Investment property in Australia attracts two distinct tax deductions: negative gearing (deductibility of net rental losses against other income) and depreciation (claiming non-cash deductions for the building’s wear and tear). Combined, they can reduce a high-income investor’s tax by $10,000– $25,000 per year on a typical $700,000 investment property. But the rules changed substantially in 2017 — affecting second-hand residential property purchases — and many investors lose thousands by failing to commission a quantity surveyor’s report.
This guide covers how negative gearing works, the two depreciation categories (Division 40 and Division 43), the 2017 rule changes, and when a quantity surveyor’s report pays for itself.
Negative gearing — the basics
An investment property is “negatively geared” when the property’s expenses exceed its rental income. The net loss is deductible against the investor’s other taxable income.
Example: $700,000 investment property earning $32,000 rent. Annual expenses:
- Loan interest ($560,000 at 6%): $33,600
- Council rates: $2,500
- Water charges: $1,200
- Insurance: $1,500
- Property management (8%): $2,560
- Maintenance: $1,800
- Strata levies: $4,000
- Depreciation (see below): $7,000
- Total expenses: $54,160
Net loss: $32,000 income − $54,160 expenses = −$22,160. This $22,160 reduces taxable income. At a 47% marginal rate (highest bracket including Medicare), tax saving = $10,415.
Division 40 vs Division 43 depreciation
| Aspect | Division 40 (plant & equipment) | Division 43 (capital works) |
|---|---|---|
| What it covers | Removable items — appliances, carpet, blinds, A/C | Building structure — walls, floors, roof, fixtures |
| Depreciation rate | Diminishing value or prime cost | 2.5% per year, prime cost |
| Effective life | 5–20 years per item | 40 years |
| 2017 rule change | Restricted on second-hand residential | Unaffected |
| Typical annual claim | $1,500–$5,000 (new builds) | $3,000–$12,000 |
| Building age limit | N/A | Built post-15 Sept 1987 |
The 2017 rule change — second-hand residential
From 1 July 2017, investors purchasing second-hand residential property cannot claim Division 40 (plant and equipment) depreciation on items existing at the time of purchase. They can still claim Division 43 (capital works) and Division 40 on items they install themselves after purchase.
Effects on different investor types:
- New build investor. Full Division 40 + 43 claims available. Substantial deductions, especially in early years.
- Second-hand residential investor (post-2017). Only Division 43 + own installations. Reduced deductions.
- Commercial property investor. Unaffected by 2017 changes. Full claims continue.
Division 43 — when it applies
Division 43 covers building construction costs, depreciated at 2.5% per year over 40 years. To qualify:
- The building must have been constructed after 15 September 1987 (older buildings get no Division 43 claim)
- The construction cost is the original cost (not what you paid for the property)
- Renovations and extensions added after 1987 are claimable separately
For a typical $700,000 investment property where the building component is $400,000 (excluding land):
- Annual Division 43 claim: $400,000 × 2.5% = $10,000
- Tax saving (47% rate): $4,700/year
- Total over 40 years: $400,000 in deductions
The quantity surveyor’s report
A quantity surveyor’s report (also called a depreciation schedule) calculates the deductions you can claim. It costs $400–$800 and pays for itself in the first year for most properties.
The report includes:
- Identification of all depreciable items (Division 40 + 43)
- Effective life and depreciation rate for each item
- 40-year schedule of deductions
- Both diminishing value and prime cost calculations
Without the report, your accountant can only claim what they can identify themselves. For most investors, that’s significantly less than what the QS would claim.
The gearing/depreciation interaction
Negative gearing combines with depreciation:
- Cash expenses reduce taxable income
- Non-cash depreciation also reduces taxable income
- The combined deduction can produce a tax refund despite the property being cash-flow positive
Example: property has $5,000 net cash flow positive. Depreciation adds $9,000 in non-cash deductions. Net taxable result: $4,000 loss. Investor receives tax refund based on this paper loss.
Capital gains implications
Depreciation reduces your CGT cost base — meaning more capital gain when you sell. Section 110-45 of the ITAA 1997 reduces the cost base by Division 43 deductions claimed.
Effective: you receive tax savings now, partially clawed back at sale. With the 50% CGT discount and time-value of money, the net benefit is still positive — but smaller than the upfront savings suggest.
Negative gearing risks
- Cash flow stress. The property must be funded out of pocket each year until rents catch up. Sustained negative gearing requires reliable other income.
- Tax law changes. Negative gearing has been subject to political review. Future changes could remove or restrict the deduction.
- Interest rate risk. Rising rates expand the loss. A 2% rate rise on a $560k loan adds $11,200 to annual loss.
- Tenant vacancy. No rent + full expenses = larger loss. Vacancy of 6 weeks adds approximately $3,500 to annual loss.
Buyer planning
- Calculate after-tax cash flow before purchase, not just gross yield
- Factor in 2% interest rate buffer for serviceability
- Get a QS report at purchase — don’t wait
- Keep precise records of all expenses (improvements, repairs)
- Distinguish repairs (immediately deductible) from improvements (capitalised, depreciated)
- Specialist tax advice for properties over $1m or complex structures
Ready to check your contract? Upload your Section 32 or Contract of Sale at precontractreview.com for a pre-contract check — typically in just a few minutes.