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By Craig Byron CPA
In late 2019 a major change was made to the capital gains tax law – now exposing Australian property owners who are non-residents for tax purposes to potentially massive tax bills when they sell their former homes in Australia. If you are in this situation you need to stop what you are doing and read on.
On December 12, 2019 the government’s “Reducing Pressure on Housing Affordability Measures” Bill became law. Among a range of measures, the one that struck me was the removal of the Capital Gains Tax (CGT) main residence exemption for non-residents of Australia for tax purposes.
I’ve been working in tax for 15 years and, in terms of how much tax this could cost property owners, this stands out as the biggest change I’ve seen.
The reasons for this are;
- The change was simple
- The transition period is relatively short, you only have until 30 June 2020 to sell a property (not a long timeframe to dispose of a home while living and working overseas)
- The law was not ‘grandfathered’ meaning it will apply retrospectively to all property purchases. There is a transition period for existing owners, but it expires on 30 June 2020.
At this point some readers will be thinking to themselves “OK this sounds bad but surely it won’t apply to me because”
- I’m an Australian citizen or permanent resident and only a foreign resident when it comes to tax
- I was an Australian resident when I bought my home
- Most of the time I have owned the home I lived in it in Australia
- I’ve owned my home for many years so only the old law applies
- I’ve never earned income from my home
- I’ve only been overseas for less than 6 years*
The bad news if you are thinking that these factors might help is that they will not. (*There are some small concessions for access to the 6 year absence rule but you will need a significant life event to occur)
There will be no longer be a capital gains tax exemption:
- for Australian expats living overseas who are non-residents for Australian tax purposes when they sell a property they previously lived in, even though you bought it when you were a resident
- for the period you lived in the property and treated it as your home
- where the main residence was left vacant or if rented for a period of less than 6 years
Here’s an example.
Bob and Jane are a couple who bought a home Melbourne on 1 July 2008 for $500,000. They lived in their home for 5 years and 9 months until Jane received the offer of a lifetime to work in London. The initial contract was for 5 years. They decided to rent out their property while they were away and at the time they moved to the UK on 31 March 2013 their home was worth $650,000.
Scenario 1: old rules, full exemption (rented less than 6 years)
After 5 years, Bob and Jane decide to sell their home in Melbourne and use the funds to buy a property in London. The contract to sell is signed on 31 March 2018 for $1.25 Million.
Under the old law there is no tax payable because;
- The period they lived in their dwelling is exempt from capital gains tax under the general main residence exemption (S118.110 of the ITAA 1997).
- The period they were living in London is exempt from capital gains tax also. It is exempt under the main residence absence rule, which allows you to be absent from the property and use it to produce assessable income for a period of up to 6 years and be exempt from capital gains tax (S118.145 of the ITAA 1997).
As a result, although the profit on sale was $750,000, the capital gain is tax free using the main residence exemptions available.
Scenario 2: old rules, partial exemption (rented more than 6 years)
Jane loves her job in London and her employer is really happy with her work so they decide to offer her a 2 year extension, which she accepts. Now, if they decide to sell their Melbourne property on 31 March 2020 for the estimated market value of $1.35 Million the capital gain is not fully tax free but instead a partial CGT exemption is available as follows;
- The period
lived in until 2013 is still exempt from capital gains tax same as above in the
- Bob and
Jane can use the main residence exemption, including the “absences” rule and
the “first use” rule to get a partial exemption from tax.
- They have made a capital gain of $850,000 on the sale of their former home in Melbourne but only $66,625 of that gain is taxable after applying the allowable main residence exemption.
They can only use these exemptions because they purchased the property before 7.30pm on 9 May 2017 (when the law was announced) and sold it before the end of the transitional period on 30 June 2020.
Scenario 3, new rules, fully taxable
Bob and Jane love living in London so much they have decided to by an apartment there and sell their Melbourne home for $1.4 million on 31 March 2021. Under the new rules they are now classified as an “excluded foreign resident”.
- An excluded foreign resident cannot apply the main residence exemption under section 118.110
- An excluded foreign resident cannot apply a partial exemption under section 118.185
The new rules mean that Bob and Jane are now liable for capital gains tax on the Melbourne property for their entire ownership period. The capital gain now subject to tax will be $1,400,000 minus $500,000 equals $900,000 of taxable income.
Even after dividing that equally between joint owners, and applying a partial discount, Bob and Jane are looking at a substantial tax liability.
They don’t get a main residence exemption for any of the ownership period, even the years they lived in the property. They also will not be eligible for the full 50% discount on the gain.
If you need help with this, contact us and we can:
- work out if you are affected by the changes
- estimate how much this could potentially cost
- give advice on what your options are to minimize any taxes
This information will be critical when making decisions about selling or holding the property.
For example, you might be better off transferring the property to a company before (even though this means paying a large amount of stamp duty), or just selling on the open market. If you plan to return to Australia permanently in the future, you may be better off waiting until then to sell.
There are a lot of different options, and we’re here to help.