Not to be overly skeptical, but we are just curious about the ability of this latest AI software – ChatGPT – in dealing with the Australian tax system, so we conducted a simple test.

Firstly, it is worth noting that what impressed us most in the test was ChatGPT’s tone and approach, rather than its ability to handle the complexity of the tax question. The results of our test, including the example below, indicate that you may get some fairly accurate summary comments, but you cannot rely on a definitive answer. As most technical comments are formed into databases based on personal recommendations, rather than comments that can be explored on the internet, it is difficult for us to obtain reliable answers in a short time.

Here are the results of our test questions and comments (ChatGPT’s responses are presented in italics).

Question: How much capital gains tax do Australian residents pay on investment properties, with an example?

ChatGPT: Australian residents pay capital gains tax (CGT) on the profits earned from the sale of investment properties. The calculation of CGT is the sale price minus the cost of the property (purchase price plus any expenses related to acquiring and owning the property). For example, if an Australian resident purchased an investment property for $500,000 and spent $50,000 on expenses related to purchasing and owning the property (such as legal fees, stamp duty, and repair costs), the total cost of the property would be $550,000.

Accountant: Let’s take a moment to review. When calculating the asset cost base, there are some techniques and pitfalls to consider. Although in some cases, repair costs can be part of the property cost base, it is not always the case. If the asset sold is an investment property rented to tenants, the situation is usually different. When the landlord repairs damage that occurred during the rental period, this can usually be deducted in the financial year when the landlord incurs the repair costs. Since these repair costs are deductible, they should not be included in the property’s cost base.

Similarly, other adjustments need to be considered. In the context of investment properties, it is usually necessary to adjust the cost base to account for capital works deductions. When an investment property is used to earn rental income, the landlord can usually claim capital works deductions. So when calculating the cost base, we should subtract the capital works deductions that the landlord has already claimed or can claim (although there are some exceptions, such as the property acquired before May 13, 1997, and the improvement costs incurred before June 30, 1999).

The longer an investment property is held, the more significant the impact of capital works deductions and repair costs will become, and the more substantial the impact on capital gains calculations.

ChatGPT: Several years later, the resident decided to sell the property for AUD 700,000. The profit from the sale is AUD 700,000 – AUD 550,000 = AUD 150,000. The current CGT tax rate in Australia is 45%, and the resident will pay 45% of the profit of AUD 150,000, which is AUD 67,500.

Accountant: Hang on, let’s take a closer look about this. In Australia, there is no specific CGT tax rate of 45% that applies to capital gains. Net capital gains are part of an individual’s taxable income subject to income tax. We just need to add the net capital gains to calculate the individual’s corresponding taxable income for the year. If the taxable income figure is positive, then we apply the individual’s marginal tax rate. As a result, higher taxable income generally leads to higher marginal tax rates and higher tax amounts. Meaning, the tax rate applicable to an individual’s net capital gains will be affected by the individual’s other income or losses (if any).

In addition, although the highest marginal tax rate for individuals is currently 45%, Australian residents with taxable income over AUD 180,000 per year usually also have to pay a 2% Medicare levy. This should also be considered and included in the calculation.

ChatGPT: It should be noted that there are some exemptions and reliefs for CGT calculation, such as the main residence exemption and small business CGT concessions.

Accountant: If only taxation were that simple! For capital gains, some exemptions and reliefs can be applied. Although the answer mentioned the main residence exemption and small business CGT concessions, these concessions usually do not apply to the sale of investment properties.

To qualify for the main residence exemption (or partial main residence exemption), a key requirement is that the property needs to be constructed and used as the individual’s main residence. If the property is only used as an investment property to generate taxable rental income, the exemption usually does not apply, but if the property is inherited, the situation may be different.

In addition, small business CGT concessions usually do not apply to the sale of investment properties. This is because the concessions only apply to assets that pass the active asset test, which requires the property to be used in a qualifying business activity for a minimum period of time.

For properties used by the property owner or certain related parties in a business activity, they can be considered as active assets eligible for the concessions, but this is not the case for properties primarily used to generate rental income from unrelated parties.

If the property is only used to generate rental income from unrelated parties (i.e., used in a leasing business), the property is likely to fail the active asset test, and the small business CGT concessions should not apply.

Interestingly, the answer did not mention the general CGT discount or indexation, which is actually the most likely relief to apply in this situation.

If the vendor was an Australian resident for tax purpose (not a temporary resident) during the period of owning the property and has owned the property for more than 12 months, the 50% CGT general discount is usually available to reduce the capital gain.

If the property was acquired before 21 September 1999, cost base indexation may be available. Both methods need to be compared to determine which would provide the most favorable tax result.

ChatGPT: It’s always best to consult a tax professional for specific advice on your individual circumstances.

Accountant: Yes, that’s right. Thank you, ChatGPT.

Should you please have any question in regards to above, please feel free to contact our friendly team in Pitt Martin Tax at 0292213345 our info@pittmartingroup.com.au.

The material and contents provided in this publication are informative in nature only.  It is not intended to be advice and you should not act specifically on the basis of this information alone.  If expert assistance is required, professional advice should be obtained.