If you are thinking about or are in the process of making large scale repairs and/or improvements to your rental property there may be tax implications surrounding the deductibility of the costs. In most cases any improvements will be capital in nature and not a deductible expense under repairs & maintenance. In some cases they may not be subject to depreciation either.
Scenario
Maria’s rental property, built in the 1960s, has wooden window joinery which has started to leak. Maria decides to replace all windows with modern double-glazed windows and aluminum joinery that are more durable and energy-efficient. The windows are replaced with new materials that meet current building standards. The job costs $55,000. Can Maria claim this as repairs and maintenance?
Analysis
- The asset is the rental property– not the windows or window materials.
- The windows or window materials are a component part of the asset.
- The asset (rental property) has not been replaced.
- Has the rental property been substantially improved?
IRD guidance on repairs using modern materials:
“Repairs using modern materials are not necessarily capital in nature:
- In some situations, work needed to be done to meet the Healthy Homes standards may require replacing one item with another that is made of more modern materials and that is superior in some way.
- If so, the use of modern materials alone does not necessarily mean the repairs are of a capital nature. This is provided the extent of the use of the new materials is such that the whole asset or substantially the whole asset, is not reconstructed, replaced or renewed or the character of the building changed.”
Outcome
In this case, Maria could assume that the cost of replacing the windows is deductible, as it is now the industry standard – replacing like with like based on the modern equivalent.
This position has also been taken on other remediation work such as re-flooring, re-roofing, electrical rewiring, etc.
Conclusion
To determine what is classed as repairs or capital requires professional judgment and careful consideration. The default position IRD holds is that significant expenses related to a building is classed as capital.
However, it is important to understand that IRD does not interpret the law; it only enforces it.
If our clients incur a significant expense related to a building, we will often ask for more details to fully understand the situation. We then use our professional judgment to determine the appropriate tax position, working closely with them.
