We all own stuff. Cars, motorbikes, sheds, tools, houses. Whatever it is, if we own it, it will depreciate in value over time. For businesses if you were to be making money from that item, then by showing the item has depreciated, you can reduce the tax you incur. But what about for individuals?
The ATO and Taxpayers Australia have got some great information on how depreciation works, so we’d suggest checking them out for the finer points of how everything works. For right now, this article is going to focus on the bare bones of depreciation. How does it work and how does it affect me?
Depreciation is effectively a method for spreading out the cost of an asset over its lifespan. Take this example, Joe owns a Juice Bar and needs to buy juicers to make money. His juicers cost him $3,000 each and will last around 3 years. That one juicer will lose $1,000 worth of value every year, which can be claimed as a tax deduction. So if Joe had 3 juicers, each year he could claim $3,000 in juicer depreciation costs, which is a pretty good amount to get back.
In the same way, people who aren’t businesses can also claim for depreciation. If you own assets which make you money and are tangible, they can be claimed for depreciation. Imagine you own an investment property. The property will appreciate in value as it gets older, so there is nothing really to do there, but construction costs for building the property can be depreciated. The tax office gives a depreciated figure of 2.5% per year for investment properties, to be spread over 40 years. So if you have a $200,000 build cost, you can get $5,000 back each year.
Investment properties also have another cool feature, in that appliance depreciation can also be claimed as a deduction. So if you have a dishwasher installed within your investment property to the value of $5,000 and it is expected to last for 10 years, you can claim $500 a year in depreciation. Now add on the value of all the other appliances and the house itself. You would have a fairly decent depreciation figure to regain.
To work out depreciation rates there are two methodologies. The first is known as ‘prime cost’, the second being called ‘diminishing value’. The end result is effectively the same, however the way that you get to that result is quite different.
For a prime cost method, the value of the asset will decrease at a consistent rate throughout the product’s life. This is the method we have been using in the appliance examples above, because it is the simplest to explain and to understand. It effectively just looks at the value of the asset, and how long its lifespan will be, then divides the first by the former.
The diminishing value method is a bit more complex. This method assumes that the asset will decrease in value at a consistent percentage rate, rather than a solid dollar figure. For example, a $20,000 car will depreciate by 5% each year. In the first year it will lose $1,000 in value, in year 2, it will only lose $950. This trend continues until the entire value is recouped over the assets lifetime. Typically in the latter years of the assets lifetime the amount you can claim in depreciation becomes lower and lower, hence being called the ‘diminishing value’ method. We suggest speaking to an accountant for figuring out the finer details of claiming an assets depreciation.
If you have assets which you believe you can claim for depreciation but aren’t, be sure to get in touch with our expert in house accountant to get the most from your next tax return.