Private ruling: Loan Interest deductions and depreciable asset deductions
Date of advice: 2 March 2017
Published: August 2017
Ruling period: Year ended 30 June 20XX | Year ended 30 June 20YY
Date scheme commenced: 1 July 20WW

Ruling: Q1: Can you claim the interest incurred on a loan during the construction phase of building a property to be used on completion, proportionately, to produce rental income? | A1: Yes Issue 2 | Q2: Can you claim an immediate deduction for a low cost asset in relation to an asset costing more than $550 where the ownership is an even 50% between two owners? | A2: No | Q3: Can you claim the storage costs for depreciating assets before they are installed in a rental unit? | A3: No

Relevant facts and circumstances: You and your spouse are buying land and finalising designs for a dual occupancy home comprising 2 units. You have borrowed money to finance the purchase of the land and building of the units. Your intent is to rent one unit unfurnished on a long term basis and to rent the other unit furnished for X months of each year, occupying it yourselves for the other X months. This is your only investment property and you are carrying on a business. You expect the property to be completed early in the 20ZZ financial year. You plan to rent unit X as soon as it is completed through a real estate agent. You plan to occupy unit Y from completion to the end of mid-late 20YY then advertise it for rent through a real estate agent. You plan to occupy the unit from mid 20ZZ to mid-late 20ZZ. You plan to buy the furniture to be used in the unit on completion during the construction phase and store it.

Relevant legislative provisions: section 40-60 of the Income Tax Assessment Act 1997 | section 8-1 of the Income Tax Assessment Act 1997 | subsection 51(1) of the Income Tax Assessment Act 1936

Reasons for decision: Summary: If you take out a loan to purchase land on which to build a rental property or to finance renovations to a property you intend to rent out, the interest on the loan will be deductible from the time you took the loan out. However, if your intention changes, for example, you decide to use the property for private purposes and you no longer use it to produce rent or other income, you cannot claim the interest after your intention changes. Taxation Ruling 2004/4 Income tax: deductions for interest incurred prior to the commencement of, or following the cessation of, relevant income earning activities , considers the implications of the decision of the High Court in Steele v. FC of T 99 ATC 4242; (1999) 41 ATR 139( Steele ). The Steele decision concerns, among other things, the deductibility of interest on money borrowed to purchase land intended to be developed. The case involves claims for interest incurred in periods during which no relevant assessable income was derived. The decision deals with the issue of the deductibility of interest in terms of subsection 51(1) of the Income Tax Assessment Act 1936 (ITAA 1936). The decisions in these cases and the discussion in this Ruling have equal application to section 8-1 of the Income Tax Assessment Act1997 (ITAA 1997). All references to subsection 51(1) should therefore be taken as including a reference to section 8-1. It follows from Steele that interest incurred in a period prior to the derivation of relevant assessable income will be 'incurred in gaining or producing the assessable income' in the following circumstances: ● the interest is not incurred 'too soon', is not preliminary to the income earning activities, and is not a prelude to those activities; ● the interest is not private or domestic; ● the period of interest outgoings prior to the derivation of relevant assessable income is not so long, taking into account the kind of income earning activities involved, that the necessary connection between ● outgoings and assessable income is lost; ● the interest is incurred with one end in view, the gaining or producing of assessable income; and ● continuing efforts are undertaken in pursuit of that end. As your intention towards the borrowed funds is using them to purchase land and develop property which will produce assessable income it is considered that the interest on your loan is deductible as per section 8-1 of the ITAA1997. | Detailed Reasoning - Question 1: The ATO guide to depreciating assets 2016 states, in relation to immediate deduction for certain non-business depreciating assets (costing $300 or less); The decline in value of certain depreciating assets costing $300 or less is their cost. This means you get an immediate deduction for the cost of the asset to the extent that you used it for a taxable purpose during the income year in which the deduction is available. The immediate deduction is available if all of the following tests are met for asset; ● it cost $300 or less; see Cost is $300 or less ● you used it mainly for the purpose of producing assessable income that was not income from carrying on a business; see Used mainly to produce non-business assessable income ● it was not part of a set of assets you started to hold in the income year that cost more than $300; see Not part of a set ● it was not one of a number of identical or substantially identical assets you started to hold in the income year that together cost more than $300; see Not one of a number of identical or substantially identical items. If you are not eligible to claim the immediate deduction, you work out the decline in value of the asset using the general rules for working out decline in value. Alternatively, you may be able to allocate the asset to a low-value pool; see Low-value pools | Detailed Reasoning - Cost is $300 or less: If you are entitled to a GST input tax credit for the asset, the cost is reduced by the input tax credit before determining whether the cost is $300 or less. If you hold an asset jointly with others and the cost of your interest in the asset is $300 or less, you can claim the immediate deduction even though the depreciating asset in which you have an interest costs more than $300 As you hold the asset jointly and the cost of each interest in the asset is over $300 you cannot apply the immediate deduction for the asset. | Detailed Reasoning - Question 2: Taxation Determination 2007/5 Income tax: does a tangible depreciating asset start to decline in value under section 40-60 of the Income Tax Assessment Act 1997 from when it is acquired if the asset is acquired for the sole purpose of using it in a business that has not commenced to be carried on? addresses the question does a tangible depreciating asset start to decline in value under section 40-60 of the Income Tax Assessment Act 1997 from when it is acquired if the asset is acquired for the sole purpose of using it in a business that has not commenced to be carried on? | Detailed Reasoning - The Ruling states: 1. No. A tangible depreciating asset that is acquired for the sole purpose of using it in a business that has not commenced to be carried on does not start to decline in value under section 40-60 of the Income Tax Assessment Act 1997 from when the asset is acquired. 2. For a holder of a depreciating asset, the asset starts to decline in value under section 40-60 from when the holder first uses it, or has it installed ready for use for any purpose. 3. Holding a tangible depreciating asset in anticipation of using it in a business that has not commenced to be carried on does not constitute a use, or being installed ready for use, that would cause the asset to decline in value under section 40-60. | Detailed Reasoning - Example: 4. The taxpayer proposed to carry on a business of fishing. For this sole purpose, the taxpayer purchased a fishing boat designed specifically for the type of fishing they proposed to carry on. After purchasing the boat, the taxpayer fell ill with the result that they did not commence to carry on the fishing business until three months after purchasing the boat. During this three month period, the fishing boat remained in storage at a marina. 5. Until the taxpayer commenced their fishing business, the fishing boat was neither used nor installed ready for use for any purpose and, therefore, did not decline in value under section 40-60. 13. The phrase installed ready for use is defined in subsection 995-1(1) and requires not only that the relevant thing be installed ready for use but also that it be 'held in reserve'. This latter phrase was also used in the former depreciation provisions that Division 40 replaced (namely, section 54 of the Income Tax Assessment Act 1936 and Division 42). The meaning of 'held in reserve' was considered in relation to the application of former section 54 in AAT Case 5877 (1990) 21 ATR 3411; Case X46 90 ATC 378. There it was said that things 'held in reserve' must be held for future use in an existing income producing operation and that the concept of holding in reserve was not 'so wide as to embrace income producing operations which may be undertaken at some future time' (at 381). The Tax Office considers that the meaning of the words 'held in reserve' as explained in Case X46 is equally applicable for the purposes of section 40-60. 14. Where a tangible depreciating asset is held for the sole purpose of using it in a business that has not commenced to be carried on, the asset is not 'held in reserve' and, therefore, not installed ready for use under section 40-60. It follows that the asset has not started to decline in value under section 40-60. As you will not have made your unit available for rent and thus and ready for use when you purchase and store the furniture you cannot claim the transport and storage costs of the furniture to be used in the unit.