Claiming leaky building costs?

Question from Nagoor updated on 29th January 2014:

Hello, I have a leaky townhouse which has been fixed after a prolonged legal battle. The whole complex received a substantial compensation from the builder/council etc. After the re-clad was finished there were some cost overruns with most owners required to pay a contribution. I am required to pay about $55,000. My question is can I claim this as a maintenance cost or I need to capitalise it? In my view it is a maintenance cost as it is replacing the faulty cladding. Appreciate if you can clarify what tax position I should take. Regards, Nagoor

Our expert Mark Withers responded:

Nagoor, the Income Tax Act allows a general deduction for repairs and maintenance where the cost is incurred in deriving gross revenue. However the entitlement is limited by a capital limitation that denies the deduction when the expenditure is of a capital nature. To determine if the expenditure is capital or not the tax department expects you to examine the expenditure to determine firstly what the asset is i.e. is it a new asset created or is an existing asset simply being maintained?  Secondly, you must assess the nature and extent of the work undertaken and the effect of the work on the character of the asset. Thirdly, assess whether the work has gone beyond remedying fair wear and tear i.e. has the asset been enhanced or improved by the work? The fundamental problem with leaky buildings is that generally the remedial work is under new and stricter building codes requiring the buildings to be re-clad to an improved standard, which inevitably opens up the argument that the asset has been improved by the work. However, if the same basic asset exists on completion of the work and the work was done simply to remedy the defect there can still be strong arguments for a deduction. IRD's approach is simple to consider every case on its merits. Our firm has assisted many clients to test deductions for repairs and maintenance of leaky buildings by taking a capital account approach when filing the returns but subsequent to assessment, asking for the deduction to be allowed by lodging a notice of proposed adjustment which forces IRD to consider the case without the client risking penalties for having taken an incorrect tax position when the return was originally lodged. In my experience where the facts of the case are strong, we have been able to negotiate a successful argument for a deduction more often than not. Consult your tax practitioner to look in detail into the facts of your case.

Mark Withers and his team at Withers Tsang & Co specialise in advising on property related transactions, valuation and restructure services and tax planning.

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