Tax Essential of Property Investment

Benjamin Franklin once said: “In this world nothing can be said to be certain, except death and taxes.” Whilst property investors of various means and from varying backgrounds regularly track their investment yields on their property investments, many of them might have overlooked the topic of property investment taxation. As we speak, taxation can account for up to 28% of the income earned by any taxpayer, which includes property investors in Malaysia.

A lot of unnecessary taxes had been paid by amateur property investors due to lack of understanding of taxation fundamentals revolving around property investing. Consequently, the Return on Investment (ROI) on their investment properties could be adversely affected.

In essence, the three (3) main stages of a property investment cycle where an investor is urged to pay attention in order to reduce their tax exposure legally, are as follows:

1. Investing in a property;
2. Renting out a property; and
3. Selling a property

1.       Investing in a property:

As a property investor, you might be exposed to these two (2) taxes: income tax and Real Property Gains Tax (RPGT).

In terms of income tax, due to its complexities and various circumstances of each individual, we will only show the personal income tax rates for residents for tax purposes in Malaysia as follows:

Taxable Income per annum	Tax on this income
RM0 – RM5,000	Nil
RM5,000 – RM20,000	1%
RM20,000 – RM35,000	3%
RM35,000 – RM50,000	8%
RM50,000 – RM70,000	14%
RM70,000 – RM100,000	21%
RM100,000 – RM250,000	24%
RM250,000 – RM400,000	24.5%
RM400,000 – RM600,000	25%
RM600,000 – RM1 million	26%
>RM1 million	28%

Table 1: Resident tax rates year of assessment 2018/2019

One of the biggest misconceptions of all time among property investors is that the disposal of properties can only be subjected to RPGT. The truth is, if the gain on sale is perceived as an income by Lembaga Hasil Dalam Negeri (LHDN), the Inland Revenue Board of Malaysia, income tax will then be applicable.

Table 2 lists out some of the key differences used by LHDN as well as the court to determine whether a property seller is investing in properties (RPGT is applicable in this case) or trading in properties (in this case, income tax is applicable).

Description	Investing	Trading
Source of finance	Term loan	Cash or overdraft
Renovation	Limited	Extensive
Is the property rented out?	Yes	No
Frequency of transactions	Infrequent	Frequent
Holding period	5 years and above	Less than 5 years

Table 2: Differences between investing and trading in properties

As such, depending on individual circumstances and objective or purchasing a property, property investors should choose either one of the two strategies as mentioned above to minimize their tax exposure.

2.       Renting out a property:

Income derived from letting of real properties is taxable, as long as the properties are located in Malaysia:

(a) Renting out a room or two in your property;

(b) Entire property is rented out (furnished or unfurnished);

(c) Rental received in advance, i.e. The whole of the rental is taxable in the year of assessment (YA) in which it is received, regardless that part of it is rental for the following years;

(d) Guaranteed Rental Returns (GRR) paid by developers; and

(e) Rental deposits which are forfeited.

Expenses are income tax deductible include but not limited to:

• House assessment;
• Quit rent;
• Property loan interest;
• Fire insurance premium;
• Expenses on rental collection;
• Expenses on rental renewal;
• Expenses on repairs and maintenance;
• Expenses on replacement of furnishings during tenancy;
• Maintenance fees and sinking fund;
• Legal expenses on recovery of rental arrears; and
• Expenses on pest control.

As a rule of thumb, property investors are reminded to keep the tax invoices for these expenses in order to substantiate their claims. Moreover, it is important to stress that

(i) The expenses are deductible in the year they are incurred, even though they might be paid in the next year. For instance, you receive a fire insurance renewal notice dated 28 December 2018 but only pay it on 2 January 2019, the tax deduction should be claimed for the Year of Assessment (YA) 2018.

(ii) Any obligations you have as a landlord which may incur expenses should be clearly spelt out in the tenancy agreement. Or else, LHDN might knock on your door if you claim tax deductions for expenses which fall outside your legal obligations.

Having said that, it is noteworthy that the expenses which are not income tax deductible are generally initial expenses incurred prior to the property is rented out, including but not limited to:

• Advertising and promotion costs to find a tenant;
• Agency fees/commission for real estate agent to find a tenant;
• Legal cost and stamp duty for initial tenancy agreement; and
• Renovation or home improvement costs to attract prospective tenants.

3.       Selling a property:

RPGT is applicable on chargable gains arising from the disposal / sale of real properties or shares in Real Property Companies. Depending on the duration that the property has been held for, the tax rate reduces gradually over the years:

Disposal (with effect from 1 January 2019)	Companies	Individuals (Malaysians or Permanent Residents)	All other Individuals
Within 3 years	30%	30%	30%
In the 4th year	20%	20%	30%
In the 5th year	15%	15%	30%
In the 6th year and beyond	10%	5%	10%

Table 3: RPGT rates from 1 January 2019 onwards

Please note that the definition of “disposal in the X years” as illustrated in the extreme example below, a difference of 2 days means tax savings of 10%. By way of illustration, a Malaysian who disposes of his property after holding it for 4 years and 364 days will attract 15% RPGT. Should he can be a little bit more patient and sells off the property after 5 years and 1 day, his RPGT liability will be merely 5% as the sale qualifies as a disposal in the sixth year.

The moral of this story: be mindful of when you buy your property in the first place. Take a quick look at the Sales and Purchase Agreement when the property was bought to determine when it will be safe to make a sale. A matter of just a few days could avoid unnecessary tax expenditure.