Specific Deductions, Borrowing Costs, Repairs and Deduction Denials
Specific deduction provisions often rescue expenditure that is capital or otherwise outside s 8-1. A disciplined answer checks the general provision first, then asks whether a more specific rule applies.
What you should be able to do
- Apply the interest-use principle and distinguish interest from borrowing expenses.
- Calculate deductions for borrowing expenses under s 25-25.
- Apply mortgage discharge and repair provisions.
- Distinguish repair from replacement, improvement and initial repair.
- Use other specific deduction and denial provisions supplied in the course materials.
- Integrate deductions, capital allowances and CGT in Marty's business-property problem.
Specific deductions are targeted exceptions. Always identify what the money bought: the use of borrowed money, the loan itself, a repair, an improvement, tax advice, a discharged mortgage, or something else. Characterisation determines the provision.
Key language
Issue → Rule → Authority → Application
10.1 Specific deductions: why the analysis continues after s 8-1
Tax students often learn s 8-1 first and then try to force every outgoing through it. That is a mistake. The ITAA97 contains many specific deduction provisions designed for expenditure that may fail s 8-1 because it is capital or because Parliament wants a particular timing rule. Section 8-5 recognises specific deductions, while s 8-10 prevents double deductions.
A disciplined approach is: (1) identify the outgoing; (2) test s 8-1 where appropriate; (3) identify any specific deduction; (4) check specific denials; (5) coordinate with CGT and capital allowances.
10.2 Interest: trace the use of borrowed money
Interest is ordinarily revenue rather than capital. Under s 8-1, deductibility generally depends on the use to which the borrowed funds are put. Steele v DFCT confirms the importance of purpose/use and that interest can be deductible even before income begins where nexus remains sufficiently strong. FCT v Munro teaches that the security offered for the loan does not determine deductibility.
Therefore, a loan secured over a rental property can produce non-deductible interest if the borrowed funds are spent privately. Conversely, interest on money secured over a private home can be deductible if the borrowed funds are actually used in an income-producing business or investment, subject to the detailed facts.
Where one borrowing is used for mixed purposes, interest must be apportioned. Tracing and later redraws can make this technically complex. Students should follow the actual use of each borrowed amount rather than the name of the loan account.
10.3 Interest and CGT cost base
Section 110-25(4) can include certain non-capital ownership costs in the CGT cost base. But amounts already deducted can be excluded from cost base by provisions such as s 110-45(1B). The policy is straightforward: the taxpayer should not obtain both an income-tax deduction and a second tax benefit by adding the same outgoing to cost base where the statute prevents it.
In a property problem, ask both questions: “Is the interest deductible under s 8-1?” and “If not deducted, can it enter cost base?” The answers can differ by period and use.
10.4 Borrowing expenses — s 25-25
Costs of obtaining finance—loan establishment fees, legal costs of negotiating the loan, valuation fees required by the lender and broker commissions—are generally capital because they secure access to the borrowed funds. They are not the same as ongoing interest for use of the money. Section 25-25 therefore provides a specific deduction where borrowed money is used for income-producing purposes.
Broadly, qualifying borrowing expenses are deducted over the shorter of five years or the loan term. Where the borrowing starts part-way through an income year, the deduction is apportioned by the relevant period. If total borrowing expenses are $100 or less, s 25-25(6) permits immediate deduction. If the loan is repaid early, remaining undeducted qualifying borrowing expenses can generally be brought forward in accordance with the provision.
The cost-base interaction must also be checked. Section 110-35(9) can recognise certain borrowing costs as incidental costs, but s 110-45(1B) prevents double benefit for amounts already deducted.
10.5 Mortgage discharge expenses — s 25-30
Mortgage discharge fees are capital in nature and ordinarily fail s 8-1. Section 25-30 provides a specific deduction where the mortgage secured money borrowed, or property acquired, for producing assessable income. The Forum identifies both lender-finance and vendor-finance situations.
If the underlying borrowing or property had mixed income-producing/private use, the discharge-cost deduction must be apportioned. The fact that a fee is charged at the end of the investment does not prevent deduction where the specific provision applies.
10.6 Repairs — s 25-10
Section 25-10 allows deductions for repairs to premises or depreciating assets held or used for the purpose of producing assessable income, subject to its limits. A repair restores function or condition without changing the essential character of the thing repaired. Capital improvements, replacement of an entirety and initial repairs can fall outside the provision.
TR 97/23 is the principal ATO ruling in the course. It should be used alongside cases such as W Thomas & Co Pty Ltd v FCT, Lindsay v FCT and Western Suburbs Cinemas Ltd v FCT.
10.7 Repair versus improvement
A repair makes good defects, damage or deterioration. An improvement provides a greater, more efficient or fundamentally different asset than existed before. Replacing worn roof sheets with comparable material can be a repair; replacing an old shed with a much larger permanent steel structure is likely an improvement/capital work.
The use of modern materials does not automatically make work an improvement if the result merely restores functionality using contemporary equivalents. The practical question is whether the work restores the asset or improves it beyond its former condition.
10.8 Replacement of an entirety
Even work described as “repair” can be capital if it replaces the whole of a separately identifiable asset or entirety. Lindsay v FCT and Western Suburbs Cinemas help identify the unit of property. The correct unit is not always the taxpayer's entire premises; a component can be an entirety if it is functionally distinct and separately identifiable.
This is a fact-sensitive question. Students should state what they say the relevant entirety is and explain why.
10.9 Initial repairs
Expenditure remedying defects that existed when property was acquired can be capital because it forms part of the cost of acquiring the asset in a usable condition, even if the work looks like an ordinary repair. TR 97/23 discusses initial repairs. The key is when the deterioration arose and whether the purchase price/condition reflects pre-existing defects.
By contrast, deterioration arising through the taxpayer's own income-producing use after acquisition is much more likely to support a repair deduction if the work otherwise restores rather than improves.
10.10 Other specific deduction and denial provisions
The Forum surveys a range of provisions because real tax practice requires students to research beyond s 8-1. Examples include tax-related expenses under s 25-5, bad debts, subscriptions, gifts, superannuation and other specific deductions, as well as specific denials such as s 26-20 for HELP/FEE-HELP repayments, s 26-35 for excessive payments to related entities and other provisions indexed through s 13-1.
Section 26-35 is an integrity provision. Where a taxpayer pays an associated person more than a reasonable amount for services, only the reasonable amount may be deductible. The recipient can still be assessable on the amount actually received, producing an intentionally asymmetric result.
10.11 Proposed negative-gearing reforms and current law
The course discusses policy proposals concerning negative gearing. Students must distinguish a proposal, Bill or Budget announcement from enacted law. The current-law answer for the stated income year must be based on legislation in force. A proposed reform can be noted separately where the assessment asks for policy or future-law awareness.
10.12 Core provision map
| Provision / authority | What it does | Use |
|---|---|---|
| s 8-1; Steele; Munro | Interest deductibility follows use of funds and nexus. | Loans, mixed-purpose borrowings. |
| s 25-25 | Specific deduction for qualifying borrowing expenses. | Loan fees/legal/valuation/broker costs. |
| s 25-30 | Mortgage discharge expense deduction. | Ending income-producing mortgage. |
| s 25-10; TR 97/23 | Repairs to income-producing premises/assets. | Restore vs improve; initial repairs; entirety. |
| W Thomas | Repair concept and restoration. | Ordinary repairs. |
| Lindsay; Western Suburbs Cinemas | Replacement of entirety / capital improvement principles. | Major replacements. |
| s 26-35 | Limits deduction for excessive payments to associates. | Family/related-party services. |
| ss 110-25, 110-35, 110-45 | CGT cost-base interaction. | Avoid double benefit. |
10.13 Tutorial masterclass — Marty
Marty owns commercial premises used for an electric-bike business. He replaces an old deteriorated timber shed with a larger permanent steel building, installs a removable CCTV system, repairs 15% of a corroded roof, later sells the premises and sells the CCTV separately. This is an integrated problem testing s 25-10, Div 40, Div 43 and CGT.
New steel storage building
The old shed could have been repaired for about $5,000, but Marty demolishes it and constructs a substantially larger steel building for $40,000. This is not merely restoration of the old shed. It creates a new and improved structural asset. Section 25-10 should therefore be rejected. Division 43 is the natural next inquiry for qualifying capital works.
CCTV system
The cameras, monitor and recorder operate as an integrated security system, are removable without material damage and have a four-year effective life. That points strongly to a Div 40 depreciating asset rather than structural capital works. Calculate decline in value from when the system is first used, applying Marty's chosen diminishing-value method and 100% business use. On sale, calculate the balancing adjustment using termination value and adjustable value.
Roof work
The roof was sound when acquired. Corrosion develops during Marty's ownership and business use. Only about 15% of sheeting is replaced and the remainder is untouched. Those facts strongly support repair rather than replacement of the entirety or initial repair. Apply s 25-10 and TR 97/23, while checking whether the work materially improved the roof beyond restoration.
Sale of premises
The land/buildings disposal triggers CGT analysis. The original acquisition price, stamp duty and legal fees must be classified into the appropriate cost-base elements. Division 43 deductions can affect cost-base calculations under the CGT coordination rules. Apply event A1 timing, capital proceeds, cost base and the s 102-5 method, including any prior-year capital loss. The course directs students to ignore Div 152 small-business concessions.
10.14 HD integrated IRAC
I — Issue
For each item: immediate repair deduction, Div 40 decline in value, Div 43 capital works, balancing adjustment or CGT?
R — Rule
State s 25-10/TR 97/23 and the repair cases; then Div 40 or Div 43 as applicable; finally CGT provisions for disposals.
A — Application
Identify the relevant asset/entirety. Compare old and new function. Explain why CCTV is removable plant while the shed is structural. Show calculations separately.
C — Conclusion
Give the deduction for each item and the final net capital gain. Do not net all amounts together without showing their separate statutory routes.
10.15 Plain-English summary
Specific deductions exist because some useful expenses are capital or require special timing. Interest is about use of borrowed money; borrowing costs are spread under s 25-25; discharge fees have s 25-30; repairs have s 25-10. If an “expense” actually creates or improves a capital asset, move to Div 40, Div 43 and CGT rather than trying to force an immediate deduction.
Deep Teaching Commentary — Learn the Doctrine, Then Learn How to Use It
Specific deduction provisions matter because the general deduction rule is not the end of the analysis. Parliament sometimes allows deductions for amounts that would otherwise be capital, spreads the deduction over time, or denies amounts that would otherwise have a sufficient nexus. The student must therefore classify the expenditure precisely before selecting the provision.
Borrowing illustrates the distinction. Interest is the recurring cost of using borrowed money and is generally analysed under s 8-1 by tracing use of the funds. Borrowing expenses are costs of obtaining the loan itself and are capital in character, but s 25-25 provides a specific deduction spread over the statutory period. Mortgage discharge expenses are dealt with separately again under s 25-30.
Repairs require the same discipline. Section 25-10 can deduct revenue repairs, but not capital improvements or initial repairs. The cases distinguish restoration of a subsidiary part from replacement of an entirety, and restoration of function from improvement of the asset.
Provision-by-provision teaching guide
| Provision / regime | What it does | How to use it in a university answer |
|---|---|---|
| ITAA97 s 8-1 — interest | Interest generally takes its character from the use to which the borrowed funds are put. | Trace each borrowing/redraw/refinance to its use and apportion mixed use. |
| ITAA97 s 25-25 | Specific deduction for qualifying borrowing expenses, generally spread over the shorter of five years or the loan term; amounts of $100 or less may be immediately deductible under the identified subsection. | Calculate the first and last income-year apportionment where the loan commences part-way through a year. |
| ITAA97 s 110-35(9) and s 110-45(1B) | Borrowing costs may interact with CGT cost base, but deductions can prevent double recognition. | Use when an asset is later sold and the same finance cost might otherwise be both deducted and included in cost base. |
| ITAA97 s 25-30 | Specific deduction for mortgage discharge expenses within its scope. | Use on refinancing/sale where the lender charges discharge costs. |
| ITAA97 s 25-10 | Specific deduction for repairs to premises or depreciating assets used for income-producing purposes, excluding capital expenditure. | Identify the thing repaired, its condition, and whether work restores or improves it. |
| ITAA97 s 25-5, s 25-100, Div 36 and s 40-880 | Examples of further specific deduction provisions covered by the Forum. | Use as a checklist after s 8-1. |
| ITAA97 deduction-denial provisions including s 26-5 and s 26-35 | Parliament specifically denies penalties and can limit excessive payments to related entities to a reasonable amount. | Always check for a denial provision after finding a positive deduction rule. |
Cases, rulings and authorities — proposition + exam function
| Authority | Proposition taught by the source material | When to use it |
|---|---|---|
| Steele v DCT 99 ATC 4242 | Confirms the use/purpose approach to interest and that interest is not ordinarily capital merely because borrowed funds relate to a capital asset. | Use for interest during development/pre-income periods. |
| W Thomas & Co; Western Suburbs Cinemas and repair authorities | Distinguish repair from improvement/reconstruction and replacement of the entirety. | Use to identify whether s 25-10 applies or capital allowance treatment is required. |
| Initial repair authorities | Expenditure remedying defects existing at acquisition can be capital because it forms part of the cost of putting the asset into usable condition. | Use where the defect existed when the taxpayer acquired the property. |
Matching tutorial — fact-by-fact reasoning map
A new building is not a “repair”. Analyse Div 43 capital works and any cost-base consequences.
Identify whether it is a separate depreciating asset under Div 40, its cost/start time/effective life and any taxable-use apportionment.
Separate genuine restoration from improvement or replacement of an entirety. The description “repair” on an invoice is not conclusive.
Coordinate Div 43/repair deductions with CGT cost base and any statutory reductions for amounts already deducted.
Apply the Div 40 balancing adjustment rather than treating proceeds as a simple capital gain without checking the depreciation regime.
Calculate s 25-25 deductions over time and apply s 25-30 separately to discharge expenditure.
How to write this chapter in IRAC / tax-problem form
Issue. Identify the taxpayer, income year and transaction. Break the problem into separate receipts, outgoings, CGT events or administrative decisions. Do not write one broad issue such as “what tax is payable?”.
Rule / Law. Start with the exact Act and provision. If the section contains multiple limbs, subsections, paragraphs, exceptions or a method statement, set them out in the order in which they operate. Then add the case, ruling or ATO authority for the particular proposition it explains.
Application. Apply one fact to one legal element at a time. Compare the facts with the authority and deal with the strongest alternative characterisation. Where the law requires a calculation, show the legal order and the arithmetic together.
Conclusion. State the legal tax consequence and amount where possible. Then add any associated loss, penalty, objection/review, timing or administrative consequence relevant to the chapter.
Chapter mastery — 15 questions with model answers
Source-Coverage Audit — Every Statutory Reference in the Supplied Materials
This completeness layer preserves every detected Act, Part, Division, Subdivision, section, subsection, paragraph and method-statement reference from the supplied Forum/Tutorial materials. Use the teaching chapter above for explanation; use this audit to ensure no source reference is silently omitted.
Source-Coverage Audit — Every Case, Ruling and Authority in the Supplied Materials
Every detected case or ruling from the aligned materials is retained here. The blue link opens an AustLII search so the authority can be checked and later replaced with the most direct official/public judgment link where appropriate.
Detailed Forum / Lecture Source Notes — Completeness Layer
The following is the detailed teaching layer derived from the supplied Forum material. It is kept deliberately full at draft stage so that the final editing pass can improve prose without losing doctrine, examples, calculations or statutory detail.
Other Deduction Conferral Provisions
Under this topic, we briefly examine a range of provisions conferring a deduction in circumstances where a deduction may not be available under the general deduction provision. We discussed capital allowance deductions in the last Forum.
2) Interest And Other Borrowing Costs
Interest
Please refer to your Forum 8 notes which explains the test for the deductibility of interest under s 8-1 ITAA97 as confirmed by the High Court in Steele v DFCT 99 ATC 4242. Interest is also not normally a capital expense.
Can interest form part of the CGT cost base or reduced cost base: s 110-25(4) ITAA97? What happens to the CGT cost base if interest has already been deducted under s 8-1 ITAA97? When and how does s 110-45(1B) ITAA97 apply?
Borrowing expenses
Costs incurred in arranging or securing borrowed funds are generally regarded as capital expenses and therefore are not ordinarily deductible under s 8-1 ITAA97. An exception may arise where borrowing money forms part of the taxpayer’s regular business activities (eg a bank).
Section 25-25 ITAA97 provides a specific deduction for borrowing expenses (not interest), where borrowed funds are used for income-producing purposes (and apportionment is required if the funds are used partly for those purposes). The borrowing expenses are generally deductible over the shorter of the period of the loan term or 5 years, with the deduction period commencing on the date the loan is entered into.
Accordingly, if a loan has a term longer than 5 years, the borrowing expenses are spread evenly over the first 5 calendar years from the date of borrowing. Where the loan begins part-way through an income year, the deduction for both the first and last years must be apportioned to account for the fact that the expenses are only deductible for part of those income years.
However, a different rule applies where the total borrowing expenses incurred are $100 or less. In that case, the full amount is deductible in the income year in which it is incurred: s 25-25(6) ITAA97.
In addition, if the loan is repaid before the end of the deduction period, any remaining undeducted borrowing expenses can be claimed in full in the income year in which the loan is discharged.
Notice that borrowing expenses under s 25-25 ITAA97 may constitute an incidental cost of a CGT asset and be included under the cost base 2nd element: s 110-35(9) ITAA97. However, what if the borrowing cost has already been deducted: can it be included in the CGT cost base? Consider s 110-45(1B) ITAA97.
What is Liam’s s 25-25 ITAA97 deduction for the 2025-26 income year? And what are his deductions for each of the remaining years of the loan?
If Liam repaid the entire loan on 20 June 2027, what is his s 25-25 ITAA97 deduction for the 2026-27 income year?
Mortgage discharge fees
Section 25-30 ITAA97 allows a taxpayer to deduct costs incurred in discharging (removing) a mortgage where the mortgage relates to money borrowed or property acquired for the purpose of producing assessable income.
Section 25-30I applies to discharges of mortgages that secured a loan from a lender: s 25-30(1). It also applies to a mortgages that secured the purchase price owed to the seller (that is, a vendor finance situation): s 25-30(2). Such costs are capital outgoings and are not deductible under s 8-1 ITAA97, so a specific deduction is needed to provide the deduction.
If instead the property had been used 60% for rental purposes and 40% privately, only 60% of the discharge fee ($270) would be deductible.
Can mortgage discharge fees be included in the 2nd element of the CGT cost base? See s 110-35(9) ITAA97? What if they’ve already been deducted? See s 110-45(1B).
3) Repairs
The concept of a repair
Elements of section 25-10 of the 1997 Act.
Rationale for granting deductions for repairs.
Students are encouraged to read Taxation Ruling TR 97/23: Income tax: deductions for repairs.
The following are principles established by the case law and the Commissioner on the deductibility of repairs:
A repair involves the restoration of an income producing item to its previous condition, without improving its function.
The key issue is: has the item has been restored to its former level of efficiency?
The ATO summarises the meaning of ‘repairs’ in TR 97/23 as follows (at paras 13 to 16):
“The word 'repairs' has its ordinary meaning. It ordinarily means the remedying or making good of defects in, damage to, or deterioration of, property to be repaired (being defects, damage or deterioration in a mechanical and physical sense) and contemplates the continued existence of the property.
Work done to prevent or anticipate defects, damage or deterioration (in a mechanical or physical sense) in property is not in itself a 'repair' unless it is done in conjunction with remedying or making good defects in, damage to, or deterioration of, the property.
Repair for the most part is occasional and partial. It involves restoration of the efficiency of function of the property being repaired without changing its character and may include restoration to its former appearance, form, state or condition. A repair merely replaces a part of something or corrects something that is already there and has become worn out or dilapidated. Works can fairly be described as 'repairs' if they are done to make good damage or deterioration that has occurred by ordinary wear and tear, by accidental or deliberate damage or by the operation of natural causes (whether expected or unexpected) during the passage of time.
To repair property improves to some extent the condition it was in immediately before repair. A minor and incidental degree of improvement, addition or alteration may be done to property and still be a repair. If the work amounts to a substantial improvement, addition or alteration, it is not a repair and is not deductible under section 25-10.”
And at paras 21 and 22 of TR 97/23, the ATO says:
“What is a 'repair' for the purposes of section 25-10 is a question of fact and degree in each case having regard to the appearance, form, state and condition of the particular property at the time the expenditure is incurred and to the nature and extent of the work done to the property.
If work done to property goes beyond what is a 'repair' in terms of section 25-10, any expenditure for the work is not deductible. The work may go beyond 'repairs' in terms of the section if it:
changes the character of the property; or
does more than restore its efficiency of function.
(The cost of this work may be deductible under other provisions of the income tax law…).”
Can maintenance work be a repair? On this issue, the ATO says in TR 97/23:
“Work done partly to remedy or make good defects, damage or deterioration does not cease to be a repair if it is also done partly - even largely - to prevent or anticipate defects, damage or deterioration (in a mechanical or physical sense) in property or in rectifying defects in their very early stages. Repairs are not confined to rectifying defects, damage or deterioration that have already become serious. Work done to property not in need of repair, however, is not repair work and any expenditure for the work in these circumstances is not deductible under section 25-10.
Some kinds of maintenance work are 'repairs' in terms of section 25-10, for example, painting plant or business premises to rectify existing deterioration and to prevent further deterioration. Other kinds of maintenance work, such as oiling, brushing or cleaning something that is otherwise in good working condition and only requires attention to prevent the possibility of its going wrong in the future, are not 'repairs' in terms of the section . Expenditure on the latter kind of maintenance work may be an allowable deduction under section 8-1.”
The following Example is extracted from TR 97/23 (at para 164):
“Elle Bashful uses her truck for income producing purposes. She replaces the truck's worn out petrol engine with a diesel engine with a much greater economy of operation. The engine is not an entirety but a subsidiary part of truck. However, the costs relate to an improvement of the truck because the replacement of the engine involved a significantly greater efficiency in the truck's function. The engine is a major and important part of the truck and is a new and better engine with considerable advantages over the old one, including the advantage that it reduces the likelihood of future repair bills. The costs are of a capital nature and are not deductible under section 25-10: cf (1953) 3 CTBR (NS) Case 82. A deduction for depreciation…may be allowable.”
The following Example is extracted from TR 97/23 (at para 172):
“Mary Fabrica owns a factory in which the bitumen floor laid on a gravel base needs repairing. She replaces it with a new floor consisting of an underlay of concrete topped with granolith (a paving stone of crushed granite and cement). The new floor, from a functional efficiency (rather than an appearance) point of view, is not superior in quality to the old floor. The new floor performs precisely the same function as the old and is no more satisfactory. In fact, the new floor is more expensive to repair than the old. Because the new floor is not a substantial improvement, it is a repair and its cost is deductible under section 25-10: Case T75 (1968) 18 TBRD 377; (1968) 14 CTBR (NS) Case 40.”
In order for something to be repaired it must need restoration.
The following Example is extracted from TR 97/23 (at para 162):
“Sam Tabernarius, a shopkeeper, decides to replace the awning of his shop with a more modern and aesthetic equivalent. The awning is in good condition before the work is done; there is nothing to be restored, no decayed or worn out parts to be renewed and nothing loose or detached which requires fixing. The expenditure involved is not for repairs - the awning being in good repair before the work was done - and no deduction is allowable under section 25-10 of the ITAA 1997.”
A repair involvers the replacement or renewal of a subsidiary part of an entirety (or whole).
*Lindsay v FCT (1961) 106 CLR 377
The following Example is extracted from TR 97/23 (at paras 165 to 167):
“Mr Fermier and Mr Agricola are neighbouring farmers affected by a severe bushfire. Mr Fermier restores his existing fencing to good condition by mending it and replacing damaged sections, e.g., the fence on the northern boundary. Mr Agricola replaces the entire fencing surrounding his property.
Mr Fermier is entitled to claim a deduction for the cost of repairing his fencing under section 25-10. The entirety is the total fencing so replacing the fences on the northern boundary is a replacement of a subsidiary part of the whole fencing: cf (1963) 11 CTBR (NS) Case 44.
However, Mr Agricola's expenditure is not deductible under section 25-10 because the whole fencing was replaced, making it a reconstruction of the entirety. The total fencing is not a subsidiary part of the rural property or of anything else. To replace entire fencing with new fencing is to replace one capital asset with another capital asset. The cost is therefore of a capital nature: cf (1962) 10 CTBR (NS) Case 58. Mr Agricola's fences are depreciable 'plant'…”
Notional repairs are not deductible
*FCT v Western Suburbs Cinema Ltd (1952) 86 CLR 102
The following Example is extracted from TR 97/23 (at paras 171):
“Ken-the-Shopfitter runs a factory in a building in which the wooden floor needs repairing. The options are either to repair the old floor or to replace it with an entirely new one of steel and concrete. Ken decides to adopt the second option because it will save future repairs and because it has distinct advantages over the old wooden floor. By choosing the second option, Ken cannot claim a deduction as if he had simply repaired the wooden floor. His actual expenditure being capital, none of it is allowable as a repair.”
According to the Commissioner in TR 97/23, you can only deduct repair expenditure if the relevant property was held or used for bona fide income producing purposes.
An example of the circumstances where this might be an issue is in TR 97/23 (at para 72):
“[A] taxpayer's beachside apartment may have deteriorated over several years due to wear and tear arising from its use for private purposes. If the taxpayer arranges to 'rent' the apartment to his or her adult child for, say, a month and during that month incurs expenditure to repair and paint the apartment, a deduction may not be allowable, in our view, under section 25-10 for the repair and painting costs. We would take the view in appropriate circumstances that no deduction is allowable either because:
the apartment is not held, etc., for income purposes; or
Part IVA of the ITAA 1936 may apply to the arrangement [that is, the general anti-avoidance provisions - which we will discuss in a later Forum],”
Non-deductible repairs: capital expenditure
Capital expenditure is not deductible under section 25-10 (see section 25-10(3)).
Improvements
A repair restores an item to its previous condition whereas an improvement makes an item functionally better (in a significant way) than it was previously.
What happens when more modern materials are used for repairs?
*FCT v Western Suburbs Cinema Ltd (1952) 86 CLR 102
Consider the examples above involving Elle Bashful and Mary Fabrica.
The following Example is extracted from TR 97/23 (at para 171):
“Ken-the-Shopfitter runs a factory in a building in which the wooden floor needs repairing. The options are either to repair the old floor or to replace it with an entirely new one of steel and concrete. Ken decides to adopt the second option because it will save future repairs and because it has distinct advantages over the old wooden floor. By choosing the second option, Ken cannot claim a deduction as if he had simply repaired the wooden floor. His actual expenditure being capital, none of it is allowable as a repair.”
Initial Repairs
Initial repairs remedy defects in a property which exist at the time the property is acquired (ie the defects do not arise from the operations of the person who incurs the expenditure).
What is the rationale for denying a deduction for initial repairs?
The initial repairs doctrine applies despite the fact that a taxpayer may be unaware of the need to make repairs when the property was acquired.
*W Thomas & Co Pty Ltd v FCT (1965) 115 CLR 58.
The following Example is extracted from TR 97/23 (at paras 177 to 179):
“William Infelix purchases a house that was ostensibly in good repair. To make it more attractive to prospective tenants, minor repairs and renovations are undertaken. The minor repairs and renovations are initial repairs. Their cost is of a capital nature and not deductible. During the course of these repairs and renovations, William discovers that the woodwork is seriously affected by the ravages of white ants.
Substantial expenditure is incurred to remedy the problems caused by the white ant infestation to restore the property to a state in which it is suitable for occupation by tenants.
The expenditure incurred in these circumstances to fix the white ant problem existing at the date of purchase is also of a capital nature. It is therefore not deductible under section 25-10. The fact that William was unaware of the problem when he purchased the house, and the fact that he would have paid a lower purchase price if he had known of the need for repairs, do not alter the capital nature of the expense: Case 64 (1944) 11 TBRD (OS) 202 and the W Thomas & Co case.”
The apportionment requirement
See section 25-10(2).
The following Example is extracted from TR 97/23 (at para 186):
“Josephine Telefix, a television repairer, owns a station wagon that is used for 70% business and 30% private purposes during the taxation year. Repair costs of $10,000 are incurred on the front panels, engine and computer system in the station wagon following a car accident during the running of the business. The full amount of the repair costs of $10,000 is not deductible under section 25-10. Because Josephine uses the station wagon for private and for business purposes, subsection 25-10(2) limits the amount of her deduction to that part of the expenditure that reasonably relates to the use of the station wagon for business purposes, namely, $7,000.”
The following Example is extracted from TR 97/23 (at para 187):
“Assume the facts [above involving Josephine Telefix] are unchanged except that the accident occurs while Josephine is using the station wagon driving to Church, i.e., for private purposes. We reject the view that no part of the repair costs is deductible under section 25-10. Because Josephine uses the station wagon for private and for business purposes, subsection 25-10(2) limits the amount of her deduction to that part of the expenditure that reasonably relates to the use of the station wagon for business purposes, namely, $7,000.”
Relationship with the general deduction provision
What is the relationship between section 25-10 and section 8-1? The ATO provides a summary of this issue in TR 97/23 (at para 74):
“Generally speaking, section 8-1 produces the same result as section 25-10 in relation to the deductibility of repair costs. Section 8-1 has its own tests for deductibility. There may be occasions, however, where section 8-1 allows a deduction for repair expenditure that would otherwise not be deductible under section 25-10. Section 8-1 might allow a deduction, for example, after a taxpayer ceases to hold, etc., property for income purposes even though section 25-10 would not allow a deduction (see Placer Pacific Management Pty Ltd v FC of T 95 ATC 4459; (1995) 31 ATR 253).”
Relationship with the CGT cost base
Repairs of a revenue nature may be included in the 3rd element of the CGT cost base: s 110-25(4)(b); but not to the extent they have already been deducted: s 110-45(1B).
If a repair is capital in nature, then consider if the expenditure satisfies the test in the 4th element of the CGT cost base (in s 110-25(5)) so that it may be included under that element? Then, if it can, does Div 43 ITAA97 provide a capital work deduction for the cost in the meantime? If Div 43 applies, do the deductions claimed under that Division need to be removed from the CGT cost base when CGT event A1 happens when the property is disposed? When and how does s 110-45(2) apply?
4) Other Deduction Conferral Provisions: Further Examples
Tax related expenses (section 25-5)
Borrowing expenses (section 25-25) - see above
Expenses of discharging a mortgage (section 25-30) - see above
Bad debts (section 25-35)
Loss by theft etc. (section 25-45)
Travel between workplaces (section 25-100)
Gifts (section 30-15)
Tax losses (Division 36)
Project amounts (section 40-830) - see your Forum 8 Notes
Business Related Costs (section 40-880) - see your Forum 8 Notes
Deduction Denial Provisions
Penalties (section 26-5)
Leave payments (section 26-10)
HECS and student assistance (section 26-20)
Relative’s travel expenses (section 26-30)
Bribes to foreign public officials (section 26-52)
Bribes to public officials (section 26-53)
Expenditure relating to illegal activities (section 26-54)
Entertainment expenditure (see Division 32 of the 1997 Act)
Section 51AH of the 1936 Act - no deduction allowed where expenses incurred by an employee are reimbursed.
Consider the situations in which section 26-35 might apply (ie amounts paid to related entities). Some issues:
What is a related entity?
In what circumstances might a limitation be imposed on a deductible amount?
How much can you deduct?
What is the assessable income inclusion for the recipient?
Mia works 1 day each week over a 10-week period. Although Mia has no previous experience in the industry and performs relatively simple duties, Jordan pays her $750 per day.
Industry evidence suggests that a casual delivery driver performing comparable work would ordinarily be paid around $300 per day.
Over the 10 weeks, Jordan pays Mia a total of $7,500.
2026 Federal Budget: Negative gearing reforms - Deduction denial provisions
The government announced in the 2026 Federal Budget that the availability of negative gearing for residential property investments will, from 1 July 2027, be restricted to newly constructed dwellings, while existing arrangements will continue to apply to properties covered by the current rules.
Legislation giving effect to this proposal has been implemented, and the core provision is s 26-155 ITAA97. These reforms are mentioned for your awareness only; you will not be tested on the negative gearing changes in session 262.
Under the new legislation, net rental losses arising from residential properties acquired after 7:30 pm (AEST) on 12 May 2026 (the time of the 2026 Federal Budget announcement) will be subject to a quarantining regime from 1 July 2027. These quarantined losses will generally only be available to be applied to reduce:
net assessable income derived from other non-quarantined residential properties; or
revenue gains or capital gains arising from residential dwellings.
Any quarantined losses that cannot be used in the current income year may be carried forward to future years. Unlike ordinary tax losses, they do not need to be applied against net exempt income before being carried forward.
See: Treasury Laws Amendment (Tax Reform No. 1) Act 2026, Sch 2, and the Explanatory Memorandum to the related Bill.
Matching Tutorial — Full Problem Source and Teaching Integration
The tutorial is part of the chapter, not an afterthought. Read the facts by turning each receipt, outgoing, event or procedural step into a separate issue. Write the relevant provision beside each issue before applying the cases.
Tutorial 10 - Week 11
Martin (“Marty”) has qualifications in bicycle mechanics and electric mobility systems. Marty purchased commercial premises (land and building) in Southport on 1 July 2022 for $2,600,000 with the intention of operating an electric bike sales and repair business as a sole trader. Marty turned his attention straight away to setting up the premises for the business, and he commenced trading on 1 September 2022. Stamp duty on the purchase was $130,000 and legal fees were $10,000.
The premises are situated on a busy commercial strip close to the Gold Coast Light Rail and several major cycling routes.
The building was constructed by the previous owner with construction expenditure amounting to $800,000 (which does not include the old timber shed - see below). Construction of the building was originally completed on 1 June 2015.
In January 2025, Marty discovered that the existing timber storage shed out the back of the premises had deteriorated significantly due to age and weather exposure. The shed was used to store spare parts and bicycles awaiting repair. A builder advised that the damaged sections of the shed could be repaired for approximately $5,000.
Rather than repairing the existing shed, Marty decided to demolish it and construct a new steel storage building in its place. The new storage building had a roof, walls and lockable doors. It was permanently affixed to the land by concrete footings, and was substantially larger in its storage capacity than the original shed. It also required less ongoing maintenance than the original shed. Construction commenced on 15 March 2025 and was completed on 1 July 2025 at a cost of $40,000. Marty used the new building straight away to store trading stock, spare parts and customer bicycles awaiting repair.
On 1 May 2025, Marty purchased and installed a CCTV security system for $10,000 at the Southport property and started to use it in the business straight away. The system was comprised of cameras, a monitor and a digital recorder, which operated together as an integrated security system. It was attached by screws and brackets and it was removable without material damage to the premises. If relevant, the effective life of all components of the CCTV system was 4 years and the system was used solely for business purposes.
In October 2025, following several periods of heavy rainfall, water entered the premises through a number of locations in the roof. At the time Marty acquired the premises in 2022, the roof was in good working condition. Corrosion had developed during Marty’s ownership and business use of the premises. Marty engaged a roofing contractor who removed and replaced approximately 15% of the roof sheeting that had become corroded and who carried out associated work to eliminate the leaks. The remainder of the roof was left untouched. The work was completed and paid for on 1 December 2025 at a cost of $15,000. Marty had forgotten to renew his building insurance policy so the works were uninsured.
By 2026, Marty’s Southport property had increased significantly in value due to continued development in the area and increasing demand for commercial property on the Gold Coast. Marty also concluded that the next stage of his business would be better suited to Burleigh Heads, where he believed he could attract a larger number of higher-income customers interested in premium electric bicycles and servicing packages.
On 1 June 2026, Marty entered into a contract to sell the Southport premises (land and buildings only - not the business) for $3,600,000. Settlement occurred on 30 June 2026, and Marty continued to operate the business right up until this time.
When Marty agreed to sell the premises, the CCTV security system was excluded from the sale as the purchaser wanted to install a more advanced security system. On 20 June 2026, Marty sold all components of his CCTV security system to one buyer through an online auction for $3,000.
If relevant, Marty has an unapplied net capital loss from the 2024-25 income year of $30,000.
For this question:
Marty always claims deductions available to him and he always prefers to use the diminishing value method of depreciation;
ignore any Div 43 ITAA97 and CGT consequences relating to the old timber shed;
ignore the capital allowance regime for small business entities in Subdiv 328-D ITAA97; and
assume Marty is not eligible for any CGT small business concessions in Div 152 ITAA 97.
Advise Marty of the deductions he can claim for the 2025-26 income year, and the legal basis for doing so. Provide a reason for any exclusions. Support your answer with reference to relevant legislation and case law. Show all workings.
Calculate Marty’s net capital gain for the 2025-26 income year pursuant to s 102-5 ITAA97. Explain your calculation with reference to relevant legislation, and show all workings.
How would your answer to question 2 change, if at all, if Marty had borrowed money to buy the Southport property and the total interest he had incurred while owning the property was $150,000, which includes $30,000 for the period from 1 July 2025 to 30 June 2026? Explain your answer with reference to relevant legislation and case law.
(If time permits) Would your answer your question 1 change if a building inspection report obtained by Marty before he purchased the Southport property on 1 July 2022 had identified extensive corrosion in the roof? Why? Support your answer with reference to relevant legislation and case law. You do not need to calculate the quantum of any changes.