B.Invested clients often make great decisions that help them get ahead.

A recent example involved a client who had an owner-occupier apartment with enough equity in it that he was able to buy a house using the equity for a deposit and turn the apartment into a positively geared investment property.

Four years later, the apartment was worth an extra $300,000 and his debt was lower due to it being rented out with significant positive gearing. He realised he could sell it to pay for a knockdown rebuild of his house. His only concern was that selling investment properties meant paying capital gains tax (CGT) to the government, eroding away a great chunk of the wealth he had accumulated.

That’s when he first heard about the 6-year CGT exemption rule. This rule is perfect for homeowners just like him, who have turned a primary residence into an investment property.

It allows them to maintain a tax-free status on their property for up to 6 years, even after moving out and leasing it for rent.

How does it work?

CGT is a tax on the profit made from the sale of an asset, such as property. In Australia, you pay CGT when you sell an investment property. The gain is calculated as the difference between the sale price and the original purchase price. However, your primary residence is exempt from CGT.

This exemption remains in place as long as the property continues to be your primary residence. However, if you decide to move out and rent it out, the CGT exemption doesn’t automatically disappear.

The 6-year rule allows you to rent out your former home and still treat it as your main residence for CGT purposes for up to six years. During this period, if you decide to sell the property, you won’t be liable for CGT.

So, the B Invested client, who bought his house 4 years ago, has up to 2 more years to sell the apartment and be exempt. He can choose the best time to begin the knockdown rebuild process so that he accesses further growth and maximises his final sell price.

Added benefits of the 6-year rule

1. You can reset: The 6-year period starts from the first time you rent out your property after moving out. If you move back into the property, the clock resets, and a new 6-year period can start when you move out again.
2. Multiple moves: If you move back into the property at any time and later decide to rent it out again, a new 6-year exemption period can begin. However, it’s important to note that the property must have been your main residence both before and after each period of rental for the exemption to apply.
3. Partial exemption: If you exceed the 6-year limit, only the portion of the capital gain attributable to the period beyond six years is subject to CGT. So if you sell it after 8 years, you only pay CGT on 2 years’ worth of capital gains.
4. You only get 1 shot: The 6-year rule can only be applied to one property at a time. If you purchase a new home and move into it while renting out your former home, you’ll need to choose which property will be exempt under the CGT rules. The other property may become subject to CGT upon sale.

Better to hold when possible

The B. Invested client in this story had a unique situation in which he needed to sell to achieve the next stage of his strategy.

Many successful investors try to hold property indefinitely. If you never sell, you’ll never pay CGT.

Rather, you can create a passive income that can support you, and eventually create intergenerational wealth, by using equity to invest further and a positive rental return to pay down debt until you have a large portfolio of debt-free assets that pay you a wage in rental income.