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Proactive property developers and sales agents are using phase A depreciation estimates, or "phase As", to help market developments to investors.
What is a phase A? A phase A depreciation estimate is a report that  shows the potential depreciation deductions available to a property investor, based on a specific property or development. Phase As are most commonly found when looking at a unit within a major development. The phase As are generally prepared in line with the major unit variations. For example, you’d have one report for the one-bedroom units and another report for the two-bedroom units.
The reports generally show a minimum and maximum range of deductions over the first few years of ownership. A good phase A will show 10 years' worth of minimum and maximum deductions, and will also break up the division 40 items (plant and equipment assets), which are things like the blinds, stoves, carpets and the like, from the division 43 component, which represents the building structure.
Property investors are becoming more aware of potential depreciation deductions. In fact, we’re receiving daily calls from prospective purchasers asking what the deductions would be per year on specific properties. Investors are also turning to Excel sheets and investment analysis templates to analyse their current and potential investment properties. These tools require the purchase price, rental income and interest rate in order to spit out some interesting figures and metrics such as rental yield, cost per week before tax and so on. Depreciation is a key component to many of these investment tools, and this leads to investors asking sales agents what their likely deductions are if they purchase the listed property. A good sales agent will have a phase A ready to hand to the investor.
Phase As provide developers and sales agents an easy way to show the depreciation allowance available based on the specific property and are almost exclusively prepared free of charge by quantity surveyors. While depreciation is just one part of the investment decision, it can mean the difference between properties being unaffordable on a weekly basis to manageable or even cashflow positive.
Why do quantity surveyors prepare phase As free of charge?
The phase As are merely estimates, but they’re generally very accurate. However, a phase A report cannot be used by a property investor to calculate their depreciation entitlements at tax time. The investor would need to engage the quantity surveyor to provide a full capital allowance and tax depreciation schedule specific to the property purchased, in the purchaser's name and based on the settlement date and purchase price. The good news is that you’ll often be able to have a full report prepared at a reduced fee due to the quantity surveyor's familiarity with the development.
 
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How is a phase A prepared?
Most phase As I’ve prepared personally have been for properties under construction. This means that I’ve needed to source the plans for the development and the schedule of inclusions. This is a very accurate way of providing an estimate as the exact floor area is known, and there’s normally a great amount of detail about the types of kitchen appliances, floor coverings and the like. It’s also something that agents always seem to have ready at hand, as it often forms part of their advertising anyway.
Other phase As can be prepared on established properties where there are no plans or inclusions lists available. These include commercial properties or individual established houses. The best way to prepare an estimate is based on the estate agents' photos and notes. Simply looking up the property on a website can provide excellent photos of the plant and equipment items. The size of the property can be tricky to estimate. However, we can often find the size of the property through some of our search information providers. The age of the property is one of the most crucial considerations when preparing estimates on established properties, but the construction completion date is often on record at the local council. Wherever the level of detail is poor, the minimum and maximum depreciation ranges will tend to increase. These estimates still provide a good idea of the potential deductions, and the accuracy can be increased where more detail or information becomes available.
Phase A reports are generally three to five pages long with some information specific to the property, advice on having a full report prepared, but the most important part is the figures themselves. Below is an example of some estimates I’ve prepared on a new residential property for sale.
<img src="/images/stories/2012/11/mortlocknov27.gif">
You can see the box on the top left hand side shows the maximum range, with the plant and equipment items and the division 43 component adding to make the total depreciation. The property is likely to achieve between $8,112 and $9,554 worth of depreciation deductions within the first full year under the diminishing method. The graphical analysis simply follows the figures within the minimum and maximum ranges and charts them to show the decrease in deductions over each subsequent year, and the cumulative deductions over time. You can see that after 10 years, the property is likely to achieve over $60,000 worth of depreciation deductions.
Phase As are a fantastic tool to market a property that is geared towards property investors. A unit development of 30-40 units is surely to end up with a number of investor purchasers. These estimates enable investors to analyse the potential cash flow of the property and make a more informed investment decision. For developers and real estate agents, the reports represent a free tool to assist the prospective purchasers with the information they need to progress towards the decision to purchase or keep looking. No major development should be without a phase A.
Mike Mortlock is a director of <a target="_blank" href="https://www.mcgqs.com.au">MCG Quantity Surveyors</a> specialising in tax depreciation schedules for property investors. <a target="_blank" href="https://twitter.com/mike_mortlock">Mike can be followed on Twitter</a> 
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mmortlock-YX58RgDaQB

Understanding phase A depreciation estimates, and how they can save you money

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In a recent study in Canada by a Professor Paul Anglin, an analysis of the language used in real estate ads shows that certain words are strongly correlated with the final sale price of a house. Surprisingly, words like "charming", "spacious" and "fantastic" do not equate to a higher sale price. The study dissected the wording of more than 20,000 Canadian home listings from 1997 to 2000.
According to the study, the five terms commonly used terms correlated to a higher sale price are:
<ul>
<li>Granite</li>
<li>State-of-the-art</li>
<li>Corian (Corian is the brand name for a solid surface material created by DuPont.)</li>
<li>Maple</li>
<li>Gourmet</li>
</ul>
The five terms correlated to a lower sale price are:
<ul>
<li>Fantastic</li>
<li>Spacious</li>
<li>!</li>
<li>Charming</li>
<li>Great neighbour</li>
</ul>
It’s clear that descriptive words that are physical descriptions of the house work well. For example even if you don’t like “granite’, the term doesn’t give the impression that the house is in poor repair.
The terms "fantastic" and "charming" are ambiguous terms that appear to be real estate agent code for a property that doesn’t have many specific strong points worth mentioning. The exclamation point was shown to be very bad news for the property, described as “a bid to paper over real shortcomings with false enthusiasm.”
The estate agent's job is to market a property as well as possible, and often the property has some serious shortcomings. The choice of language is crucial as it can focus the potential purchaser on the positive attributes of the property. However, it can also provide clues as to severe shortcomings.
 
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An agent in the U.S., John Reed, responded to the study by saying “I do not believe this means you can raise the sale price of your house by using the right ad words. Rather, the cause and effect are the opposite direction. Attractive houses have specific, objective, positive things that can be said about them because they are fundamentally better houses.”
I tend to agree with this point. It’s very easy to rattle off features like ducted air conditioning and roman blinds so long as the property has them. Of course the trouble with advertising something that has few discernible qualities is that you have to say something. Reed suggests that in advertising these properties you need to remember the phrase “If you have something to say, say it. If you don’t have anything to say, sing it.” In other words, if your product has no real advantages over the competition, use a jingle to advertise it. Reed argues that real estate ad words like “cozy” and “charming” are the print equivalent of a radio or TV jingle.
What can we take from this study? I would argue the importance of keeping ambiguous terms to a minimum and focusing on the specific physical strong points of the house wherever possible and applicable.
I’d love to hear from local agents about how they attempt to market some of their more ‘fantastic’ houses.
Some more words that helped to sell a home were: handyman special, curb appeal, move-in condition, landscaping and golf. Words that hurt a sale included: motivated seller, good value, as-is, clean, quiet and new paint.
Interestingly, listings where "landscaping" was heralded sold 20% faster, and homes in "move-in condition" took 12% less time to sell than the benchmark, although the study showed that "move-in condition" had an insignificant effect on the sales price.
It’s obvious that words matter, and Anglin’s study isn’t the only research that confirmed the importance of the choice of words. Whether it has an effect on the final sale price of the property or the time it takes to sell the property, both are important. Anglin was asked whether he had any advice for today’s sellers. "Yes," he replied. "Avoid the word 'motivated.' "
Homes where the seller was "motivated" took 15% longer to sell.
Mike Mortlock is a director of <a target="_blank" href="https://www.mcgqs.com.au">MCG Quantity Surveyors</a> specialising in tax depreciation schedules for property investors. <a target="_blank" href="https://twitter.com/mike_mortlock">Mike can be followed on Twitter</a> 
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The five words that help sell your home and the five that don't motivate: Mike Mortlock

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I’ve recently returned from some time in the United States, and I always find Americans' service gratuity or ‘tipping’ an interesting contrast to life back in Australia. Tipping got me thinking of the book Freakonomics (which I’d recommend to anyone who’s interested in bizarre correlations and the hidden rules that govern what’s happening under the surface of everyday life). Tipping jogged my memory of the book, as it asserts that humans respond to incentives.
That idea in itself does not seem terribly revolutionary, but incentives pose some interesting questions. For one, on the whole are wait staff in the United States more courteous, friendly and efficient? If pressed I’d have to say yes, but I’m not allowing for cultural differences, the specific location of the restaurant, the average price of the meal and so on. All of these variables cloud the ability to objectively answer the question of whether tipping is the reason for their superior service. Eliminating variables and drawing conclusions is what the book Freakonomics is all about. Perhaps the conclusion is not always black and white, but the data and the correlations are. Real estate features in the book with specific emphasis on the incentives within a real estate contract of sale.
Real estate sales contracts, and all transactions for that matter, are based on incentives. The incentive for a real estate agent selling your home is that they’ll be paid once a sale has been achieved. Generally they’ll also have the added incentive that the higher the sale price, the higher their commission. The home owner’s win in this transaction is that they’re engaging the services of an expert who knows the market well, has connections with buyers and knows the best strategy for achieving the highest sale price.
Selling the property for the highest price is the reason why the agent is engaged, but what if the incentives aren’t geared correctly to achieve this aim? Within the book, the authors Levitt &amp; Dubner examine the incentives for a real estate agent in the US and source data to analyse whether the incentive is perfectly aligned with the aim of achieving the highest price.
As most of us are aware, the commission structure in the US differs from here in Australia. For one, the commission is split between the seller’s agent and the buyer’s agent. Not to be confused by buyer’s agents in Australia, who are paid directly by the buyer. However, and for the purposes of illustrating the point, Levitt &amp; Dubner show that an average 6% real estate commission is first split in the middle to 3% and then typically half again goes to the agency, which leaves a direct 1.5% commission for the real estate agent. On the sale of a $300,000 home, it equates to $4,500 for the agent. This is their basic incentive; once the house is sold for $300,000 they’ll receive their $4,500.
The problem, as Levitt &amp; Dubner point out, is what happens if the property might actually be worth $310,000? They say that the market value of a property is what any one person is willing to pay for it and if someone out there is willing to pay $310,000 then the agent has an incentive to find that person, right? The answer is yes. However, is the incentive strong enough? Thinking back to our 1.5% commission the estate agent will take home, the advantage that the agent receives for finding the new buyer and or negotiating their way up to $310,000 is a mere $150. Will the agent want to risk a guaranteed sale at $300,000 to ensure they get their $150? Perhaps the incentive is not very well aligned with the goal of achieving the highest possible price at all.
 
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Levitt &amp; Dubner discovered a way of finding out for certain. They measured the difference between sales data for houses belonging to real estate agents themselves, compared with houses real estate agents sold on behalf of their clients. They used data from the sale of 100,000 homes in Chicago, controlling for variables such as location, age, investment or occupier, aesthetics and so on. The results showed that on average the real estate agents kept their homes on the market for an extra 10 days and sold for an extra 3%+. The 3% represents the $10,000 in the example. It’s an example of an incentive that is ineffective as the risk of losing a sale for the additional commission is not worthwhile.
Now the authors don’t have an agenda to tarnish the reputation of real estate agents. In fact, they show additional problems with incentives using teachers, doctors and even sumo wrestlers. I personally know many agents who will always go the extra mile as that’s the reason they went into business and love the feeling of a job well done and the repeat business that results from it.
However, the point of analysing this study is to show how incentives are most effective when they’re formulated carefully with the end result in mind. So what can Freakonomics offer the Australian property market, both agents and home owners? I would suggest an insight into the importance of incentives and an opportunity for us to consider how best we can tailor them to achieve a mutually beneficial result. It certainly gives us something to think about when we consider the costs involved in engaging two different service providers.
Real estate sales contracts are a pretty standard document, but it’s not difficult to alter the incentive or commission. I’ve seen a number of properties with a flat commission to a certain point and a higher flat commission over a certain value, a flat out bonus or a sliding scale based on the final sale price. The structure of the incentive within a sales contract is an important consideration for the vendor. To ensure the highest price is achieved, it makes sense that the incentive be aligned to that exact goal. After all, who wouldn’t want their extra $10,000?
 Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions and traditional Quantity Surveying Services.
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Are commissions the best way to incentivise real estate agents?

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The ATO allows two very different methods of calculating property tax depreciation deductions, the diminishing value method and the prime cost method. Most investors choose the diminishing value method as it will return the greatest amount of deductions over the first few years of ownership. However it’s worth discussing with your accountant, as maximising your claim upfront might not be beneficial if your income is likely to increase substantially down the track.
Let’s take a look at some of the key differences between the diminishing value and prime cost methods.
Diminishing value depreciation method
<ul>
<li>Returns higher deductions in the first few years of claim</li>
<li>Utilises low value and low cost pooling to increase the claim on items under $1,000</li>
<li>Allows investors to claim 100% of the value of items $300 or less</li>
<li>Decreases (diminishes) in value each year, so depreciation claims drop each year until asset values run out (or are rounded down to zero)</li>
</ul>
Prime cost depreciation method
<ul>
<li>Returns a straight line depreciation amount until the full value of assets are claimed</li>
<li>Returns greater deductions in the latter years of the depreciation schedule</li>
<li>Allows investors to rely on a more consistent depreciation claim each year</li>
<li>Suitable for investors looking to maximise their depreciation claim in later years, e.g. investors who will live in their property for the first few years</li>
</ul>
Both methods of depreciation claim the same total value over 40 years. However, they use different rules to achieve either aggressive upfront claims or a more consistent claim each year.
For example, consider an asset like carpet, worth $18,000 with an effective life of 10 years.
So for year one:
The calculation to reach the depreciation rate for the diminishing method is 200 dived by the effective life. So, 200 / 10 = 20%
The calculation to reach the depreciation rate for the prime cost method is 100 divided by the effective life. So, 100 /10 = 10%
In subsequent years, the calculation for the diminishing method becomes more complex, whereas prime cost stays the same. Prime cost will be 10% of $18,000 until all of the value is claimed after 10 years, so $1,800 every year for 10 years.
The diminishing method needs to subtract the value of the previous year(s) claim before working out the deductions for the current year. So for year two the calculation is:
Opening value ($18,000) minus year one claim ($18,000 X 20%, or $3,600) multiplied by 20%
This equates to:
$18,000 – $3,600 = $14,400, then
$14,400 X 20% = $2,880.
Year three will then be ($18,000-$3,600-$2,880) X 20%. This will give $2,304.
When represented in a line graph, you can clearly see the result of the diminishing method and its decreasing deductions, versus the constant deductions of the prime cost method.
The line graph is useful as it shows the point at which the diminishing method of claim ceases to produce higher deductions than the prime cost method. In this 10-year scenario, the diminishing method wins out each year until year five.
<img src="/images/stories/2012/10/mortlockoct9.gif">
The point at which the two methods meet is different for each property as the mix of plant and equipment assets are different. As plant and equipment items have different effective lives, their depreciation percentages will be different. For example, ceiling fans with an effective life of five years will be 40% under the diminishing method, and 20% under the prime cost method.
For information on how effective lives are calculated, <a href="https://www.mcgqs.com.au/blog/property-tax-depreciation-effective-lives/" target="_blank" title="How depreciation effective lives are calculated">you can visit here.</a> 
Property investors are usually keen to get the maximum depreciation deductions up front, and we’re often asked “why would someone choose the prime cost method?”
An investor who wants more of a guaranteed tax return amount each year would benefit from the prime cost method. As you can see from the line graph, the deductions are constant over a long period of time. Another reason might be someone purposely trying to minimise their deductions in the first few years of ownership. For example, someone with a low income who is likely to have a much higher income later on. Finally, there are property investors who occupy their property as their primary place of residence. A short six- to 12-month stay might not make much of a difference, but occupying the property for five to six years most likely would.
The purpose of putting this article together other than giving a background into how the depreciation methods work, and how they affect depreciation claims over time, is to encourage you to look at both methods and talk to your accountant to ensure that you’re working with the method that’s most suitable for your scenario.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions for property investors.
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How to find which property tax depreciation method is right for your investment

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Home insurance is a balance between minimising the cost of the insurance premiums paid and maximising the peace of mind that comes with knowing you’re adequately insured. Too often home owners focus only on the premium and are not even sure how a replacement cost estimate is calculated. A little knowledge goes a long way, as there are often associated reconstruction costs that have been overlooked. It’s important to understand the dangers of outdated replacement cost estimates and the breakup of the estimate itself.
Firstly, a replacement cost estimate (RCE) report is an estimate of the cost to replace a particular building in today’s economic climate. Of course the economic climate is not static, so the cost to build two identical properties over time varies based on a multitude of factors such as fluctuating material and labour. A home owner could be forgiven for estimating the cost to build a brand-new home on their block based on current costs advertised for project homes or the latest display homes at their local display centre. However, there are costs over and above the construction of a new house that must be included in a full replacement cost estimate. These include, but are not limited to:
1. The demolition and removal of the remainder of the original structure – a house destroyed by fire, for example, will not be left neatly packed away in a skip bin. There will be costs associated with removing and clearing the debris, which could include hazardous materials (like asbestos) if the property is of a certain age.
2. The cost of constructing the new building based on current planning constraints and building codes – what is built on the block at the present time may not necessarily comply with the current building codes if it were to be reconstructed. The property may require repositioning on the block, or it could have to be rebuilt subject to BASIX requirements.
3. Consultants and preliminaries fees – these include architects’ fees, costs associated with the development application and the like.
Additionally, you’ll need to consider cost escalations associated with the time it takes for planning, design and documentation, the calling of tenders and tender evaluation as well as the construction fit out period itself.
As you can see, the total value that a property should be insured for goes over and above a brand-new construction cost alone.
The risk of being underinsured exposes the home owner to significant losses in the event of a disaster. Even if the property only requires partial reconstruction, it’s possible to be out of pocket when the insurance company does not release the total insured value for the property.
A replacement cost estimate also works in reverse to ensure that if the replacement value of a building is overstated, it can be brought back in line with an appropriate current replacement cost to minimise the insurance premiums. Nobody wants to pay more than is necessary, and an RCE will identify if this is the case.
It comes back to a balance between ensuring the premiums are not based on an overstated replacement value, and confidence that you’ll not be out of pocket should the worst happen. A replacement cost estimate is the best tool to ensure the balance is achieved.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions for property investors.
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Beware of outdated replacement cost estimates when choosing home insurance

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In most instances a quantity surveyor will conduct a property inspection when preparing a tax depreciation schedule. Sometimes this is not required, for example if a property has been built by the owner or the quantity surveyor has previously inspected a unit within the same complex. A good quantity surveyor knows when an inspection is not needed, and this generally results in a saving to the owner/investor. But if certain information is overlooked you will miss out on significant tax deductions. Below are the two main reasons why an inspection may not be required:
1. The quantity surveyor has inspected a unit within the complex before.
This is one of the more common reasons that a quantity surveyor will not need to inspect the property. As the quantity surveyor has been to the property before, the inspection on the common areas would have been completed, and he will apply their same information over the new unit, allowing for the new unit entitlement.
For example, if the unit is larger, the unit entitlement might be 110/10,000 instead of the unit entitlement of 100/10,000 that applied to the previously inspected property. The inspection would have also revealed the standard appliances through the property, the floor coverings, window furnishings light shades, etc. Many property investors take advantage of this situation to save around a third of the cost of a depreciation schedule. However, the saving must be accompanied by a firm understanding of whether preparing the report without an inspection is appropriate.
Your quantity surveyor should explain his rationale after asking a few questions about the property. For example:
<ul>
<li>Has the property had any additions or renovations? Two units side by side in a development may have been built identically, but have the owners differed in their property improvements? This is especially important in older developments, where the property may have had a new kitchen and bathroom installed by the previous owner. In this instance, the cost information is not available to the new owner. If improvements or renovations of this nature have been completed, the property should be individually inspected as the unit differs from the standard.</li>
<li>Are all units completed to the same standard? A one- or two-bedroom unit on the second floor might have a vastly different standard of finish to the penthouse or units on the upper floors. In this instance, a previous inspection on a lesser standard of unit cannot be used as the basis for a report on the units with premium fixtures and fittings. </li>
<li>Is the property furnished? If the property is furnished, the previous inspection needs to have been completed on a unit that was also furnished. Again, it's important that the furniture package is identical and that the furniture does not vary from unit to unit.</li>
</ul>
2. The property is brand-new and the report is prepared based on the plans and inclusions/specifications list. 
This is another of the more common reasons for a report to be prepared without an inspection. In this instance, the report is only as good as the level of detail contained within the plans. I've seen plans where the floor coverings are not completely specified and it's impossible to tell whether the living areas are carpet or tile. This may not sound important, but with tiles depreciating at 2.5% of their opening value each year compared with carpet at 20%, getting the measurements right equate  to a major difference in deductions. You'd also need to ensure that the specifications list contains enough detail to determine the type of appliances, rather than just the brand, most of the time this information is available.
There are a number of companies that provide for a “self-assessment”, schedule where you're undertaking the inspection yourself and sometimes even providing cost information. The ATO allows for this under the self-assessment rule, however these reports tend to attract greater scrutiny (for good reason) and both the Tax Practitioners Board and Australian Institute of Quantity Surveyors have acknowledge that they are not in favour of this type of report.
Property investors can certainly save on costs where their property does not require an inspection undertaken. However, ensure that your quantity surveyor explains the reasons in simple terms, lest you miss out on additional tax deductions.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions for property investors.
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When an inspection is required for a tax depreciation schedule

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1. Not treating the investment property like a business
If your investment property is occupied by a family member you’re helping out, then your investment goals might be a little different. However, most investors are in the business of owning a property to make money. There are often times when investors make decisions based on emotions, whether it is paying too much for a property or basing decisions on their personal tastes. While you might like to purchase a new property with tiled floors because it looks appealing, a new property with carpet will return greater tax deductions each year. Under the diminishing value method, $2,500 of carpet will return $500 worth of deductions in the first full year, whereas tiles will return only $62.50 in the first full year. The difference to a tenant might be minimal, but the difference to the Tax Office is that carpet is a plant and equipment item depreciable at 20% (Division 40) whereas a tiled floor is considered as capital works (Division 43) depreciable at 2.5%.
Treating a property like a business also means charging market rent. While a good tenant is worth holding onto, it’s important to think of charging less than market rent as handing over your money to someone else each week. Your property manager should be on top of comparable properties and managing your rental reviews. Rental increases need to be reasonable and in line with the market. Don’t make the mistake of charging less than market rent waiting for your lease term to expire, and always remember that your decisions should be based on investing rather than personal preferences. Some of the best investment properties might exist in places or properties where you’d never wish to live yourself.
2. Not maximising deductions
Most property investors are aware that they can claim their property managers’ fees, interest expenses, repairs and the like, however it’s important to know everything you can claim, and at the same time maximise those claims. An accountant who is experienced with property deductions should be the first port of call, as he or she will make sure that everything that can be claimed is being claimed. The next step is contacting a quantity surveyor to undertake a capital allowance and tax depreciation report. Many investors either don’t know they’re entitled to claim tax depreciation deductions on their investment properties or have been convinced that the property is too old to be worthwhile paying for a report. Even a property constructed before the qualifying date for capital works deductions (for residential, properties built after July 17, 1985) should have significant deductions available 95% of the time. This might consist of capital improvements prior to your purchase (concreting, painting, renovations), or simply the residual value of the plant and equipment items within the property. This includes things like air-conditioning, blinds, carpets, cooktops, curtains, hot water systems and much more. If you’re renovating a property, there are also significant deductions available when you’re throwing away or “scrapping” assets. The residual value of assets thrown in the bin can often help to finance the renovation itself!
I’ve been fortunate enough to convince investors to have a report prepared and been able to identify many thousands of dollars worth of deductions in the current financial year and often even more in back claims. The difference between tax depreciation reports can quite often be vast. Be sure you’re dealing with a registered tax agent, and that the report includes a low value/low cost pooling schedule. You might save a few dollars on a report prepared by a quantity surveyor inexperienced in tax depreciation, but considering the fee is tax deductible and you might be missing out on thousands of dollars' worth of claims, it’s worth doing your homework.
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3. Not getting property insurance
Property insurance can be broken into two major components: landlord insurance and replacement cost insurance.
With replacement cost insurance, many investors might be able to estimate a construction cost, but there are additional costs that are quite often neglected. A replacement cost estimate prepared by a quantity surveyor shows the actual cost to reinstate a building in today’s economic climate and to today’s building standards. This often results in additional costs such as compliance costs, demolition of the existing structure, site clearing, professional fees and costs associated with the time it takes for reconstruction (including design and documentation).
Investors wary of their cashflow need to consider whether a small saving on their premium is worth not being covered for the full cost of reinstating a property if it was damaged or destroyed.
Cashflow is also a consideration when it comes to landlord insurance. It might feel like it’s just another expense you can do without, but you need to decide how you’d fare should the worst happen. Can you afford for a vacancy period, or a tenant in arrears moving out with a cleaning bill that won’t be covered by the bond? What about malicious damage to the property? It’s OK to take on risk, so long as you’re confident you have a strategy to deal with it. With the majority of landlords having only one investment property, most investors don’t have much wiggle room when it comes to cashflow. Common features of landlord insurance include:
<ul>
<li>Malicious or intentional damage to the property by the tenant or their guests;</li>
<li>Loss of rent if the tenant defaults on their payments;</li>
<li>Liability, including for a claim against you by the tenant; and</li>
<li>Legal expenses incurred in taking action against a tenant</li>
</ul>
Not all products are created equal; some insurance is designed to be taken out in addition to general home insurance, whereas others are more all-encompassing.
4. Poor tenant selection and tenant relationships
Many investors make the mistake of not undertaking proper screening of their tenants such as checking references and other documentation; this is really a mandatory way to ensure to the best of your ability that you’re going to have a co-operative tenant. If you’re working with a property manager, ensure that you’re confident with his or her selection process and ask any questions you might have about their rental history and references. Selecting a tenant should not be merely based on whoever is prepared to pay the most for your property. If your price is too high, you risk attracting fewer quality applicants. Your relationship with your tenant is an important one, and it’s important that once you have a good tenant, you’re living up to your side of the bargain. Repairs are one of the major reasons that tenants won’t extend their leases.
Landlords aren’t the only ones with tenancy horror stories; tenants have plenty of experience with snooty property managers not returning their calls, legitimate repairs being ignored and surprise appearances at their doorstop. Ensure you have properly screened your tenants, be upfront about the responsibilities and expectations of both parties, and wherever possible always attend the property inspections.
5. Failing to understand repair costs
Repair costs are part and parcel of property ownership and won’t necessarily exceed fair wear and tear. However, a major repair can be very costly and may require the property to be vacated. Not only do you need to understand your legal obligations to undertake urgent repairs, you also need to consider the cost implications. Many investors don’t set aside enough money to cover urgent repairs or stay on top of minor problems that have the capacity to escalate if not managed properly. Sometimes the quick fix works fine, but often it’s delaying a problem that’s going to cost more money in the long run. Any areas that come in contact with water such as bathrooms, kitchens, windows and weatherproofing can potentially result in damage that is difficult to detect but eventually very expensive to repair. It’s always a good idea to take plenty of time inspecting the property, and engaging the services of a qualified building inspector is often worth it in the long run. Strata-titled properties have a sinking fund that forecasts the requirements for repairs and the associated costs, preparing a similar plan and setting the money aside is an easy way to ensure you’re able to cope with any surprises.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions for property investors.
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The five biggest mistakes landlords make: Mike Mortlock

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On June 27, 2012, the ATO withdrew the taxation ruling TR 2011/2. This outlined the effective life of all qualifying plant and equipment depreciating assets. The new and excitingly named TR 2012/2 ruling is in effect from July 1, 2012 and includes some changes to existing depreciating assets and the addition of some new assets. The new legislation applies to all assets acquired individually or through the purchase of a property from the July 1, 2012 onward. If you’ve previously had a tax depreciation schedule prepared, there’s no need to worry about updating any effective lives. In the ATO’s words:
“If, for a particular asset, you were using an effective life from the determination as in force before the latest amendment (for example, as contained in the Schedule to TR 2011/2), you should continue to use that life for that asset.”
The legislation has been updated due to an ongoing review of the commissioner’s effective life determinations, which is being undertaken by the ATO. Specifically, there have been changes to assets under the following descriptions;
<ul>
<li>Animal feed manufacturing assets;</li>
<li>Coffee manufacturing assets;</li>
<li>Concrete product manufacturing - concrete roof tile manufacturing;</li>
<li>Concrete product manufacturing - fibre cement building board manufacturing assets;</li>
<li>Edible oil or fat (blended) manufacturing assets;</li>
<li>Ethanol manufacturing assets;</li>
<li>Frozen pre-prepared meals and selected snacks manufacturing assets;</li>
<li>Health and fitness centre operation assets;</li>
<li> Motor vehicle manufacturing - automotive metal stamping and blanking assets;</li>
<li>Motor vehicle manufacturing - motor car engine manufacturing and assembly assets;</li>
<li>Radio broadcasting assets;</li>
<li>Steel coil roll forming, slitting, blanking and sheet metal forming assets;</li>
<li>Sheet metal tank manufacturing assets; and</li>
<li>Tea manufacturing assets. </li>
</ul>
This will of course change the depreciation deductions for commercial properties operating under those descriptions, but will not affect residential property investors.
The effective lives affect depreciation deductions by changing the depreciation rates. For example, under the diminishing method, the rate of depreciation for an asset is calculated by 200 divided by the effective life of the asset. So if we take a dishwasher in a residential property as an example, the calculation would be 200 divided by 10 years, giving us a depreciation rate of 20%. If the effective life was to be changed to the same as an oven, the depreciation rate would reduce to 16.7%.
We can expect an updated taxation ruling on effective lives around the end of June each year, due to the ongoing review of effective lives. Hopefully we’ll see the addition of some new assets under the residential property operators’ subsection such as water tanks. We’ll keep you abreast of all legislation changes.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions for property investors.
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What new depreciation tax rules mean for property investors

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As quantity surveyors, we’re often telling investors that there are more depreciation deductions available within a unit than a house of similar age and finish. Of course depreciation is just one part of property investment and shouldn’t be the driving reason to choose one investment over another, but I want to look at why a unit returns more depreciation deductions.
Residential units tend to be constructed to a more compact floor plan or layout, rather than the larger open spaces property investors would expect to see within a residential dwelling or house. The cost to build per square metre increases with a compact construction layout, due to more infrastructure (walls, services, etc) and less open spaces than commonly seen within houses. This can make a significant difference to the overall claim, but is not the major reason why residential units will return greater deductions.
In short, the answer is that it’s all about common property.
Most investors are aware that they can claim deductions on the building structure of their unit (subject to age) and the plant and equipment items within such as blinds, carpets, ovens, range hoods and the like. However, many investors aren’t aware that they can claim deductions on the common areas as well.
Unit developments are all different, but generally the more units there are within a development, the more common property there is likely to be. Common property includes things like:
<ul>
<li>Basements</li>
<li>Entry foyers</li>
<li>Foyers and corridors on each level</li>
<li>Barbecues and pool areas</li>
<li>Driveways</li>
</ul>
Now that’s just the building components. You’ve also got the associated plant and equipment items. The list is far more expansive, but some of the more common items include: 
<ul>
<li>Air-conditioning</li>
<li>Automatic gate motors and controls</li>
<li>Barbecue assets</li>
<li>Carpet</li>
<li>Door closers</li>
<li>Emergency warning and intercommunication systems (EWIS)</li>
<li>Fire control assets</li>
<li>Fire extinguishers and hoses</li>
<li>Furniture, freestanding</li>
<li>Garbage compacting systems</li>
<li>Garden watering installations</li>
<li>Generators</li>
<li>Gym assets – cardio and resistance</li>
<li>Hand dryers, electrical</li>
<li>Hot water systems</li>
<li>Intercom system assets</li>
<li>Lifts</li>
<li>Lights</li>
<li>Master antenna television assets (MATV)</li>
<li>Security and monitoring assets</li>
<li>Swimming pool chlorinators</li>
<li>Ventilation fans</li>
</ul>
This is just a sample of some of the plant and equipment items you might find in a unit development.
But how are investors entitled to claim deductions on common property and how does it work?
It’s now all about the strata plan. When you purchase a unit, you’re purchasing a particular lot within a strata plan. A strata plan shows the building on the land, the lots making up the plan and the common property.
Each lot is given a unit entitlement, which is shown on the strata plan.  The amount of the unit entitlement varies depending on a number of factors, such as the size of the lot.  Unit entitlements regulate what proportion of the total annual budgeted levies will be paid by each lot owner.  Unit entitlements also can regulate voting strength at meetings if the value of the votes is required.  Unit entitlements also provide the entitlement that the owner has to claim over the common areas. For example, if there 50 units within a strata plan, the unit entitlement might be something like 1/50.
Using this ratio of 1:50, let’s consider the potential depreciation deductions in this case study.
The total common area written down value is estimated to be $3.5 million.
The total estimated value of common plant and equipment items is $68,000.
The calculation for the building structure in the first full year is $3.5 million x 2.5% x (1/50).
This results in $1,750 per year worth of deductions on the common building(s).
Plant and equipment items all deprecate at different percentages but will normally be somewhere around 20% on average. So using this as an example, the calculation would be; $68,000 x 20% x (1/50), which equates to $272 in the first full year.
Adding the plant and equipment to the depreciation on the building gives us a figure of $2,022 in a single year on just the common areas.
This calculation also ignores some of the legislation that enables you to maximise the depreciation on plant and equipment items such as the ability to claim 100% of the value of all assets under $300 in total, within the year of acquisition.
The extra value that common property depreciation deductions add to the overall claim can be significant, and investors should ensure that they’re claiming deductions on every asset that they’re entitled to claim over.
While high-rise unit developments will return the most common property deductions, even strata-titled villas with a shared drive way and perhaps some solar garden lights will attract deductions on the common areas.
Be sure to contact a tax depreciation quantity surveyor for more information on how to maximise your claim on common areas.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au" target="_blank">MCG Quantity Surveyors</a>, providing residential and commercial tax depreciation services to property investors.
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Why more depreciation deductions are available for units than houses

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A display home can be a very attractive option when it comes to property investment. They’re normally built to a high standard, impeccably maintained and have guaranteed rent for a set period. Coupled with this, there’s often a high yield and always fantastic tax depreciation deductions.
Purchasing a display home is a little different from your average investment property. The builder or developer will sell the property with a lease-back option, where they retain the property as a tenant for normally around one to two years. These lease-back contracts often contain extension options where the sales agreement enables the builder to extend the term of the lease beyond the initial period.
A display home is likely to be in the most desirable part of the development and will often have extensive landscaping and quality finishes. After all, the job of a display home is to entice people into the development and showcase upgrades to the standard packages available.
The tax depreciation deductions available are significant with high quality display homes. As an example, consider the depreciation deductions on a display home with a total build cost of $190,000 (excluding soft landscaping). The property includes plant and equipment items such as coo tops, blinds, carpet, hot water systems, ovens, packaged air-conditioning and more. A property with a construction cost of $190,000 could expect around $30,000 in total plant and equipment items. In the case study scenario I ran, the value was exactly $27,867. So this gives us the following figures:
<ul>
<li>Division 40 Assets (plant and equipment items) - $27,867</li>
<li>Division 43 Component (capital allowance) - $162,133 </li>
</ul>
The division 43 component will return 2.5% of the opening value each year, which equals $4,053 per year.
The division 40 assets will depreciate at different rates, from 100% for assets under $301 in value, to 13.33% in this example. The total division 40 depreciation in the first year came to $5,423 under the diminishing method.
This gives us a total tax depreciation deduction in the first year of $9,476.
Out of interest, the second year, which won’t include any of the assets written off at 100%, came to $8,573.
This example gives you an idea of the potential deductions on a fairly standard display home. You can certainly find display homes with construction costs double the value of the case study.
Depreciation however, is just one part of the picture. Even more important is the yield. This is yet another attractive feature of a display home. There are major builders currently advertising yields as high as 7.5% to 8%.
Now I did say there were going to be cons. The normal rules of doing your research and checking the contract apply, however there are some things to consider that are specific to display homes. One such consideration is outgoings. Quite often the term of the lease does not include a provision for the tenant to pay the outgoings. These include electricity and water for example, and can add up significantly over time. It’s important to be clear about the contract and understand what you’re responsible for.
Another consideration is the purchase price itself. The display home might have some great upgrades, but what effects will that have on the market value of the property when it comes time to sell? Display homes may also be situated where there is no precedent for that quality of home, say in regional areas. So it can quite often be difficult to know what the capital growth prospects are, and what the current market value is. A local estate agent can be a valuable resource.
Lastly, let’s look at conversion costs. Display homes can be configured differently to the way a normal tenant would require. For example, many display homes won’t include a hot water system as there is no need for it to sit idle for two years not being used. You can also find display homes with the garage converted into an office. In this situation the roller door may be replaced with a sliding door. They may also have security fencing encroaching onto the driveway. Are there conversion or rectification costs required before a tenant moves in, and who pays?
These are all questions that require investigation when purchasing a display home as an investment.
With that being said, a well-researched display home can be a hassle-free, high-yielding investment with great depreciation deductions and no property management fee.
Mike Mortlock is a director of <a href="https://www.mcgqs.com.au/">MCG Quantity Surveyors</a> specialising in tax depreciation deductions for property investors.
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Mike Mortlock

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