Loan Restructuring Question

Hello Forum members,
Long time follower and first time poster. I would value your advice if possible for the below scenario:

- Investment Property 1 (Value: $420K):
Loan 1: $227500 (I/O) fixed
Loan 2: $55000 (I/O) fixed - Split loan for Investment Property 2

- Investment Property 2 (Value: $390K):
Loan 3: $221000 (I/O) fixed

As we are currently renting our home, we have made the decision to sell property 1 (CGT exempt as per the absence rule) and purchase our PPOR. My concern is the following: Upon selling the 1st investment property, the bank will retain the required funds to pay loans 1 and 2, hence I would miss on the interest deduction component relating to the $55000 as the debt is no longer there. Should I structure the loans before commencing the sales process?

What possible screnarios would you recommend to address the above situation and rightfully claim the interest component of the investment property?

I thank you all for your time,
Do a security substitution on loan 2 to change it to property 2 as the security. The loan probably has a 'portability' feature which allows you to do this. It should be a reasonably easy process, contact the lender to ask them for the paperwork.
Hello again,
The application for "substitution of security" was rejected by the credit team of the institution!!!!
The messenger advised that it could not be done because of LMI, and the fact that the split loan is linked to the correct property, and could not be changed. (That defies the concept of substituion)

I asked for a solution, and the answer was: Go see a broker!!!

Can anyone see an alternative option to simply refinancing the loans (and incurring a break cost as they are fixed). I am missing anything with the whole substitution concept?

Thanks again
Yikes! Which lender is this?

The loans may have had LMI on them originally, but from what you've mentioned previously, you're only looking at a 70% LVR at this point:

Total loans: $276k
Loan 2: $55k being moved from property 1 to property 2.
Loan 3: $221k already secured to property 2.

Property value: $390k

LVR = 70.77%

There's no way to avoid paying out loan 1 of $227,500, but your initial post implied that you were comfortable with this.

You could transfer loan 1 to a new property you purchase, but this would mean you've got to buy and sell at the same time (not easy). You'd need to keep LMI out of the new purchase as well.
I may be missing something, but could it be as easy as accessing equity in IP2 and repaying the $55k split? I realise there will be break fees, however if the sums work out it might be worth it.

B/c the new funds are to repay IP debt, I believe it would still be deductible. (Get advice to be 100% :))