Private ruling: The deductibility of interest expenses.
Published: May 2013
Ruling period: Year ended 30 June 2011 | Year ended 30 June 2012 | Year ended 30 June 2013 | Year ended 30 June 2014 | Year ended 30 June 2015 | Year ended 30 June 2016
Date scheme commenced: 1 July 2010

Ruling: Q1: Are you entitled to a deduction for all the investment related interest incurred on the loan, where you alone on-lent the funds to a company? | A1: Yes.

Relevant facts and circumstances: You obtained a borrowing and on-lent the funds to a third party. You are charged the commercial interest rate on the borrowing from the financial institution. The third party used the funds in carrying on a business. A loan agreement was in place between you and the company which stipulated the interest to be paid. The third party became insolvent. You incurred interest on the loan.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1.

Reasons for decision: Summary: Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows you a deduction for any loss or outgoing that is incurred in gaining or producing your assessable income, to the extent that it is not of a private, capital or domestic nature. Whether interest has been incurred in the course of gaining or producing assessable income generally depends on the purpose of the borrowing and the use to which the borrowed funds are put. Taxation Ruling TR 95/25 states where a borrowing relates to expenses of an assessable income producing activity, the interest on this borrowing is considered to be incurred in the course of gaining or producing assessable income. Taxation Ruling TR 2004/4 states as follow: 10. Where interest has been incurred over a period after the relevant borrowings (or assets representing those borrowings) have been lost to the taxpayer and income earning activities (whether business or non business) have ceased, it is apparent that the interest is not incurred in gaining or producing the assessable income of that period or any future period. However, the outgoing will still have been incurred in gaining or producing the assessable income if the occasion of the outgoing is to be found in whatever was productive of assessable income of an earlier period. ………………………………….. 12. An outgoing of interest in such circumstances will not fail to be deductible merely because: · the loan is not for a fixed term; · the taxpayer has a legal entitlement to repay the principal before maturity, with or without penalty; or · the original loan is refinanced, whether once or more that once. 13. However, if the taxpayer: · keeps the loan on foot for reasons unassociated with the former income earning activities, or · makes a conscious decision to extend the loan in such a way that there is an ongoing commercial advantage to be derived from the extension which is unrelated to the attempts to earn assessable income in connection with which the debt was originally incurred, the nexus between the outgoings of interest and the relevant income earning activities will be broken. In Placer Pacific Management Pty Ltd v FC of T 31 ATR 253; 95 ATC 4459 , the Full Federal Court considered the deductibility of an expense incurred in honouring a warranty claim after the business had ceased. At p4464 the Court said: In our view AGC should be taken as establishing the proposition that provided the occasion of a business outgoing is to be found in the business operations towards the gaining or producing of assessable income generally, the fact that the outgoing was incurred in a year later that the year in which the income was incurred and the fact in the meantime business in the ordinary sense may have ceased will not determine the issue of deductibility . Subsequent decisions in Federal Commissioner of Taxation v Brown (1999) FCA 721; (1999) 43 ATR 1; 99 ATC 4600 and Federal Commissioner of Taxation v Jones [2002] FCA 204; 2002 ATC 4135; (2002) 49 ATR 188 (Jones) indicate that this principle applies equally to recurring expenses such as interest. In your situation, it is accepted that you obtained a loan for investment purposes, in order to generate assessable income by means of non-business activities. The cessation of the investment activity will not sever the nexus of the original purpose of the loan, which was to generate assessable income. Further you have not kept the loan in such a way that there is an ongoing commercial advantage. Therefore you are entitled to a deduction for all of the investment related interest on the loan.