Will retiree's unusual tax claim after selling home at a loss mean you could get hit with extra tax burden?

News of a potential new 47 per cent capital gains tax (CGT) on the family home has put many homeowners into a tailspin.

A case heard at the Administrative Appeals Tribunal (AAT) suggests we could see a shift in the way property is taxed in Australia. Here’s what it means for you and your family home.

The case that challenged the rules

In a recent Bowerman vs Commissioner of Taxation case heard at the AAT, 86-year-old Sydney retiree Jenifer Bowerman successfully argued that the capital loss on selling her private residence in Sydney’s south should be claimable as a tax deduction in her personal tax return.

The ATO is unlikely to waver from its current position on capital gains tax. (Source: Getty) (Samantha Menzies)

The ATT’s decision to allow Bowerman to claim a capital loss has a flow-on effect for other homeowners who buy and sell properties within a short period. This leads to the question: If a homeowner can claim a capital loss on their family home, should a capital gain be taxed also?

Homeowners aren’t at risk: Here’s why

Despite the unusual case, the Australian Taxation Office (ATO) is very unlikely to change its tax reform as a result of the ATT’s decision.

The main residence exemption (explained further below) is a cornerstone of the fair application of our capital gains tax system. The family home is fundamentally different to other capital assets in that it is bought primarily to provide us with a shelter - somewhere we can live - not to make a profit. As such, it would be a brave government – braver than either Labor or the Coalition currently are – who decided to tinker with the principle that sales of the family home are not subject to CGT.

Also by Mark Chapman:

• Capital gains tax: Will Aussies trying to save money cop a sneaky tax blow for renting a spare room?

• ATO tax scam warning: What to watch out for

• Tax refunds to shrink: Here’s why and what to do about it

Capital gains tax: The rules

Typically, when you sell an asset, you must pay CGT on any profit you make on the sale. But tax law currently provides an automatic exemption for any capital gain (or loss) that arises when a taxpayer sells their main residence.

This isn’t a blanket exemption. There are still situations where some or all of the gain arising on disposal of your main residence may be liable for CGT. For example, if you use your home to produce income, you are generally only entitled to a partial main residence exemption.

What is my main residence?

In short, it’s your home. The ATO has set out some of the factors it looks for in determining whether the property you have disposed of is your main residence. These include whether:

• You and your family live there

• You have moved your personal belongings into the home

• Your mail is delivered to the property

• The residence is your address on the electoral roll

• You have services and utilities connected (for example, phone, gas, or electricity)

• You intend the dwelling to be your main residence

There is no minimum time that you have to live in a home before it can be considered your main residence, although a period of greater than three months is often taken as the benchmark. Even if you only own a house for a short period – six months, say – provided you tick all the boxes above, the property will be your main residence. Also note, you can only have one main residence at a time.

But, to get the full CGT exemption, it isn’t enough to simply own the house; it must also qualify as your main residence throughout the period of ownership. This period begins at settlement of the purchase contract and ends at settlement of the sale contract. If you only live in the house for part of the period of ownership, you will only get a partial exemption.

Simply intending to occupy the dwelling – without actually doing so – is not good enough to trigger the exemption. Simply owning land isn’t enough to claim the exemption either, even if you intend to build a dwelling at a later date. However, you can choose to treat land as your main residence for up to four years before a dwelling is constructed in certain circumstances.

You can choose to have this exemption apply if you acquire land and you:

• Build a dwelling on the land

• Repair or renovate an existing dwelling on the land; or

• Finish a partly constructed dwelling on the land

There are a number of conditions that you must satisfy before you can claim the exemption. You must first finish building, repairing or renovating the dwelling and then:

• Move into the dwelling as soon as practicable after it is finished

• Continue to live in the dwelling as your main residence after it becomes your main residence, ideally for at least three months

Can I earn an income from my main residence?

Increasingly, people are using their homes to produce income. Sometimes, they do that by renting out part or all of the property. Sometimes, they do it by running a business from home. In the past few years in particular, there has been a boom in the number of home-based businesses. If you tick one of those boxes, you may be forsaking part of your CGT exemption. This is because you cannot usually obtain the full main residence exemption if you used any part of your home to produce income during all or part of the period you owned it.

TIP: People who simply work from home as part of their job (such as teachers who might do some marking in the evening or anyone else who might do a bit of overtime away from the office) are not affected. If you use your home to produce income, you are generally only entitled to a partial main residence exemption.

There is an additional rule that applies where you have lived in the property for some time without generating income from the property and then commence an income-earning activity.

In that case, you are taken to have acquired the dwelling the first time it was used to produce income for its market value at that time. This effectively wipes out the tax history of the property up until the time you started your income-earning activity.

The 'six-year absence' rule

In some situations, it is possible to continue to enjoy a full main residence exemption even though you are absent from the property and are earning income from it, possibly by renting it out.

If you own a property that is currently your main residence you can move out of the property for up to six years and still get the full exemption, provided no other property becomes your main residence during that time. During this period you can earn rental income on the property and claim a tax deduction for expenditure as you would with a normal investment property. It isn’t necessary to move back into the property before the disposal for the six-year absence rule to apply.

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