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Key Takeaways
- Renting out a room usually means you’ll need to declare the rent as rental income on your tax return.
- You can often claim a portion of eligible household expenses using the apportionment method.
- Renting below market value to family or friends may reduce the deductions you can claim.
- Renting part of your home can affect your future capital gains tax when you sell.
Live-in landlords are common, as more people choose to lease out rooms in a house they own and live in. It can help pay the mortgage, cover the rising costs of living and fill up space that’s otherwise unused. If you rent out a room in your home, the ATO usually treats the rent you receive as ‘assessable income’.
That’s why it’s important to learn the basics about your rental income tax obligations, come tax time…
How Rental Income Tax Works
When you rent or lease out rooms, you’ll receive payment in the form of rent from your tenant. You must claim the rent you receive as income on your tax return. Specifically, include it in the ‘Rent’ section on your Etax return.
Next, you can claim deductions against this income to boost your refund. Here’s how:
Keep Good Records for Rental Income Tax
You’ll want to stay in the ATO’s good books and receive a decent tax refund. The best habit for making those possible is keeping good receipts and records. It doesn’t have to be hard or complicated! Just keep receipts and a short note about any expenses or costs relating to renting your space, plus record any rental income you receive.
Your records folder will be particularly useful at tax time when you can prove some refund-boosting landlord’s tax deductions.
Remember, no receipts mean no tax deductions, so keep them all. If you’re in doubt about whether a receipt might be claimable, keep it anyway. Your tax agent can advise at tax time whether you can use it to boost your refund.
How to Calculate Rental Income Tax Deductions: The Apportionment Method
There are lots of tax deductions you can claim as a live-in landlord by using the ‘apportionment method’.
The apportionment method separates tax-deductible expenses between income-producing and personal use. Usually, you calculate this based on the floor area your tenant occupies, plus a reasonable share of common areas such as the kitchen, lounge room, garage or outdoor spaces. For example, if one tenant shares common areas equally with you, it may be reasonable to allocate 50% of those shared spaces.
Say the tenant also pays part of your running costs, like electricity, internet, or heating, either as a fixed amount or a percentage of the bill. You’ll need to treat this the same as rental income. Ensure you claim both the income and the deduction for these expenses.
Rental Income Tax Example:
Claire owns a two-bedroom unit. She rents out one bedroom for $150 per week, year-round. The floor area of the rented bedroom is ten square metres, which is 20% of the total floor area of Claire’s unit.
Claire’s expenses include building insurance, rates and taxes, totalling $10,000 for the year.
What should Claire enter on her tax return?
- Income: Claire should enter $7,800 rental income under item 21 in the income section of her tax return. ($150 rent x 52 weeks)
- Deductions: Claire should enter $2,000 (20% of her $10,000 expenses) as tax-deductible expenses. She should send copies of the receipts to her tax agent who can make sure everything is claimed correctly and avoid ATO problems.
What kind of tax deductions can live-in landlords claim?
When it comes to claiming deductions, remember to keep all of your receipts. Set aside the time to work out what percentage of your expenses are claimable throughout the year, so it’ll be easy to lodge at tax time.
Some common deductions include:
- Internet and phone costs
- Water, power and council rates
- Upkeep and repairs
- Depreciation on the cost of furnishings and equipment
- Interest on your mortgage
- Body corporate fees (when applicable)
- Property insurance
What if I’m renting out a room to family or friends?
Renting to friends or family at a discounted or less than market rate might seem like the right thing to do sometimes. However, from the ATO’s perspective, that may limit the deductions you can claim.
When you claim property-related tax deductions, the ATO assumes you should be making the most of your property’s investment potential. If you intentionally receive less than market rent, the ATO requires you to adjust your expenses downward by the same proportion that the rent sits below market rates.
For example, if you rent a room to a cousin at half of the market rent, you must divide your deduction claims in half as well.
If you rent a room to your mate for 25% less than the market rent, then you need to adjust all your rental-related deductions down by 25% as well.
How do I find the market rate for renting a room?
First, look on realestate.com.au. Check out comparable properties in your area and be fair and honest with yourself about it. Remember, the ATO can look it up just as easily and compare it to your house. Another approach is to ask your real estate agent to estimate your property’s market rent in a short letter. Provide that to your tax agent and you should be set for whatever the ATO throws at you about market rents.
Working out your live-in landlord tax deductions when renting to family or friends can be tricky. Make sure you ask your tax agent (like Etax) for help if you’re not sure. It’s always better to get this section right in the first place, rather than face ATO troubles down the track.
Will Renting Out a Room Affect Capital Gains Tax?
When you sell your main residence, you are not usually liable for capital gains tax (CGT). However, as soon as you start renting space, it can get a bit more complicated.
Unfortunately, if you decide to earn some income by renting out a room or two, you’re no longer entitled to the full ‘main residence exemption’. This means when you sell the house, you’ll need to pay some CGT at a rate based on how much of your house was rented and for how long.
To calculate your CGT, you must consider:
- The total floor area that is set aside to produce income (e.g. 10%)
- The duration in which you’ve used this floor area (days per year)
You can then divide the number of days it was rented by the total number of days you owned it.
For example:
Claire’s rental space is 20% of her home. She owned the property for five years (1,825 days) and rented out the room for four of those years (1,460 days).
- 1,460 / 1,825 = 80% of her ownership period
- 20% (floor area) x 80% (time rented) = 16%
Please note: this only applies to properties that have been rented after 20 August 1996.
Before you rent out a room, weigh all the costs and benefits
Becoming a live-in landlord can offset some of your household costs with rental income while creating tax deductions for some of your expenses. But as we outlined above, there are downsides such as the future cost of CGT. Go into it with a clear understanding of both the benefits and the long-term tax implications. Be particularly careful about renting a room to a friend as this has all the tax costs, but fewer tax benefits for you.
If you’re still unsure about any aspect of your live-in landlord tax obligations, be sure to get in touch with us at [email protected] or Live Chat with one of our accountants, as we can help answer any tricky questions.
Frequently Asked Questions
Yes. In most cases, rent you receive from a tenant is assessable income and you must include it in your tax return.
You may be able to claim a portion of expenses such as mortgage interest, council rates, insurance, utilities, repairs, depreciation and body corporate fees. Generally, you can only claim the income-producing portion.
Most live-in landlords use the apportionment method. This usually involves calculating the percentage of the home used to earn rental income, based on floor area and shared living spaces.
It can. Renting out part of your main residence may reduce your main residence exemption, meaning you could owe capital gains tax on the income-producing portion when you sell.
If you charge less than market rent, the ATO may require you to reduce your deduction claims by the same proportion.
Yes. You should keep receipts and records for all rental-related expenses, along with evidence of the rent you received and how you calculated any apportioned deductions.
Rental income isn’t taxed at a separate rate. It’s added to your other income and taxed at your normal marginal tax rate, after you’ve claimed any eligible deductions.
