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Probably comes down to showing why you were setting the loan up like this. On the face of it the interest would be deductible, but the ATO could apply Part IVA and deny deductibility. I am not sure how this works but the onus of proof would probably be with the tax payer to prove, or convince...

It was really just a scheme to save tax. However, it may still work in some cases. Depends on your reasoning. If you are doing it to pay off your home loan sooner then the ATO may deny deductibility.