With interest rates falling and further cuts expected during the year ahead, property investors are again actively looking at an improving market. For many, caution is still the watchword; for others, now is the time to strike. As Andre Dippenaar, head of the development division of Pam Golding Properties in Gauteng, comments: "The best time to invest in residential property development is when conditions are cyclically at their worst."

Dippenaar adds that the most effective and rewarding way of doing this is to buy off plan.

"The returns are disproportionately large in relation to the initial outlay. The investor is risk-disposed only to the extent of a relatively small deposit and is not called upon to fork out any further capital until the project is registered ? 18 to 24 months down the track." By then the market may well have risen considerably.

Ronald Ennik, managing director of PGP?s Gauteng division, concurs, but adds the caveat that investors need to do serious research.

An important, and often overlooked, aspect of investing in property is the reason or reasons for doing so. Sound trite? Not so, cautions IP?s taxation advisor Grant Bayne.

"Your intention may be to acquire a property to let it. From a tax perspective the purchase of a capital asset (the unit) to generate rental income is the most effective way of shielding capital growth. Rentals would be taxed as a revenue profit. This is effectively on a sliding scale between 18 and 40 percent depending on your annual taxable income. When the unit is sold any gain would be subject to capital gains tax at a maximum of 10 percent. This 10 percent is calculated as follows: 25 percent x 40 percent (max marginal tax rate) = 10 percent.

"Contrast this with a different intention. Say you bought the residential unit off-plan so that you can sell at a nice profit after the development has been completed. Now you have entered into a transaction which is deemed 'a scheme of profit making'. The courts have decreed that 'a scheme of profit making' points to a revenue motive and any gain on the sale is taxed at the individual?s tax rate (maximum 40%)."

So what happens if you buy a unit with the intention of making a profit, but while waiting for the right time to sell you let the unit out for a few months?

"The intention is still there," says Bayne. "The rentals would be taxed as a revenue profit (40 percent max) and so will the gain when the unit is sold.

You may well ask, so how does anyone know my intention? The answer, says Bayne, is that SARS will ask you. They will then look at supporting evidence to see if this upholds your story:

• Did you actively market the letting of your unit?

• Did you sign any lease agreements with tenants?

• For what period did you lease your property before selling?

• What correspondence did you have with the developer you bought from, or the agent who sold the unit?

Bayne warns: "Remember that the onus is on the taxpayer to prove what he or she says is true. It is a bit like being presumed guilty until you have proved your innocence. That leads me to the next point ? keep a record of correspondence and other documents to show what your intention was at the time of buying the property. Make sure there is an audit trail and store it away. This evidence will save you money and heartache down the line."

Suppose you change your mind and therefore your intention? "You?ll need those supporting documents," says Bayne.

Are there any taxable benefits involved in owning the unit?

"Yes, there are deductions," says Bayne. "Any improvements will form part of the base cost but will not be deductible from income when calculating tax. Repairs are different and costs can be deducted from income."

So what?s the difference between an improvement and a repair?

"If, for example, you buy a unit which requires a new carpet and painting, these are improvements, as they're improving the state (value) of your investment. However, let?s say you do that, let the unit, and a year later the tenant moves out leaving the carpets in a shoddy state and the property needs repainting. By replacing the carpets and repainting the unit you are effectively returning the property to its original state. In other words, a repair; you would be allowed a deduction."

Interest costs?

"They can be deducted from income, but this excludes the capital portion."

Losses?

"Where deductions exceed income the taxpayer is in a loss position. But note, if the premises are let to a relative, losses will be ring-fenced and may not be set off against other income. Furthermore, if losses are incurred for three years out of a preceding five-year period, the losses will also be ring-fenced. These can be carried forward until the years when a profit is made."

For more information contact grant.bayne@mweb.co.za.

Published courtesy of Pam Golding Properties Intellectual Property Magazine.