was not known very well by investors.

So we grew from there to spread offices nationally over the next few years to currently about 200 staff. We've done close to a million depreciation schedules on all different types of properties.

Andrew:: That's a big business. 200 staff.

Brad:: Yes. 200 staff.

Andrew:: So just off the record, do you get hit with that damn payroll tax?

Brad:: Oh yeah. I'm great at payroll tax. I'm great at paying it.

Andrew:: Oh my god. That's a nasty thing, isn't it?

Brad:: And we're one incorporated business nationally, so we don't even have separate states.

Andrew:: I whinge about land tax and stamp duty, but I reckon that payroll tax is worse.

Brad:: I'm good at the land tax. I've been buying properties over the years and yeah, they seem to get more money out of me for doing nothing as it goes up in value. But yeah, 27, nearly 28 years of operation. Organically grown business from the start, we just went in and learned how to do depreciation schedules well, maximize deductions for clients and try to provide great experiences for our clients. Make them talk to their accountants about how good it was to get something from BMT.

Andrew:: And have you ever measured or tracked where your clients came from? Like were they all referred by accountants?

Brad:: The biggest percentage is that, yeah. We track that all the time. The biggest referrer has always been accountants. And our concentration has been making sure we do a good job for the client so it gets to their accountant and their accountant goes, that was easy. We need to say that the clients say it was easy to get a BMT report. These days a lot come online, but we still ask how you actually heard about us. It's often the accountants and then they've Googled us after that.

Andrew:: More than 50% of your clients would be an accountant told them to come to you, do you think?

Brad:: Oh, it's 40 odd percent. And the real estate industry's about 20 odd. And a lot of it's the education and things that we've done elsewhere as well. Friends or family is another one — someone's got one, they've got money back, makes sense, and said you need one of these.

Andrew:: Okay. So if we go right down to the basics, what is a depreciation schedule, and why can't people just assume that their accountant is already claiming the maximum amount of deductions each year?

Brad:: So a depreciation schedule is a simple document that gives some numbers. But if we take it down to depreciation for a moment — what's that about? I'm buying property, I'm trying to have it go up in value or appreciate, and what are you depreciating it for?

The answer is that the building itself and the items in there wear out over time. New carpet is worth an amount and 10-year-old carpet's not worth much. The decline in value and the wear and tear of those items, the tax office allows us to claim a deduction for.

With a car, we understand what depreciation is — we buy it, we drive it out, it's worth less money. With a property we buy it, we hopefully have it worth more money, but the tax office allows us to claim deduction for that loss in the actual value of the items themselves in that property.

Why the accountant can't do it? Well, I'm a quantity surveyor and a quantity surveyor is someone who traditionally estimates the construction cost of buildings. I did a four year building degree. A quantity surveyor is a specialist in costing of buildings — we can get a set of plans, measure up how much concrete's in it, count the bricks, measure how much steel is in it, pull it together to work out how much a building should cost to build.

The depreciation that you claim against a property has a relationship to the construction cost. It's a percentage of the cost and the value of items in there. So the tax office says, we want someone who knows about construction costs involved in this process. So we're recognized by the tax office as a relevant professional to estimate the construction cost of a building for the purpose of the depreciation.

Andrew:: And the listeners of the podcast here, some of them will probably have residential property, but some of them will be commercial property investors. Is there any real great separation in the legislation on what you can claim with resi versus commercial?

Brad:: There are some differences, different nuances between the two, but effectively any property that is an investment property — and one of the main differences there is that properties in Australia, lots of people live in their own house that doesn't have a depreciation claim against it. Commercial property, whether you're using it yourself for your business or you're renting it to someone else, they're all an investment property because they're used for investment purposes.

There's a few differences around new and secondhand items between residential and commercial. There's a few different dates as to what you can claim, few different rates. Effectively, they've both got depreciation. There's just a few different rules about how it's done between the two.

Andrew:: When I think about the clients that we have in our property management business, a lot of them might have houses that are about 30 years old. And I'm gonna send this podcast to all of our property management clients and strongly encourage them to employ BMT to get one of these depreciation schedules, because I'm confident most of them probably don't have it. Is it worthwhile their time, Brad, even if it's 30 years old to review that?

Brad:: So if it's 30 years old, it's going to be worth it. We need to have a look at whether they're claiming anything already and we find that about 70 to 80% of the time, they're not claiming everything they could claim.

The simple thing is a conversation. We'll have a conversation about your property. We've got to have a look at the tax return and see if there's an area where you're claiming some depreciation. How much is that? Then we can very easily provide an idea on any property — 30-year-old, 10-year-old, 100 years old — of what sort of amount of deductions should be claimable roughly each year. We've done nearly a million of them, probably one similar to yours.

And if it's 20 years old, 10 years old, 50 years old, there's different things that mean it may or may not have some depreciation. Doesn't cost you anything except a phone call. Just say, hey Brad, I've got this property, it's 17 Smith Street, I've had it for five years, I paid 700 grand for it, do you think there might be any depreciation? And we can quickly have a look.

Andrew:: Brad, do people that employ your team to do a depreciation schedule need to call you back in 10 years time if they renovate their property again? Or do they not need to worry about it once it's done?

Brad:: If they renovate the property, there'll be changes to what you claim. If we've already done a depreciation schedule, you're claiming for that. If you change what's there, you change the cost of things in there. You need to treat some of the things that you're taking out for tax reasons. And then there'll be new things that you've added that'll be more depreciation to claim against those.

Andrew:: And as far as the real life process of making these claims, I just printed out a couple of pages of a tax depreciation schedule from BMT on one of my properties. They actually give you two different schedules. One is called prime cost method, and in this case year one deductions are $46,508 of tax deductions, but under the diminishing value method, first year $68,268 — there's 22 grand more deductions in year one using the diminishing value method.

Can you just tell us the difference between the two and who would want to use the prime cost method if there's 22 grand less in year one deductions?

Brad:: We give you the schedules because they are options. Which you would claim will depend on your future income expectations. An item of plant equipment has a life that you get to claim it over. A lot of those things are say 10 years.

Under the prime cost method, if you have $10,000 worth of carpet and it's got a 10 year life, you get $1,000 per year. You get the whole 10 over that period of time. Under the diminishing value method, you get a rate that's twice as much, so rather than 10% each year, it's 20% each year, but it's based on the residual value each year.

So the first year is $2,000 instead of $1,000. The second year is 20% of $8,000 and so on. It never runs out. It's always a percentage of what's left each year. You would claim diminishing value so you get most of your money now upfront in the early years.

Andrew:: Hypothetically, most investors are probably middle to older years, and if they were going to retire in five or 10 years, the diminishing value method would seem more obvious. At least I'm in that category. I'm 55 and I want to maximize deductions now. But someone who's a young whippersnapper expecting big pay rises down the track might think of the long game and use the prime cost. Is that a fair statement?

Brad:: It's a possibility. It's unlikely unless you know in five years time you are definitely jumping up a few tax brackets. And also money now is worth more than money in five years time. Even if you think you might get more in five years time, the time value of money means if you get your money now you can put in an offset account and reduce your interest. So there's a benefit out of having some money now.

Andrew:: A dollar today is worth more than a dollar tomorrow. I agree. So what is the typical cost of a depreciation schedule and is it tax deductible?

Brad:: Yeah, absolutely. Tax deductible. Residential property is about $800. And we've always got that guarantee — if we don't find deductions twice what the report costs in the first year, you don't have to go ahead and we'll give you money back.

Andrew:: Maybe you should just process what Brad has just said. It probably suggests that you really are foolish if you don't get a depreciation schedule for your investment property. He's offered your money back if you can't make it back in year one deductions.

Brad:: Well, twice in year one deductions. The deductions are deductions, so it's against your tax rate. So most people will get basically the fee back with the tax deductible fee and twice deduction in the first year on a 37 cent dollar tax bracket, you're pretty close to even after the first financial year. And there's still deductions in the next year.

Andrew:: Brad, how have legislative changes post 2017 affected residential property investors' depreciation entitlements?

Brad:: So we delved into plant and equipment a little bit. I need to explain some differences in the claims. There's one claim that relates to a portion of the structure of the building — concrete floors, walls, and roof stuff that lasts a long time. This is Division 43. That is based on the cost of the construction of the hard stuff at the time it was built. In order to claim it on a residential property, it needs to be built after 1987.

This structural component is 40 years from when it was built, at the cost it was built at the time. The other component is plant equipment — carpets, hot water services, blinds, stoves, curtains, air conditioners. Things that don't last as long, we get to claim faster.

In 2017, the government decided that if that stuff is not new for residential property, we don't get to claim a deduction against it. So after anyone that buys after that 2017 date, residential property doesn't get to claim on that secondhand stuff anymore. Before that date, if a new property was going to get $15,000 in the first year, a 2-year-old comparable one might get $13,000 and now gets $10,000 or so.

But this is one of the things with residential versus commercial that is quite different — that rule change around secondhand plant equipment applies to residential properties only. If you buy a secondhand commercial property, you still get to claim your secondhand carpet, air conditioner if it's older.

Andrew:: I noticed that when I had you guys come round to a property in Ipswich, the guy was going round to these ancient split aircons and he was saying he was going to claim. I'm thinking they're worthless, but he was including them because there's still some value there.

Brad:: There's some value because they're a working item of plant. If it's really quite old and going to break tomorrow, that's not much value. But it's serving a purpose, it's working, it's been maintained over time.

Andrew:: It was quite a thorough inspection. The guy was writing down everything and taking photos of everything.

Brad:: And if you get audited by the tax office, we've got the documents. That's always the thing we're trying to do.

Andrew:: One thing that the viewers should understand — it's not all roses and peaches forever because the depreciation that you claim does affect your capital gains tax liability down the track. Can you briefly explain that?

Brad:: Yeah, absolutely. It's often a question that comes from a crowd — don't they take it back? Simple answer is that depreciation claims that you make will reduce your cost base for calculating your capital gains tax liability.

If you buy a house and sell it after a few years, buy it for a million dollars, sell it for $2 million, you'll pay some capital gains tax on that gain. If you claim $100,000 in depreciation, you'll pay capital gains tax now on $1.1 million as your gain because it's reducing that cost base.

But what happens when you claim those depreciation deductions over time is that firstly you claim at your full marginal tax rate. So the money you put in your pocket today is usually more than the capital gains tax that you may pay later on, which is only a tax if you sell, by the way.

There's two things around it. One is the money I have today I can use for something — I can put it in an offset account, save interest with it. The other thing is when we do pay capital gains tax, if we own the property for more than a year, we actually pay it at a lower percentage. There's a capital gains tax discount in place, so it's discounted.

When you do the maths, the money you actually physically put in your pocket — in most of the scenarios and case studies we've written over time — you get more money in your pocket than what you lose in additional capital gains tax in the end, and you get to use it over the time.

Andrew:: So just in my words for the listeners — it makes sense because you're better off getting a 100% tax deduction now while you're working. Get that immediate benefit every year. And then if you sell it down the track, if there's a capital gains tax liability, if it's in a trust or personal name, you get a 50% discount on the CGT. So you're better off getting a hundred percent claim now on your marginal rate as we go, because a dollar in your pocket now is worth a lot more than later down the track.

Brad:: The case studies we've done, the maths is there. If I did sell it for that at a later date, what would it look like? It'll spit out that you should claim it. Most of the time — and I'm not the accountant though, we work out the depreciation.

Andrew:: So is it too late for someone who's owned a property for a certain number of years, or when is the best time to engage a quantity surveyor?

Brad:: Is it too late? The answer's never too late to ask the question. One of the biggest things to consider is that if you haven't claimed your depreciation, you can go back and amend a couple of years of your tax return. If you've owned it for five years, you can't go back five years, but you can go back and amend two tax returns. So we still start a schedule from when you bought the property.

When's the right time? Before you buy a property, I think you should crunch numbers. So you should be thinking about an estimate of depreciation. Then as you get into the ownership, making sure you do it properly so you get your money. Or if you have forgotten, then do it later.

Andrew:: Brad, I'm a bit of a part-time property developer on the side. I'm just about to get approval for 15 units to be built, and my understanding is for me to qualify for traditional bank finance, I probably need a quantity surveyor to confirm my feasibility in relation to the construction costs. And then at each stage of the property development, I've got to send a quantity surveyor back to the site. Can you talk me through that process?

Brad:: Yeah, absolutely. When you're looking to build that project, you'll do some sort of feasibility study — it's going to cost this much to build, you'll sell them for this much or hold them, and the land cost this. You need to make some money out of it or why take the risk?

In order for the bank to loan you the money, they want to check that you can build it for that much money. If the construction cost is over a million dollars, they'll want someone to have a look. And then rather than giving you the $10 million upfront for construction, at each month they'll go out and go, okay, you've poured the first slab, you'll need nine more million dollars to finish it. So the bank needs to hold onto $9 million.

So through the project, keeping an eye on making sure we're collecting the engineer's reports and making sure enough money is held by the bank to finish the project. Rather than someone running off with it.

Andrew:: What gives me peace of mind is that instead of just going and getting some building quotes, I'm hoping that with a quantity surveyor's estimation, I can have a bit more confidence that these builders aren't trying to rip me off.

Brad:: An architect designs buildings and sometimes they'll actually offer to arrange the tender to get quotes from the builders. They've often got some idea of similar type of projects and what it's cost roughly per square meter. The difference is we actually go and measure up. A quantity surveyor is someone who specializes in measurement and estimating of construction costs.

Andrew:: Brad, one other thing I'm really interested in. I listened to another podcast maybe a year ago where they talked about a thing called a scrapping report. They went through an example where a developer bought a site, had tenants in there, then when the tenants moved out they demolished the building for ground up construction. And the guy didn't claim anything. But the person running the podcast said you could have asked a quantity surveyor to do a scrapping report and possibly claimed a whole heap of year one deductions immediately for the value of that building. Is that true and how does that work?

Brad:: It is true. What we would do is — it's not really called a scrapping report, it's called a depreciation schedule. We do a depreciation schedule on that building. And if you then knock it over and throw it away or scrap it, you've just knocked over the whole rest of it. It's all gone. So rather than continuing to claim that deduction over the rest of its life, it's the opportunity to claim it as an instant deduction in the year that you knock it down. Now that can be substantial dollars. If it's a commercial building, it could be very substantial.

Andrew:: And even from a residential property investor's point of view —

Brad:: If they're renovators, scrapping is very important. Take your 30-year-old property. A 30-year-old kitchen's pretty old now, but a kitchen is seen to have a 40 year life for the purpose of depreciation. The benches and cupboards are part of the building, Division 43.

If you're renovating a 30-year-old kitchen, that kitchen has a 40 year life for tax purposes. It's only taken away 30 of them, so it's got a quarter of its value still left. So if you rip out a 30-year-old kitchen that was a $30,000 kitchen 30 years ago, there's seven and a half grand left in deduction when you do that renovation.

Andrew:: Even I, as a real estate agent for a long time, I haven't advised people when they say they're going to renovate. Now I know. I'll be telling them, well, don't do that before you get a quantity surveyor.

Brad:: If you're a renovator, there's the scrapping, and then there's new things that you put in that you can claim. The only piece of advice is before you rip apart, call the quantity surveyor. Because if you haven't got a depreciation schedule in place, you want to make sure you've assessed all those things. We can find everything and do everything, and also justify it if it's been ripped out and the tax office asks you questions three years later. It's a big deduction for renovators. Before you pull it apart.

Andrew:: The lesson is there — if there was nothing else in the property, you were renovating, seven and a half thousand dollars deduction immediately. If your tax rate's 30%, you're getting a third of that back, about two and a half grand back as a tax refund in the year that you do the renovation.

Brad:: In the year you rip the kitchen out, you're probably going to rip the bathroom out as well. And probably do some other things too. So it does make a substantial difference. And before the 2017 changes, your plant was able to be written off as well. Commercial, it works for things that you're ripping out that still had value — plant as well as the structure of the building.

It still comes down to the important thing — make sure whatever your property is, if it's an investment property, it's got a depreciation schedule. If you renovate and you haven't done it, make sure you get it sorted out. Unless you like leaving your money at the tax office.

Andrew:: Because they use it so well. What's the average first year claim?

Brad:: Last year, out of the reports we did, the average first year claim's about $12,000.

Andrew:: $12 grand. If they claim 30% on that, if they're a high income earner, they're still getting three and a half, $4,000 in their pocket at the end of the year. And that's an $800 report.

Brad:: That's the average out of all the residential reports within the whole year. And if I took the commercial reports we did in the last year, I think it was 80 something, $87,000 or around that, was the average first year deduction of the non-residential reports we did last year.

Andrew:: That's massive.

Brad:: The number was about $12,000 in this financial year. It was about $11,000 the year before. So it actually has crept up a bit in the last couple of years. And that probably relates to an increase in construction costs overall because it's all related to construction.

In all my time in this game, I'm still speaking to people all the time that have just never heard of it. My Uber driver on the way here had a long conversation — his wife hadn't claimed depreciations against their properties.

Andrew:: Are there audit risks investors should be aware of?

Brad:: Everything you do in your tax has got a risk of being audited. Our clients get audited all the time. People come to us when they're getting audits because they haven't done it properly. We usually probably get more deductions and heal some mistakes.

Ridiculously high deductions have potential to attract audits. We maximize the deductions without going beyond what it should be. We get questions from the tax office about our reports regularly. We answer them quickly and we back our reports because we've got enough detailed data. I've got more information about that property than the person asking the question from the tax office.

Andrew:: Your business is all over Australia?

Brad:: Yes. The 200 staff are spread all over the country. We need to visit properties, so I need people in areas to visit properties. People in every capital city and more and more regional areas. Especially since COVID and working from home, some people do their jobs from home and they are dual trained to go and do the inspections at the same time.

We started out of New South Wales. Victoria last year was actually our biggest revenue. But we track pretty much the population on the numbers of jobs as far as the states are concerned. One thing I've always done is employed staff in those places to do the jobs. I don't contract that work out. We bring them in, we train them to do it the way we want it done so we get the best results. They come round in their little BMT car and get the photos.

Andrew:: Brad, one of your marketing employees suggested that you might even be prepared to do a free little estimate of what my clients might be able to claim. Is that available for the viewers as well?

Brad:: Absolutely. I don't want anyone to come and spend $800 and get nothing. We've got enough experience — just email us the address or a link to the property and say, Brad, I've got this property, it's 17 Smith Street, I've had it for three years, I paid 700 grand for it, do you think I'll get any deductions? And we can have a quick look. You can get onto our website and use the calculator as well. Or just send us the address and we'll give you an idea. And if there's not enough to do anything, let's not do it.

Andrew:: Look, if you just understood what we've gone through there, there's not a whole lot to lose. If you want to get in touch with Brad's team, you can shoot me an email and I'll introduce you, or just Google BMT Tax Depreciation.

This stuff is so important. We haven't gone through any real deals today, but if you're trying to scale your portfolio, your capacity to borrow all comes down to your after tax cash flow. So take this seriously. If you own an investment property and you haven't had a depreciation schedule prepared, honestly, you're crazy if you don't do it. Get in touch with Brad and his team at BMT.

Thank you for joining us and we look forward to seeing you on the next podcast. Brad, appreciate your time very much.

Brad:: I've really enjoyed it. Nearly 28 years I've been in this business. I've learned so much. I started as work experience. I've learned how to run and drive a business. I've also been able to go along and talk tax depreciation at every property seminar under the sun and learn how to invest in property, develop some property. It's been a great journey and I'm proud of it. Good team around me. My executive and my other co-owners have been with me for 25 years. We've gone out and learned how to do something pretty well and enjoyed the ride.

Andrew:: Good on you, Brad. Thanks for your time.

Brad:: Thanks Andrew.

Andrew:: Thanks for listening to the Andrew Wright Property podcast. This is all about building a community of like-minded investors who can share real life stories, experiences, and collaborate with a view to helping each other. Join us. Get in touch through the link in the show notes. I look forward to you joining me on the next episode.