Rental Property Expenses - cost of obtaining an estimate of construction

Can a taxpayer claim a deduction under section 25-5 of the Income Tax Assessment Act 1997 (ITAA 1997) for the cost of obtaining an estimate of construction expenditure for the purpose of determining a deduction for capital works under Division 43 of the ITAA 1997?

Yes. A taxpayer can claim a deduction under section 25-5 of the ITAA 1997 for the cost of obtaining an estimate of construction expenditure for the purposes of determining a deduction for capital works under Division 43 of the ITAA 1997.

The taxpayer purchased a rental property that is leased under a long-term lease agreement.

The taxpayer obtained a report estimating the cost of building the structure from an appropriately qualified person, such as a clerk of works, a supervising architect, a builder who is experienced in estimating construction costs or a quantity surveyor who has experience in the relevant type of construction, as required by Taxation Ruling TR 97/25.

The taxpayer had not sought from the transferor of the property a notice under subsection 262A(4AJA) of the Income Tax Assessment Act 1936 (ITAA 1936) detailing information that would enable the taxpayer to work out how Division 43 of the ITAA 1997 would apply to them in respect of capital works.

Subsection 43-50(6) of the ITAA 1997 refers to the special record keeping rules that apply to Division 43 of the ITAA 1997 and are contained in subsection 262A(4AJA) of the ITAA 1936.

Section 262A of the ITAA 1936 outlines the responsibilities of taxpayers in regard to keeping records, including the situation where capital works are the subject of deductions under Division 43 of the ITAA 1997.

Subsection 262A(4AJA) of the ITAA 1936 requires a person (the 'transferor') who is disposing of capital works to give the recipient (the 'transferee') a notice containing information that will allow the transferee to calculate the remaining deductions available to them under Division 43 of the ITAA 1997. The transferee is required to keep a copy of this notice for 5 years after they dispose of the asset.

Taxation Ruling TR 97/25 sets out the circumstances where an estimate will be accepted in place of a notice of the actual costs of construction for the purposes of Division 43 of the ITAA 1997. Generally, if the transferor is unable to provide a notice prepared in accordance with subsection 262A(4AJA) of the ITAA 1936 then an estimate by an appropriately qualified person will be accepted.

Subsection 262A(4AJA) of the ITAA 1936 places an obligation on the transferor to provide the information to allow the transferee to calculate their claims under Division 43, but does not place any obligations or restrictions on the transferee to seek the information from the transferor prior to obtaining the estimate. Nor does TR 97/25 seek to impose any such obligation.

Section 25-5 of the ITAA 1997 allows a deduction where an expense is incurred by a taxpayer in order to manage their tax affairs. The costs of creating and maintaining records for income tax purposes qualifies as an allowable expense under this section.

Capital expenditure is expressly excluded from being deductible under section 25-5 of the ITAA 1997. However, expenditure for this purpose is not necessarily characterised as being 'capital', merely because it relates to matters of a capital nature.

The taxpayer incurred expenditure which established the estimated expenditure on capital works on the expectation that this will be able to be used in calculating their tax liability. This is an expense incurred by the taxpayer for the purpose of managing their tax affairs. The fact that the taxpayer, as transferee, has not specifically requested the notice from the transferor does not change the character of the expense as expenditure incurred by the taxpayer in managing their tax affairs.

The expenditure incurred by the taxpayer in obtaining an appropriately qualified person's estimate of construction costs of the rental property is an expense incurred in managing their tax affairs and will therefore be deductible under section 25-5 of the ITAA 1997.