An entity can use or hold a residential dwelling as their main residence at the same time as using or holding the residential dwelling as residential accommodation to gain rental income. In this situation, it is not possible for an entity to claim deductions in relation to the portion of the residential dwelling used as their main residence. The entity must therefore apportion their deductions so they are limited to the part of the dwelling that is used or held as residential accommodation (i.e. the portion that is rented out and generating income).
Quarantining of rental losses from a residential dwelling
Nikolai purchases a split-level house with dual street frontage on 1 August 2027 with a $700,000 mortgage. The house is his main residence. However, after he moves in, he decides to rent out the downstairs rooms and backyard, including a gardening shed, to a tenant to help cover his mortgage repayments.
Nikolai cannot claim a deduction for expenditure to the extent that it relates to that part of the house used as his main residence (i.e. the upstairs rooms and front yard) as it does not relate to gaining or producing his assessable income. Expenditures related to income earned from the part of the house he rents out (i.e. downstairs rooms, backyard and shed) to his tenant are subject to loss quarantining, if they exceed Nikolai’s income from this source. If Nikolai has a net loss from renting this portion of his house, the remaining losses can be carried forward to later income years and deducted against any assessable income from residential dwellings used or held as residential accommodation and any revenue or capital gains arising from disposals of residential dwellings.
Dwellings that are not residential dwellings
In addition to the dwellings identified in subsection 26-160(1) of the Bill that are excluded from the definition of residential dwellings, the instrument-making power enables the Minister to determine that a dwelling in a class of dwellings is also not a residential dwelling. This power enables the exclusion of further types of dwellings that are identified as not intended to be included in the residential dwelling definition and therefore not subject to loss quarantining. This is necessary to ensure that the intent of these amendments, which is to limit negative gearing to new residential dwellings, certain prescribed dwellings, certain prescribed entities, and residential dwellings last acquired before 7.30pm (AEST) on 12 May 2026, does not result in unintended outcomes.
[Schedule 2 to the Bill, item 1, paragraph 26-160(1)(e) of the ITAA 1997]
Further, section 12 of the Legislation Act 2003, which requires that legislative instruments can only apply prospectively from the date of registration of the instrument, ensures that determinations made by the Minister cannot disadvantage entities through retrospective application.
Finally, the legislative instrument is disallowable and subject to sunsetting, therefore enabling any determinations made by the Minister to be subject to Parliamentary scrutiny.
It is also possible for a dwelling that was a residential dwelling to cease being a residential dwelling. This would arise where the nature of the use of the residential dwelling changes.
Residential dwelling ceases being subject to the general rule requiring loss quarantining
Olivia acquires a large multi-bedroom house on 1 August 2027. She does not hold any other residential dwellings used or held as residential accommodation. Olivia immediately advertises the property for rent. On 1 September 2027, she enters into a 12-month lease agreement with Harriet, Tristan and Ada to rent the property. For the 2027-28 income year, the interest deductions on the mortgage, as well as other property expenses, are available only to deduct against her rental income.
In January 2028, Olivia applies for planning permission to re-zone her property so that it can be used as a boarding house. On 1 October 2028, approval for the re-zoning is granted and Olivia enters into boarding agreements with a number of boarders. This means Olivia's house was only a residential dwelling for three months of the 2028-29 income year, despite her earning income for the whole of that income year.
Olivia must now apportion her income from the property into rental income and boarding income and the related deductions into two categories. The property’s losses and outgoings during the first three months of that income year can only be deducted against Olivia’s rental income from the first three months of the year (i.e. they are quarantined). Olivia’s losses and outgoings for the rest of the income year (i.e. after the property is rezoned as a boarding house) can be deducted against all of her assessable income as loss quarantining does not apply to losses or outgoings incurred in deriving income from a boarding house.
Exceptions to the general rule for loss quarantining
The general rule requiring an entity to quarantine amounts from residential dwellings used or held as residential accommodation does not apply in relation to amounts from a residential dwelling:
in which the entity’s ownership interest in a residential dwelling was last acquired before 7.30pm (AEST) on 12 May 2026; or
that is a new residential dwelling in which the entity has an ownership interest; or
that is a residential dwelling used for an activity or purpose determined by the Minister by legislative instrument; or
that is a residential dwelling for a business or enterprise of a kind determined by the Minister by legislative instrument.
[Schedule 2 to the Bill, item 1, subsection 26-155(2) of the ITAA 1997]
Ownership interest in a residential dwelling acquired prior to 7.30pm (AEST) on 12 May 2026
The general rule for loss quarantining does not apply to an ownership interest in a residential dwelling an entity last acquired before 7.30pm (AEST) on 12 May 2026. Accordingly, an entity can apply any excess deductions incurred in generating income from such a dwelling against other types of assessable income the entity has derived in an income year, such as salary and wages, business, or other investment income.
[Schedule 2 to the Bill, item 1, paragraph 26-155(2)(a) of the ITAA 1997]
The concept of ‘ownership interest’, as provided for in section 118‑130 of the ITAA 1997, determines when an entity becomes the owner of land or a dwelling or gains a right or licence to occupy the land. Schedule 2 to the Bill modifies when an entity acquires an ownership interest in a residential dwelling last acquired prior to 7.30pm (AEST) on 12 May 2026 under a contract. Accordingly, when an entity has an ownership interest in such a dwelling, it will be based on the time when the entity enters into the contract to purchase the dwelling.
[Schedule 2 to the Bill, item 1, subsection 26-155(3) of the ITAA 1997]
This expands the concept of when an ownership interest is acquired under section 118-130 of the ITAA 1997. This modification is necessary to support the exemption from loss quarantining applying to a residential dwelling used or held as residential accommodation last acquired before 7.30pm (AEST) on 12 May 2026.
When an asset is ‘acquired’ is set out in sections 109-5 and 109-10 of the ITAA 1997. Generally, a CGT asset, which includes a residential dwelling, is acquired by an entity when an entity becomes the asset’s owner.
Sections 109-5 and 109-10 of the ITAA 1997 set out a number of specific rules for particular situations. These situations include where an entity voluntarily disposes of a CGT asset to another entity, in which case, the entity acquires the asset either when the disposal contract is entered into, or, if there is no contract, when the other entity ceases to be the owner of the asset (item 1 of the table in section 109-5 of the ITAA 1997).
Generally, most residential dwellings will have been acquired by an entity at the time when the entity entered into the binding contract to purchase the residential dwelling, or when the entity entered into a contract to purchase the vacant land upon which the residential dwelling was later constructed.
The ownership interest that an entity acquires in the residential dwelling does not need to be the whole freehold or leasehold interest in the property. In some cases, an entity may only be entitled to a share in the property or may have more limited rights in respect of the dwelling. This does not prevent the measure applying to the entity’s income and losses resulting from the residential dwelling used or held as residential accommodation.
For the purposes of CGT, a joint tenancy arrangement is treated as a tenants-in-common arrangement. This means that where the nature of the joint tenancy arrangement changes on or after 7.30pm, (AEST) on 12 May 2026 so that, for example, where one of the two joint tenants owners of a property held as a joint tenancy interest ceases to have an interest in the property, the remaining owner is treated as having acquired a new ownership interest from the departing joint tenant in a residential dwelling. This new interest (but not the original interest) is subject to the requirement to quarantine losses similar to where a tenants-in-common interest was held.
Interests in real property acquired before 7.30pm (AEST) on 12 May 2026 that are exempt from the general rule
The general rule that net rental losses from a residential dwelling used or held as residential accommodation are quarantined does not apply to the following interests in real property:
real property interest in land with a residential dwelling on it at 7.30pm (AEST) on 12 May 2026;
real property interest in vacant residential land on which a residential dwelling is built on the land after 7.30pm (AEST) on 12 May 2026; or
real property interest in land where a residential dwelling is being built or is contracted to be built and the completion of construction occurs after 7.30pm (AEST) on 12 May 2026.
Accordingly - for real property interests in vacant land; land on which construction has commenced, where a dwelling is being demolished or is in any other state as at Budget night on 12 May 2026 - the restrictions under the amendments in this Schedule will not apply to building or rebuilding on that real property interest. However, other provisions in the tax law may limit deductibility of amounts, such as the existing limitation on deducting amounts related to holding vacant land.
Ownership interest in vacant land pre-12 May 2026
David acquired an ownership interest in vacant land prior to 7.30pm (AEST) on 12 May 2026 and therefore it is not subject to the loss quarantining rules. He took out a loan to acquire the vacant land and is incurring interest charges. While the land is vacant, section 26-102 of the ITAA 1997 prevents David from deducting the interest charges (and any other losses or outgoings) in relation to this ownership.
In July 2027, David engages builders to commence construction of a residential dwelling on his vacant land.
On 1 July 2028, construction is completed, and an occupancy certificate is issued for the residential dwelling and David enters into a lease agreement with Kathy to rent the residential dwelling.
For the 2028-29 and later income years David rents the property and his rental deductions continue to exceed his rental income. David is able to claim rental deductions, such as the interest paid on the loan for the land, as they are incurred in gaining or producing his rental income. The effect of this is that the total of David’s assessable income, which includes salary and wages is reduced as his rental deductions exceed his rental income.
Ownership interest in an established dwelling pre-12 May 2026
Maya acquired an ownership interest in a residential dwelling prior to 7.30pm (AEST) on 12 May 2026 (Dwelling A). This dwelling is her main residence and is subject to a home loan for which she pays interest and makes principal repayments.
On 25 August 2029, Maya moves to another city and seeks to rent the apartment. On 1 September 2029, Maya advertises Dwelling A for rent and rents Dwelling A to a tenant.
For the 2029-30 income year, Maya is able to claim deductions, such as interest paid on the loan for Dwelling A, against her assessable income, including her salary and wages, for the period 1 September 2029 to 30 June 2030.
A new residential dwelling in relation to an entity
The general rule for loss quarantining does not apply to a residential dwelling used or held as residential accommodation that is a new residential dwelling in relation to the entity. This means that these deductions can be applied against other types of assessable income an entity has derived in an income year, such as salary and wages and business and other investment income.
[Schedule 2 to the Bill, item 1, paragraph 26-155(2)(b) of the ITAA 1997]
A residential dwelling is a ‘new residential dwelling’ in relation to the entity if the requirements determined by the Minister by legislative instrument are met.
[Schedule 2 to the Bill, items 1 and 4, subsections 26-160(3) and (4) and subsection 995-1(1) definition of new residential dwelling of the ITAA 1997]
New residential dwellings are a sub-set of residential dwellings which, in-turn, apply the meaning of ‘dwelling’ in section 118-115 of the ITAA 1997. Thus, the types of dwellings that are excluded from being residential dwellings cannot be a new residential dwelling.
The Minister must determine the requirements for a new residential dwelling by legislative instrument. The requirements that the Minister must determine may include one or more of the following:
the kind of residential dwelling; or
the kind of interest the entity holds in the residential dwelling and the circumstances in which the entity acquired the interest (such as whether the entity was the builder/developer or a subsequent purchaser of the residential dwelling); or
circumstances relating to the creation of the residential dwelling (such as whether the residential dwelling was built on vacant land, was created through substantial renovations of an existing building, or was built to replace a demolished residential dwelling); or
whether the residential dwelling has a separate legal title or equitable interests or similar that can be acquired by an entity; or
whether the residential dwelling genuinely adds to the supply of residential dwellings in Australia.
[Schedule 2 to the Bill, item 1, subsection 26-160(4) of the ITAA 1997]
Further, as part of determining the requirements for a new residential dwelling, the amendments enable the Minister to determine requirements relating to matters or circumstances existing before the commencement of the requirement to quarantine amounts for residential dwellings used or held as residential accommodation. This ensures that any determination can deal with pre-commencement circumstances as necessary to achieve the required policy intent.
[Schedule 2 to the Bill, item 1, subsection 26-160(5) of the ITAA 1997]
Without limiting the scope of the requirements for new residential dwellings, examples include where:
The residential dwelling has been constructed and not previously been sold. This would include residential dwellings constructed as part of greenfield developments.
The residential dwelling constructed must genuinely add to housing supply in Australia. This would include where a single residential dwelling is demolished, and two separately titled duplexes are constructed. Both duplex dwellings would be considered to be new residential dwellings. Where an existing dwelling is demolished and replaced with a single dwelling this would not satisfy the requirement of adding to housing supply.
A requirement for a new residential dwelling to genuinely add to supply in Australia would ensure that properties located outside Australia cannot be new residential dwellings and therefore access negative gearing.
The residential dwelling is a unit in an apartment block that has been constructed. The unit is leased by the developer but then sold within 12 months of the completion of construction. In this case the unit is still considered ‘new’ and can be negatively geared.
The delegation of legislative power is appropriate as the settings for the types of investment to be excluded from these new negative gearing settings may need to be fine-tuned from time-to-time to respond to changing circumstances. Property and housing construction is a complex environment. There is a broad spectrum of property types, with emerging models of property development. It is appropriate for the legislative power to be delegated as the range and complexity of different kinds of developments may require detailed specifications about what will be considered a new residential dwelling in particular contexts, involving a level of detail that is better suited to delegated legislation.
Further, the Bill constrains the ability of the Minister to define what is a new residential dwelling by requiring that a new residential dwelling must satisfy the definition of a residential dwelling. This restriction in the Bill ensures that Parliament retains a level of oversight over the definition of new residential dwelling made by the Minister.
The Minister’s ability to define what is a new residential dwelling is also restricted to ensure a person is not disadvantaged by any retrospective application. Section 12 of the Legislation Act 2003 provides that a legislative instrument does not apply retrospectively if it results in a person’s rights as at the time the instrument is registered being affected so as to disadvantage the person. This ensures requirements made by the Minister only apply prospectively, or retrospectively only to the extent that they benefit a person. While subsection 12(4) of the Legislation Act 2003 allows an Act to override this, subsection 26-160(5) of the Bill does not do this.