Properties & Income Tax

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The first important point to note when reviewing the income tax implications of residential properties is the difference between the income tax treatment of primary residences and buy to let residential properties. Primary residences are occupied by the owner of the property and there is therefore no taxable income that is generated from the ownership of the property. All the costs that are incurred in relation to the property are therefore of a personal nature and cannot be deducted for income tax purposes.

Buy to let properties are leased by a tenant and the owner of the property (the lessor) receives a monthly rental income in return for leasing the property. The rent income must be included in the taxable income of the property owner regardless of whether the property owner is an individual, corporate entity or a trust. All the costs that are incurred in order to generate a monthly rental income can be deducted from the income that the property owner receives when calculating the owner's taxable income for tax assessment purposes. These costs typically include property management fees, municipal rates, levies charged by body corporates, repairs & maintenance, insurance premiums and municipal service costs that are paid by the property owner. Proper accounting records therefore need to be kept in order to provide SARS with supporting documents for the deductions that are claimed for income tax purposes if required to do so.

The cost of financing a buy to let property can also be deducted for income tax purposes. This means that the interest that is incurred on a bond that is used to finance the acquisition of a property is allowed as a deduction for income tax purposes. An important section of the Income Tax Act that property owners need to be aware of is section 20A which provides for the ring fencing of assessed losses under certain circumstances. An assessed loss can result from the leasing of a buy to let property if the total income tax deductions (the costs plus interest) exceed the rental income in any particular year of assessment.

Section 20A is only applicable to individuals whose taxable income in the particular year of assessment is greater than the level at which the maximum marginal rate of income tax is applied (currently R1,656,600 for the 2021 tax year). Ring fencing is also only applied if an assessed loss has resulted from the leasing operation in at least three of the last five years. The effect of the ring fencing of an assessed loss is that the loss is not allowed as a deduction for income tax purposes but carried forward to the next year of assessment. The accumulated assessed losses can then be offset against any future taxable income that results from the leasing of the property.

Other costs like renovation costs result in the improvement of a property which usually also results in an increase in the value of the property. These costs are of a capital nature and can therefore not be included as a deduction for income tax purposes. Instead, capital costs are included in the calculation of the base cost of the property for capital gains tax purposes and therefore reduce the capital gains tax liability that may result from the sale of the property. Note that the same capital cost principles are also applied to primary residences for capital gains tax purposes.

The profit that is realised on the sale of a buy to let property or a primary residence is not usually included in the taxable income of the property owner because the profit is of a capital nature and is therefore subject to capital gains tax. We recommend that you also review the guidance that is provided on capital gains tax. The exception to this rule is of course when the residential properties that are sold were in fact not bought for investment purposes (capital nature) but for trading purposes (as is the case with property developers). The property owner's intention when acquiring the property is therefore an important factor in determining whether a property was acquired for investing (capital) or trading (income) purposes.

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