This investors insight article provides a summary of the somewhat complicated topic of depreciation and property investing. As we examine the nature of asset and property depreciation and how it impacts investment returns, youll discover that theres much more to this issue than first meets the eye.

If you own an investment property then the Australian Taxation Office (ATO) will usually allow you to claim a tax deduction for asset and property depreciation.

Depreciation is an accounting term and describes the general wear and tear of an asset, like the carpet wearing, furniture becoming dated etc. that occurs over the time that you own it (also called its useful life).

Whether or not you can claim a tax deduction depends on the nature of the asset being depreciated. The amount of the depreciation you can claim depends on the method you choose to implement, and an assets useful life. These issues are discussed in detail below.

Assets and Property Depreciation

Depending on what the asset actually is, there are two options available for claiming a tax deduction for depreciation relating to your property investment.

1. Buildings & Foundations

As youd expect, the actual building suffers wear and tear and generally qualifies for a write down under capital works provisions.

Capital works is a broad term that covers various constructions, extensions, alterations and improvements of a structural nature.

The rules in this area are quite complex. Its not as simple as buying a pre-existing house and then claiming a capital works deduction.

Given the tricky nature, youll need to ask your accountant for more specific information for your circumstance.

If you do qualify for a write-off, then the rate is usually 2.5% per annum (so the building is fully written off after 40 years).

Assets relating to your property investment (other than things that relate to the structure of the building) that have a finite life and fall in value through regular use can generally be depreciated over their useful life.

For example, an investor may claim a tax deduction for the wear and tear of fixtures and fittings such as carpet, appliances (fridge, stove etc.), light fittings, furniture and the like.

Ways of Calculating The Deduction For Other Depreciating Assets

The ATO provides two acceptable methods for calculating depreciation on plant and equipment

The first method is called prime-cost.

This method assumes that the asset experiences even wear and tear over its useful life and accordingly a constant rate is applied.

The alternative method available is known as diminishing value.

It assumes that an asset wears down more in its earlier years of use and accordingly allows for higher depreciation write-offs in the beginning, and less depreciation later on during the assets life.

Tax Rates

The ATO has published prescribed depreciation rates depending on the useful life of the asset and the method chosen.

For the prime cost method, the rate is calculated by dividing 100% by an assets useful life in years. So the prime cost depreciation rate for an asset expected to last four years is 25% (100% / 4).

For the diminishing value method, the rate is calculated by dividing 150% by an assets useful life in years. So the diminishing value depreciation rate for an asset expected to last four years is 37.5% (150% / 4).

Example highlighting the different methods

Its time to test your knowledge!

Imagine that you purchased $1,200 worth of furniture (with a useful life of five years) for your investment unit on 1 July 2002. Use this information outlined so far to answer the questions below:

What Is The Annual Depreciation Rate?