Private ruling: Foreign Rental Property Expenses Deductions
Date of advice: 4 October 2017
Published: February 2018
Ruling period: Year ending 30 June 2018 | Year ending 30 June 2019 | Year ending 30 June 2020 | Year ending 30 June 2021
Date scheme commenced: 1 July 2017

Ruling: Q1: Are you entitled to a deduction for the interest on the loan to purchase the property located in Country A? | A1: No | Q2: Are you entitled to a deduction for the monthly payment to the vendor residing in the property? | A2: No

Relevant facts and circumstances: You are Australian residents for taxation purposes. You are in the process of purchasing an investment property in Country A (the property). Under the Agreement, the vendor sells the property at the reduced price of but retains the right to reside in the property for the remainder of his/her natural life. The balance of the sale price is converted to an annuity. You are required to pay the vendor an amount per month for the first year and then the amount is indexed each year in line with CPI after that. On the death of the vendor, the property transfers in full to you with no further payments and the monthly amount ceases to be paid immediately. You then have full ownership and control of the property to do with it as you wish including live in it, sell it at market value or rent it out. If the vendor decides to vacate the property (perhaps to live somewhere else or move into a nursing home) the property transfers in full to you and the monthly amount paid to the vendor is increased by X% and continues to be paid until the death of the vendor. As soon as the vendor moves out of the property, you have full ownership and control of the property to do with it as they wish including live in it, sell it at market value or rent it out. You plan to rent the property out once it is vacated by the vendor. You have taken out an Australian Dollar equivalent loan in Australia to purchase the property.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1 | Income Tax Assessment Act 1997 Section 8-5 | Income Tax Assessment Act 1997 Section 12-5

Reasons for decision: Summary: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for a loss and outgoing to the extent that it is incurred in gaining or producing assessable income. However, a loss or outgoing is not deductible if it is of a capital, private or domestic nature, or it is incurred in gaining or producing exempt income. Taxation Ruling TR 95/33 Income tax: subsection 51(1) - relevance of subjective purpose, motive or intention in determining the deductibility of losses and outgoings provides that if the outgoing produces no assessable income, or the amount of assessable income is less than the amount of the outgoing, it may be necessary to examine all the circumstances surrounding the expenditure to determine whether the outgoing is wholly deductible. This may, depending on the circumstances of the particular case, include an examination of the taxpayer's subjective purpose, motive or intention in making the outgoing (Paragraph 4). Taxation Ruling TR 2004/4 Income tax: deductions for interest incurred prior to the commencement of, or following the cessation of, relevant income earning activities considers deductions for interest incurred prior to the commencement of income earning activities and the implications of the decision of the High Court in Steele v. Federal Commissioner of Taxation (1999) 197 CLR 459; 99 ATC 4242; (1999) 41 ATR 139 (Steele's Case). TR 2004/4 states that an outgoing may be ‘too soon’ in the sense that a significant delay between the incurring of an outgoing and the actual or projected receipt of income may be relevant in determining whether expenditure is deductible (Paragraph 31). In your case, you are in the process of purchasing an investment property in Country A, your intention is to rent it out once it is vacated by the vendor; however, you do not have a right to occupy the property until the death of the vendor or the vendor abandons the property. This will be at an unknown time in the future as it is dependent on the death of the vendor. You are unable to determine when they property may be available for rent or prepare the property for rent. Therefore the interest on the loan would not be deductible as it occurs at a point ‘too soon’ taking into account that you do not have a right to occupy the property until some unknown time in the future. This demonstrates that there is likely to be a significant delay between the payment of the purchase price (for which the loan was drawn and associated interest is payable) and the receipt of assessable income. Subsection 8-1(2) of the ITAA 1997 states that a deduction is not available for a loss or outgoing if it is a capital or capital in nature, private or domestic in nature, or it is incurred in gaining or producing exempt income or non-assessable non-exempt income. In determining whether an expense is capital or capital in nature the court in Sun Newspapers v FCT (1938) 61 CLR 337 considered 3 matters or tests: 1. the character of the advantage sought; 2. the manner in which is it to be used, relied on or enjoyed, and 3. the means adopted to obtain it. In this case, you are required to pay a monthly instalment amount to the vendor of the property for the purchase of the property, which is capital in nature. The instalment amount is not for interest as no interest is charged. You paid a reduced purchase price on the property initially and then continue to make monthly instalment payments to the vendor until the vendor dies and then you will obtain the property. If you do not pay the monthly instalments, you will lose the right to obtain the property. Therefore as the monthly payments to the vendor are for the purchase of the property and maintain the right to purchase the property these payments are capital in nature and are therefore not deductible under section 8-1 of the ITAA 1997. Section 8-5 of the ITAA 1997 provides that a taxpayer can also deduct from assessable income an amount that a provision allows to deduct (specific deduction). Section 12-5 of the ITAA 1997 contains a summary list of provisions about specific deductions. None of the provisions applies in your case.