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Depreciation recovered on sale of property

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  • Depreciation recovered on sale of property

    Hi all,
    My father is looking at selling an investment property that he has had for about 20 years. To enable him to minimise depreciation recovered when he sells the property i have suggested that he includes in the Agreement For Sale and Purchase Contract a clause which stipulates the value of the land and the value of the fixtures & fittings etc. The value of the f&f would be listed at current book value with the value of the land being the balancing figure of the sale price - thus not trigerring any depreciation recovered. My questions are:
    1. If there is a willing purchaser who agrees with this clause in the contract and buys the property - is it 100% O.K with the Tax Department or would it be viewed as tax avoidance?
    2. How would he include this clause in the contract?


  • #2
    1. First, what indepenent people decide in theory should not be overturned by the IRD. However, how realistic is the split you are providing. Selling a completely working stove for $5 and a good house for $5,000 may be a bit unrealistic - the stove you may only get $50 trade in but the house is probably worth a lot more that what it was bought for taking after taking out depreciation each year. Since held for 20 years, the house was owned through the high inflation 80's.

    Secondly, only a non investor would accept the split provided.

    2. Prepare a schedule and attach to sale and purchase agreement and refer to it as appendix 1 or the like. Prepare the schdule yourself and he lawyer (which I assume you will use anyway) will be able to add the relevant sentence for next to nothing (nothing is free with a lawyer).


    • #3
      Hi Denny,
      CJ's advice entirely correct. ANy non investor would probably have no issues with the split but you have to watch you're not crossing an obvious line of tax evasion. As a oncer you would "get away with it" but get your accountant to verify it as doable if you want to be able to sleep well at night.


      • #4

        Great post.

        There are a number of ways that you can look to minimise any claw back. The method suggested is one way. Although we are not aware of IRD having formally accepted or rejected this method.

        The first step would be to talk to your father’s accountant before signing any sale and purchase agreement. Has he actually been claiming any depreciation and if so on what basis? What value is left in the dwelling as far as the financial accounts are concerned? Depending on what has happened historically your suggestion could hamper the situation rather than improve it!

        Other methods of helping to reduce claw back (that may or may not assist in this instance and are in no particular order) are:
        1. If a full apportionment of the purchase price was completed on the dwelling at the time of purchase then a full apportionment on the sale price may be of benefit. However you must be aware that some values will go up in value (predominantly fit out items) while others will go down in value (chattels) - assuming that the value of the property has increased.

        2. Obtain a Registered Valuation showing as much of the increase in the value of the property as possible as a reflection of the increased demand for land in the area.

        3. Prior to the dwelling going on the market and the S&P agreement being signed get an independent market valuation of all of the fit out and chattel items from a specialist firm. This report will place market values on the items as opposed to apportioning the sale or purchase price as in point 1.

        Having to pay claw back is a good thing. It means that your father has had the use of the money over all this time (and not the Government), it means the property has gone up in value, you will have the money to pay any (reduced) claw back as you are selling it for a profit/ capital gain.



        • #5
          Hi Guys,
          Thanks for your advise, I will talk to his accountant directly and get the exact Book Value of the Assets as at 31 March 2005 and get his professional opinion on the matter. It looks as though the Land Value will be approx. $500,000 (830sq.m in Hillsborough Akld) and the Assets $140,000. I will let you know his suggestions.


          • #6
            If he has owned the property for 20 years he will have paid a small sum for it.

            So long as one of the eight ways you can fall into the capital gains net are not triggered, then you cannot have depreciation recovered of more than the cost the house (and chattels) went into the books at.

            I pick you will recover all the depreciation, see that it is a small sum, pay the tax and move on!


            • #7
              Hi Denny

              Hey the capital appreciation is going to be great after 20 years on the land alone. Do it properly and have a valuation done and have him pay the depreciation clawback. He's used the rules to claim depreciation to have the cash at the time, knowing there would be clawback when he sold and it is going to be minimal considreing the return he's going to get on the land alone.

              A valuation can minimise the clawback and I believe there are 3 methods:
              Replacement value - for Insurance purposes.
              Market value - what you would pay if you were to buy say a stove same age and condition in a second hand shop or elsewhere.
              Sale value - which is what you would get if you took same stove to second hand dealer to sell.

              The last of course is the value you want to minimise clawback, whereas Market value is what an investor would want if buying to maximise depreciation.

              I'd be really worried about writing that clause in without a proper valuation to back it up.
              He'll only be repaying what he has borrowed off IRD anyway.




              • #8
                I have been to talk to the accountant and he has agreed with the general concensus, in that, the property has appreciated significantly over the last 20 years and as an investor have had the use of the depreciation money as an interest free loan if you like. Pay back the depreciation clawback in full and move on.



                • #9
                  Not so fast, Denny.

                  Only pay back the recovered depreciation on those items that have not depreciated to the rate claimed and then only pay back to the rate that they have actually depreciated to.

                  Get a valuation done with breakdown for building land and chattels, and also get a chattel valuation done at sale time. This will support your assertions as to exactly which items will have depreciation recovered, and to what extent.

                  Gimme $20k. You will receive some well packaged generic advice that will put you on the road to riches beyond your wildest dreams ...yeah right!


                  • #10

                    Can I suggest to you to feel free to give me a call to talk about any issues. While the forum is great in getting answers etc. someties a good old fashioned phone call can achieve more.



                    • #11
                      Hi guys,

                      I'm currently in the process of negotiating an S&P and the vendor (obviously an investor) has put in the following clause:

                      The parties acknowledge and agree that the purchase price herein before referred to is apportioned as follows:
                      i) for the land + buildings $757,278
                      ii) for the chattels $32,744
                      Total purchase price $790,000.

                      Note that we haven't yet agreed on the purchase price (I started at 700k), however given the previous posts I'm wondering what the implications of this clause are to me. This is an 11 b/r fully furnished property.

                      Does it mean that:
                      - The sale of the property itself will be recorded at $757,238, thus possibly lowering a future valuation?
                      - The maximum value I can use for my chattels is $32,722? I.e. I can't get a valuer in to do a chattel valuation and start depreciating from that?

                      Appreciate your views on this.




                      • #12
                        Dumb question here and you may have covered it already.

                        If he has had the property for 20 years wouldn't he have already replaced many of the chattels? If so, and there are reciepts to prove it, can they be used to minimise the clawback?


                        • #13
                          Jatesy, the vendor is setting you up for his advantage.
                          Get some professional depreciation advice.
                          But don't be too upset, you'll try the same trick when you sell.


                          • #14
                            Say to the vendor you refuse to sign that agreement, without independent advice from a valuer as to the specific value of individual items - unless perhaps you are buying a $1m property for $757k - in which case the depreciation issue is minor compared to the big issue of the savings at purchase.
                            Gimme $20k. You will receive some well packaged generic advice that will put you on the road to riches beyond your wildest dreams ...yeah right!