Tax Deductibility on investment loan using a Redraw facility

[Dean2012ad]

Is it possible to still claim an interest deduction on the redraw amount of

$10,000 from investment property 1, to repay a $10,000 loan from a relative

that was solely used as an initial deposit on investment property 2?

i.e.
- $10,000 was borrowed from mother-in-law
- Placed in everyday savings account
- Bank cheque of $13,500 was withdrawn from same account
- Used as desposit on 2nd IP

• I need to repay the $10,000 borrowed for investment purposes, and wish to redraw said $10,000 from Investment property 1. redraw facility.

Other comments that may come up:
Q. Why didn't I initially use the redraw from IP-1 to fund IP-2?
A. Because I'm stupid

Q. Why didn't I have a lovely Offset account attatched to IP-1?
A. Because I'm stupid

I am seeking a private ruling, though would like to know what your guys think?
Tax Ruling 2000/2 is not that comprehensive.

 

[marg4000]

I would say no.

Reason is that your mother in law loaned YOU the money. You put it in a bank account which you subsequently used to pay a deposit on an IP.

Had your mother-in-law drawn the cheque directly to the agent for the deposit you may have had a better case.

And no, you are NOT stupid. We all learn as we go along and most of us would admit to things we would have done differently with the benefit of hindsight.
Marg

 

[Rob G.]

Short answer ... yes, but details matter.

Provided you had an enforceable debt owed to your relative. It does not matter that it was a related party or interest-free provided it was truly a debt.

Problem was paying the money into your personal account and mingling with personal assets. However, if your savings account was cleaned out for the deposit then the interest on the whole redrawn $10k should be deductible. Otherwise a reduced percentage may only be allowed.

Get a decent Taxation Accountant to hold your hand with applying for the ruling.

Cheers,

Rob

 

[Graingrower]

I think that would be ok. Your accountant should know. If you can redraw to pay off some personal loans or even your personal home loan then do that too. If possible all your loans should be business loans (with tax deductable interest) rather than personal loans. Anita Bell ("How to pay your mortgage in five years") suggest that you buy a home to rent to a friend and they buy one to rent to you. That way you both have investment properties with tax deductible interest, and no interest that you have to pay tax on.

 

[Dean2012ad]

Thanks for your replies.

I see your point Marg4000, and I would think the ATO being the most pedantic organisation would see it in the same light. Its the middle man (me) that makes the transaction a "personal" pupose.

Rob G - there is an enforceable debt although the funds were put into an account with other personal funds, and thus it would add to the ineligibility of the potential transaction.

Graingrower - awesome advice but doesn't relate to this query. Redrawing from an investment loan to pay personal loans or expenses would void the tax deductibility of that portion of money redrawn.

 

[Rob G.]

Rob G - there is an enforceable debt although the funds were put into an account with other personal funds, and thus it would add to the ineligibility of the potential transaction.

e.g.

Personal account balance before borrowing = $10k

Borrow $10k and place in above account, balance = $20k

Pay $13,500 from above account for IP deposit.

In the absence of any other details, there is ample case law and ATO precedent to deem $6,750 of those funds to be from your personal savings.

The remaining $6,750 is treated as funded by the loan from your relative.

It would be worth you seeing a Taxation Accountant to discuss the details that might impact on this approach.

Cheers,

Rob

 

[Dean2012ad]

Verdict

I received a private ruling on this question (it actually took 28 days )

1. Are you entitled to a deduction for the interest you incur on your rental loan in respect of $10,000 drawn from the loan to repay a family loan?

Answer: Yes
In respect of the monies withdrawn from your rental loan to repay the family loan, it is accepted this is in effect a simple refinance and the new borrowing retains the character of the original borrowing, that is, to partially fund the aquisition of the rental property. Accordingly you are entitled to a deduction for the interest you incur on the rental loan for this portion of the borrowing.

So as long as I have the family loan recorded as a contract and signed by both parties (mother in-law and I), this process is feasible.
Thanks ATO.