Part IVA of the ITAA 1936
Paying IP expenses from LOC
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Part IVA of the ITAA 1936
Its not a new concept.....the wealthy have been doing it for decades.
Its commonly known as LOE...yes the same LOE that has been debated about on here and discounted by those whose struggling paradigms/personal risk profiles don't allow them to get their heads around it.
The poor & middle class use "cash flow" for income, whilst the rich & wealthy use "capital" as income.
http://somersoft.com/forums/showthread.php?p=690477#post690477
Good link here on the topic. I am currently paying IP interest from my cash savings, so to use the LOC and have this added to my deductible expenses would clearly be a significant change.
Good link here on the topic. I am currently paying IP interest from my cash savings, so to use the LOC and have this added to my deductible expenses would clearly be a significant change.
Is no one other than Rixter employing this technique of using the LOC to pay IP mortgage interest? I am interested to see if this technique is more wide spread?
From my observations over the years, the majority of the population (low to middle class) have never been exposed to this kind of financial structure before or knew of its existence before. The ones that have, learned of it here, reading on SS.
I agree with Rixter, most investors do not and would not know of the more effective finance strategies. In my experience dealing with property investors, most do not do the research or find the education needed to build a property portfolio well, hence the vast majority of investors with just one IP. The main reason is that they do not know how to finance any rent shortfall, they are just using salary to do it and struggling, let alone finding funds to settle another IP.
The ATO work on the basis (or at least the Appeals Tribunal does) of predominant reason for an action or strategy. If it is to reduce tax, then you may be caught as Terry suggests. If the predominant reason to use such a strategy is to build funds to be able to borrow again for another IP (or upgrade of PPOR) then it should not be caught under anti-avoidance provisions.
The ATO work on the basis (or at least the Appeals Tribunal does) of predominant reason for an action or strategy. If it is to reduce tax, then you may be caught as Terry suggests. If the predominant reason to use such a strategy is to build funds to be able to borrow again for another IP (or upgrade of PPOR) then it should not be caught under anti-avoidance provisions.
That seems like the only risk... ie being caught by the ato. Reading some of the threads here on ss. Some argue that a private ruling is required to ensure the loan purpose is that - to help fund/finance the incone producing asset as the purpose of obtaining the loc. Where as some say u do not need the private ruling...
I am definitely interested in setting up a loc for the sole purpose of financing the shortfall witj capital instead of my salary. I see this as the.only risk as i be putting allcmy funds into the offset account for my non deduxtible debt...
Any further feedback about this partocular finance strategy?
I am definitely interested in setting up a loc for the sole purpose of financing the shortfall witj capital instead of my salary. I see this as the.only risk as i be putting allcmy funds into the offset account for my non deduxtible debt...
Any further feedback about this partocular finance strategy?
Terry has summed up the attitude most professionals have. Caution (dare I say 'responsible') advisers (tax/legal/financial) would either avoid capitalising interest or ensure the client/borrower gets a private ruling in place.
I have also heard 'To reduce debt on our home and own it debt free as soon as possible' as a primary focus of the strategy, not to build deductible interest expense up. That hasn't been tried on with the ATO by them yet, but their properties are not cross-collateralised and it is clear that they are smashing down their home mortgage debt as a priority.
Certain loan structures (I think St George's portfolio loans, Macquarie's Line of Credit) are more conducive to this strategy than others.
If you had a strategy in place where ALL income was directed to the non-deductible loan (salary, rental income, everything), and ALL investment expenses were paid using a line of credit, including capitalising the interest expense on that line of credit, you would be in the most advantageous tax position. How you rationalise that to the ATO without running afoul of Part IVA is something a professional tax wizard would be better placed to do.
I have also heard 'To reduce debt on our home and own it debt free as soon as possible' as a primary focus of the strategy, not to build deductible interest expense up. That hasn't been tried on with the ATO by them yet, but their properties are not cross-collateralised and it is clear that they are smashing down their home mortgage debt as a priority.
Certain loan structures (I think St George's portfolio loans, Macquarie's Line of Credit) are more conducive to this strategy than others.
If you had a strategy in place where ALL income was directed to the non-deductible loan (salary, rental income, everything), and ALL investment expenses were paid using a line of credit, including capitalising the interest expense on that line of credit, you would be in the most advantageous tax position. How you rationalise that to the ATO without running afoul of Part IVA is something a professional tax wizard would be better placed to do.
Great read guys and has definitely opened my eyes to this strategy.
Your last paragraph Vixs...... I didn't think this could be done but reading this article and the link El Caballo posted (similar topic in 2010) it looks like the LOC can be used to pay all investment expenses and interest on investment loans.
My Situation:
I currently have a LOC against my inv. properties. I was using this to cover the shortfall in repayments EG receiving $4500 in rents a month and interest repayments are $5000 so I was using the LOC to cover the $500 difference each month.
I don't have a PPOR but if I were to say have all repayments for inv. loans come from LOC and let the interest capitalise, then use all rental income received to go towards a new inv. purchase this would be OK with ATO?
Cheers
Your last paragraph Vixs...... I didn't think this could be done but reading this article and the link El Caballo posted (similar topic in 2010) it looks like the LOC can be used to pay all investment expenses and interest on investment loans.
My Situation:
I currently have a LOC against my inv. properties. I was using this to cover the shortfall in repayments EG receiving $4500 in rents a month and interest repayments are $5000 so I was using the LOC to cover the $500 difference each month.
I don't have a PPOR but if I were to say have all repayments for inv. loans come from LOC and let the interest capitalise, then use all rental income received to go towards a new inv. purchase this would be OK with ATO?
Cheers
The LOC is a giant credit card, it can pay for whatever you want to pay for. Some lenders will not allow interest capitalisation, others will. If they do, then assuming you have a high enough credit limit and a low enough balance, there is no reason everything including it's own interest can't be paid from the LOC.
In the scenario you've put forward, I don't see why it should be a problem. You're choosing to retain debt and build capital ready to deploy on another project. The REAL area the ATO apparently has concerns about is the preferential repayment of non-deductible debt over deductible debt, as that's where you're perceived to be doing something for a tax benefit.
What you're proposing, however, doesn't make much sense to me. With the line of credit you might as well just pay down your line of credit as you build savings, reducing your interest bill on the way, and then assuming your new purchase is also for investment, use the funds available in the LOC to fund the deposit. Even though it's deductible, you're still better off offsetting 5% interest expense than earning 4% taxable interest income while you save.
I really must stress that these are just my thoughts - as has been said by others more experienced and qualified to do so in this thread, if you are unsure or uncomfortable with a course of action, get professional advice on this one. Bear in mind different accountants will have different risk profiles and appetites for pushing the barriers themselves, so make sure your accountant is on the same page as you with regards to your preferred outcome.
In the scenario you've put forward, I don't see why it should be a problem. You're choosing to retain debt and build capital ready to deploy on another project. The REAL area the ATO apparently has concerns about is the preferential repayment of non-deductible debt over deductible debt, as that's where you're perceived to be doing something for a tax benefit.
What you're proposing, however, doesn't make much sense to me. With the line of credit you might as well just pay down your line of credit as you build savings, reducing your interest bill on the way, and then assuming your new purchase is also for investment, use the funds available in the LOC to fund the deposit. Even though it's deductible, you're still better off offsetting 5% interest expense than earning 4% taxable interest income while you save.
I really must stress that these are just my thoughts - as has been said by others more experienced and qualified to do so in this thread, if you are unsure or uncomfortable with a course of action, get professional advice on this one. Bear in mind different accountants will have different risk profiles and appetites for pushing the barriers themselves, so make sure your accountant is on the same page as you with regards to your preferred outcome.
Say I take out 400K.
Used 100K on deposit.
Used another 25K on costs like council rates & insurances.
Do I need to pay back 100K or 125K?
Not critical if you dont. There is provisions under a section in one's 'personal' return that allows other Investment related expenses to be included.. My understanding is Investment LOC interest can be included under this. By doing so it is not apportioned to any one individual IP but rather investment portfolio overall deductions.
Not critical if all the owners of the various properties are the same people and in the same proportions. The net result will be the same. However if different then depending where the interest is claimed it will result in a different tax out come.
Also helps if one or more properties are sold.
Lets think it through logically.
Interest is only deductible if the loan is associated with the production of income. If a property is sold then the income stops...
So the $125,000 in borrowings relates to the property. On the sale of the property this interest is generally no longer deductible. There are some exemptions if the property is sold at a loss.
Hi Rixter,
Could you do this using equity in a crossed investment loan using equity within that loan? That is, capitalise the interest.
Thanks
LE
My understanding is, it's not what asset/s (ie ppor or IP's) that is used to secured the loan, rather what the equity drawn from the loan is used for (ie investment/business or personal) that determines tax deductibility or not.
You also must keep all investment/business drawings in a separate loan/s to personal drawings. In other words, you must not contaminate a loan with investment & personal drawings together.
Thanks Rixter,
Basically, I just want to capitalise the investment loan and put any extra funds into the offset which I have attached to it. This will increase the investment loan (and the offset with the extra funds). I am hoping to place funds into the offset when I sell a couple of unencumbered properties in a few years. They will be CGT free as I am an ex-Navra client with capital losses...
The purpose of all this is to increase the available credit limit on the investment loan. After selling the unencumbered properties and placing the funds in the offset the investment loan will be increased. The non tax deductibility of the capitalised investment loan might put a halt to all of this.
I appreciate your thoughts....
LE
Assuming you have a LOC that you can use to pay the IP loan interest, it's possible but you'll definitely want to get specific tax advice - depending on your situation the ATO might look at it as a scheme so you might need to get a private ruling. Your friendly tax guy will know.
