Private ruling: Loan break fee
Published: January 2012
Ruling period: Year ended 30 June 2012
Date scheme commenced: 1 July 2011

Ruling: Q1: Are you entitled to a deduction for a fixed loan break fee? | A1: Yes.


Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1. | Income Tax Assessment Act 1997 Section 25-30.

Reasons for decision: Summary: Section 8-1 of the Income Tax Assessment 1997 (ITAA 1997) allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income, except where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income. Section 25-30 of the ITAA 1997 allows a deduction for expenditure to the extent to which it is incurred in discharging a mortgage that you gave as security for a borrowing used in gaining or producing assessable income. Taxation Ruling TR 93/7 examines the deductibility of penalty interest payments and also considers the application of capital gains taxation provisions. Penalty interest payment refers to an amount payable by a borrower under a loan agreement in consideration for the lender agreeing to accept an early repayment of a loan. Where a borrowing is used to acquire an income producing asset, and a penalty interest payment is made to rid you of a recurring obligation to pay interest on the loan, the penalty interest payment is deductible under section 8-1 of the ITAA 1997. Where a penalty interest payment is made to effect a discharge of a mortgage which secures such a borrowing, the penalty interest payment is deductible under section 25-30 of the ITAA 1997. Where a penalty interest payment is made upon the repayment of a borrowing incidental to the disposal of the income producing asset, this payment is not taken into account in calculating any capital gains or losses arising from the disposal. TR 93/7 provides an example at paragraphs 20 and 21: 20. Two years ago, Peter obtained a loan from a financial institution to purchase a rental property. The loan is for a period of five years, with interest payable at a fixed rate of 15 per cent per annum. Because of falls in prevailing interest rates, Peter can now refinance the property with a loan at a lower rate of interest, say 11 per cent. In order to refinance, Peter pays out the first loan early. Under the loan agreement, he incurs a penalty interest payment calculated on the basis of one month's interest for each year of the loan period remaining. 21. The advantage sought in practical terms by making the penalty payment and repaying the first loan is the future interest savings obtainable from the differential in rates charged on the two loans. The payment is therefore of a revenue character and deductible under subsection 51(1) of the Income Tax Assessment Act 1936 (ITAA 1936). Were the refinancing to involve the discharging of a mortgage securing repayment of the first loan, the payment would also have been deductible under section 67A of the ITAA 1936. Note: Subsection 51(1) of the ITAA 1936 and section 67A of the ITAA 1936 have been replaced with section 8-1 of the ITAA 1997 and section 25-30 of the ITAA 1997 respectively. In your case, you repaid a loan which you used to fund an income producing property prior to the expiry of a fixed interest rate period. You incurred an early repayment cost of a fixed loan break fee by cancelling the fixed interest rate period early to enable you to change to a variable interest rate. You did this in order to pay less interest. As you incurred a penalty to cancel the fixed interest rate period early to enable you to pay less interest, you are entitled to a deduction for the penalty under section 8-1 of the ITAA 1997.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. If you have any concerns about this ruling you wish to discuss, you will find our contact details in the fact sheet. | Relevant facts: You own a property which has been rented since you purchased it. | You had fixed rate loans which were used to purchase the property. | You requested the bank to break a fixed rate loan and change it to variable, in order to pay less interest on the loan. | To do this, the bank charged you an economic cost in the form of a fee to break the fixed rate loan.