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Your main residence, your home, is usually exempt from capital gains tax, or CGT.
In our previous video we talked about capital gains tax and how it applies when you sell
your rental property. So what happens when you sell your rental
property, but you lived in it as your home for some time? Do you still have to pay capital
gains tax?
When I bought my first rental property I rented it out for three years, but later decided
to move in and I lived there for one year. I recently sold it and made a profit of $100,000.
So you don't have to pay capital gains tax on a quarter of that amount, which is for
the one year you lived there, out of the four you owned it.
Yeah, it means I only have a profit, or capital gain, of $75,000 to consider. But as I also
held onto the property for longer than 12 months, I take 50% off and I only have to
pay tax on $37,500.
Now let's look at a situation if the house was Michael's main residence first and then
became a rental. And let's say Michael chose not to use the 'absence' or 6 year rule, which
we'll explain in a minute.
If you start renting out your home for the first time after 20 August 1996, a special
rule affects the way you calculate your capital gain or loss. You take the property's market
value at the time when it's first rented out as its cost.
Let's say Michael bought his home in 2006 for $400,000, and later started renting it
out in 2010, when its value was $500,000. In this case, Michael wouldn't use the purchase
price of $400,000 as part of his costs. Instead, Michael would use the market value of the
property when it was first rented out. That is -- the $500,000 amount.
Michael could have determined this at the time from local real estate agents, or from
a qualified valuer.
When Michael sold the property in 2014 for $600,000 he deducted the market value of $500,000
-- not the actual purchase price of $400,000 -- to work out the capital gain.
So Michael's capital gain was $100,000.And here, the 12 month period to be eligible for
the 50% discount starts when the property is first rented out, so Michael was eligible.
And as he had no capital losses Michael would apply the 50% discount so the capital gain
in his tax return would only be $50,000.
As a general rule, your property is no longer your main residence once you stop living in
it. However, if your property was genuinely your
main residence prior to becoming a rental property, you can choose to continue to treat
it as your main residence for capital gains tax purposes for up to six years after you
stop living in it. This is known as the "absence rule", "continuing
main residence rule" or sometimes the "six year rule".
So if Michael chose to use the "absence rule" the $100,000 capital gain would have been
fully disregarded. But the catch is you can't use the capital
gains tax main residence exemption on any other property for the same period.
If you'd like to find out more and to watch other videos in the series go to ato.gov.au/rental.