The hidden traps of having a granny flat

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While they may be beneficial for many families across Australia, it is important to consider the financial pitfalls of granny flats, before adding such a building to your property.

The popularity of granny flats continues to rise as more and more property owners warm to the idea of converting their backyards to create more living space, additional income and generous tax deductions.

But financial and construction specialists have warned that granny flats can create possible dilemmas, such as attracting capital gains tax on the sale of the family home (which is usually tax-free).

Well-constructed and attractive granny flats have the potential to add value to the overall property, as the extra space provided can create rental-income options.

However, granny flats cannot be included in a separate ownership title. Therefore, their cost is added to the price of the property, and they cannot be sold separately.

In NSW, property owners can rent out their granny flats. Granny flats may also be rented out in WA, the Northern Territory, Tasmania and the ACT. However, they cannot be offered as rental apartments in Queensland, Victoria and South Australia. Requirements for planning permits and approvals also vary between states.

If you’re a retiree, the rental income you receive from renting out your granny flat can have an impact on your benefits i.e. if a relative rents the flat for a nominal amount, it would not be regarded as a commercial transaction. Therefore, the income and expenses would not be taxable or tax-deductible. This can become more complicated if a third party rents the flat, or taxable commercial rents are charged.

Any expenses incurred in running the flat, such as the proportion of utility bills and land rates is tax deductible. Depending on the precise circumstances, this might generate a taxable profit or it might generate a loss for the taxpayer to claim against other income.

There is also a possible risk of incurring capital gains tax on the main residence, which is normally exempt.

The gains would be based on how much space the granny flat takes up. Owners would also need to consider how long the flat has existed. For example, if you have owned the property for 10 years, but the flat was built 5 years ago, you don’t need to worry about CGT on the first five years.

If someone, such as the property owner’s parents really do live in the flat and the owner can demonstrate that the space is an integrated part of the household lifestyle, they may be able to argue that the main residence exemption should cover the granny flat too.

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