Repair versus improvement? Why is this question sometimes difficult to answer?
In this article, we consider several basic guides that may answer—why the distinction is often not so clear cut and why it is so important to get the decision right?
Key factors: repair or improvement?
The Income Tax Assessment Act does not define the term ‘repair’. This is where we need to call on case law to help us decide whether or not a payment is a repair (versus an ‘improvement’). Over time there have been many factors decided upon which point to the distinction
Below is a basic guide of some of the factors to consider in deciding whether a payment is a ‘repair’ or ‘improvement’.
|Reason for the Work carried out||
|Nature of the Work||Work restores the asset, or part of it, to its former condition||
|Condition of the Asset Prior to Repair||Work restores the asset, or part of it, to its former condition.||
|Materials Used||Using new and different materials may still constitute a repair. What is significant is that the work restores the efficient functioning of the asset. Exact repetition of form is not critical||Materials of different physical construction used to further the income-producing ability or expected life of the asset.|
|Timing||Providing the asset is income producing at the time of repair, then restoration or maintenance is claimable. However, if say a rental property is not tenanted or is vacant due to sale, then the work is generally not a repair.||Initial repairs to rectify damage, defects or deterioration existing at the time of purchase of the asset are deemed capital improvement.|
For a more detailed discussion visit the ATO website on Rental Properties – claiming repairs & maintenance expenses.
Consequences of the decision:
The classification of an expense as a repair (and not as capital expenditure) means that it is 100% deductible in the year that the expenditure is incurred. Where the property is used only partly for the purpose of producing assessable income, the repair is allowable only to the extent considered reasonable in the circumstances.
However, if classified as an improvement (ie. capital expenditure) then it is not 100% deductible immediately. Instead, a claim can be made for a ‘capital works’ deduction over a 25 or 40 year period.
In instances where it is not so clear to distinguish between a repair versus an improvement, we recommend you consult with your accountant for advice.