What is Capital Gains Tax?

How does capital gains tax affect me? 

According to the Australian Taxation Office (ATO), capital gains tax (CGT) is the tax levied on profits from the sale of assets, including (but not limited to) the following: 

• investments like property and shares
• intangible assets like licences
• some assets intended for personal use, like boats and electrical goods
• collectables like jewellery and artwork 

As far as property is concerned, CGT doesn’t apply to your home or main residence (as long as it satisfies the eligibility conditions). But for other properties, you’re likely to pay CGT when you make a capital gain – that is, when you sell your land or property for more than you paid for it.  

Specifically, your marginal tax rate (the highest income tax rate you’re eligible for) is applied to your net capital gain (all your capital gains for the financial year, minus all your capital losses, unapplied losses from previous years, and any concessions or discounts).  

If you sell a property for less than you paid for it – bad luck – you make a capital loss. The good news is that CGT does not apply, and you can tap into this loss over the coming financial years to reduce the tax on your future capital gains. 

How is capital gains tax calculated? 

In brief, this is how the ATO suggests you calculate capital gains tax: 

1. Calculate what you received for the property.
   
   Or in other words, your ‘capital proceeds’.
   
   If you’re generous enough to give away or sell the property for less than it’s worth, your capital proceeds are equivalent to its market value.  

2. Calculate your costs for the property.
   
   Or in other words, your ‘cost base’ – how much it set you back to get, maintain, and sell the property.
   
   If you made a loss, you’ll apply a ‘reduced cost base’, which could include deductions. 

3. Work out the difference between what you received (1) and the costs (2).
   
   If you get a figure greater than zero, you have a capital gain. Otherwise, you have a capital loss.  

4. Repeat steps one to three for each asset you’ve sold for the financial year.
   
   If, during the year, you find yourself selling multiple assets that are eligible for CGT (not just property but other investments like stocks or crypto), you’ll need to repeat the first three steps for each of these events. 

5. Deduct your capital losses from your capital gains.
   
   If you have a net capital loss from previous years, deduct this amount first. If you don’t have any capital losses, skip on over to the next step. 

6. If you have any remaining eligible capital gains, apply the CGT discount.
   
   If you’re an Australian resident for tax purposes and you’ve owned the property for more than a year, you can apply a 50% CGT discount.
   
   Finally, report your net capital gain in your income tax return. 

7. If you have a capital loss, report it in your income tax return.
   
   Unfortunately, you can’t deduct your capital loss from your other income. Instead, you can carry it forward. If you have capital gains in future years, you can deduct this loss from them.  

Are there any capital gains tax exemptions? 

There’s a key date to remember when thinking about CGT exemptions: 20 September 1985.  

Any property bought before this date is exempt from CGT. But keep in mind that any additions, renovations, or other property improvements done after this date could get hit with CGT. 

Other than that, CGT is usually exempt from your main residence. But if you rent it out, use it for business, if it’s on more than two hectares of land, or if you’re not an Australian resident, that could change.  

What’s the deal with my main residence being exempt from capital gains tax? 

If a property is your main residence, it’s most likely exempt from CGT. This applies if your ‘dwelling’ – house, cottage, apartment, strata title unit, a unit in a retirement village, or even a caravan, houseboat or mobile home – satisfies the following: 

• it has been the home you, your partner, and family (including dependants) have lived in throughout the entire time you’ve owned it
• it hasn’t been used to produce income, e.g. rentals or office
• it hasn’t been used to make a profit like in the case of ‘property flipping’
• it’s situated on two hectares of land or less 

CGT applies on this property if: 

• it doesn’t satisfy the above criteria, or
• you’re a foreign resident and don’t pass the ATO’s life events test

What happens if I decide to rent out my main residence? 

If your current residence stops being your home base and you start using it to make money, the ATO will still treat it as your main residence for up to six years.  

If you don’t make any money from it, the ATO will keep treating the property as your main residence indefinitely. 

But here’s the catch: The property needs to have started out as your main residence. If you acquire it, rent it out, then live in it, the CGT exemption won’t apply. 

If you rent out a room in your property but you still live there, you could be eligible for a partial CGT exemption. 

Are there any discounts on capital gains tax? 

Yep! You could be eligible for a 50% CGT reduction if: 

• you owned the property for at least a year
• you’re an Australian resident for tax purposes 

If you’re a generous soul providing affordable housing for low-to moderate-income earners, you could be eligible for an extra 10% discount.  

Does capital gains tax affect vacant land? 

So what is vacant land, exactly? How does the tax office define it? 

According to the ATO, a piece of land is vacant if: 

• It doesn’t have a substantial and permanent structure.
• It has a significant and permanent structure, with the structure serving as a residential premises that was either constructed or substantially renovated while the entity owned the land.
• The premises are either not yet legally permitted for occupancy, or they can be legally occupied but have not yet been rented or made available for rent. 

If you have a farmland and wondering whether it’s considered vacant land, the answer would be no. A farmland typically has various substantial and permanent structures. 

Because vacant land is an asset and classified under real estate, CGT typically applies when there’s a capital gain from selling it. 

How much CGT you pay for a vacant land is like any other property. It depends on various factors like your marginal tax rate, other capital gains or losses in the financial year in question, and how long you’ve owned the land. 

Say, for instance, you’re an Australian resident and a proud owner of a vacant land for more than 12 months. Your builder took forever to, well, actually build something on your land so there’s practically nothing on it. In this case, there’s a silver lining: You might get a CGT discount! 

Does capital gains tax affect subdivisions? 

If you own a block of land, subdivide them into separate properties, and retain ownership of each block, CGT won’t apply – unless you sell a subdivided block and make a capital gain (or loss). 

How else can I avoid or reduce the capital gains tax? 

A surefire way homeowners avoid paying capital gains tax on their property is not to sell it.  

But if you’re thinking hard about selling, here are some strategies (within the bounds of the law) that seasoned Aussie property investors and owners use: 

Time the sale with a year of lower income. If they can foresee a lower income for the next financial year, they defer the sale to that period to take advantage of lower marginal tax rates. 

Offset capital gains with capital losses from the current and previous years. As mentioned above, losses can be carried over to balance out capital gains in future years. This way, capital losses can be deducted against any capital gains to reduce the taxable income, potentially avoiding capital gains tax altogether or reducing the amount to be paid.  

Helpful tip:

Take advantage of the main residence exemptions. Savvy homeowners hold on to their property for over 12 months to make the most of the 50% CGT discount. Either that or they rent out the property over the next six years to take advantage of the six-year rule. They’ll then move back in within this period to reset the rule and have it again as their main residence for the next six years!

Debbie Shankar

Former Group Content Manager, Lendi

Okay so I know a bit more about CGT. Now what? 

Now that you’re more familiar with how CGT works, hopefully you can plan your next financial moves around your property (or properties). To minimise the cost of homeownership, it’s essential to not only factor in potential CGT implications but also explore financing options.  

Comparing Home Loans can be a strategic way to manage your property effectively. iSelect and Lendi have joined forces to help you compare Home Loans from over 25 lenders online. 

The information given here applies to individuals – there are different rules for individuals, trusts, companies and superannuation bodies.