Private ruling: interest expense
Published: June 2012
Ruling period: Year ended 30 June 2011
Date scheme commenced: 1 July 2010

Ruling: Q1: Are you entitled to a full deduction for the interest incurred on the borrowed funds while the proceeds were in a term deposit? | A1: No. | Q2: Are you entitled to a partial deduction for the interest incurred on the borrowed funds, up to the amount of interest earned from the term deposit? | A2: Yes.

Relevant facts and circumstances: You and your spouse sold your main residence in 2010. The mortgage against your home was split into 4 parts. You and your spouse had intended to buy a unit as an investment property after the sale of your property. The planned purchased did not occur straight after the sale. You and your spouse did not payout the mortgage with the sale proceeds as you wanted to purchase a new property with the pre-existing mortgage. You and your spouse discharged part of the amount owing on the mortgage. The remaining proceeds were put into a term deposit. You and your spouse continued to pay monthly principle and interest on the mortgage. An investment property was purchased and settled in 2011. The term deposit and mortgage arrangement were utilised for this purchase.

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

Reasons for decision: Summary: A deduction for interest incurred on the funds borrowed and subsequently placed in a term deposit is allowed to the extent of the interest received from the term deposit. | Detailed Reasoning - Detailed reasoning: Section 8-1 of the Income Tax Assessment Act 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. Taxation Ruling TR 95/33 considers the deductibility and apportionment of losses and outgoings where expenses are incurred for dual purposes. TR 95/33 states that if an outgoing produces an amount of assessable income greater than the amount of the outgoing, there would normally be no need to examine the taxpayer's motives and intentions when determining the deductibility of the expenditure. However, 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. If it is concluded that the disproportion between the outgoing and the relevant assessable income is essentially to be explained by reference to the independent pursuit of some other objective (for example, to derive exempt income or the obtaining of a tax deduction), then the outgoing must be apportioned between the pursuit of assessable income and the other objective: see Fletcher & Ors v. FC of T 91 ATC 4950; (1991) 22 ATR 613 ( Fletcher' s case ). In this case, you and your spouse were intending to purchase a new property using the pre-existing mortgage. When the purchase of the new property did not proceed, the funds were deposited into a term deposit. As the borrowed funds were used to derive interest income, it can be said that the funds had an objective other than the single pursuit of deriving rental income. For this reason, it is considered that your circumstances are consistent with those examined in Fletcher's case. However, as the interest derived from the term deposit is assessable income and is attributable to the funds borrowed, a deduction for some amount of interest is therefore appropriate. A deduction for interest incurred on the funds borrowed and subsequently placed in a term deposit is allowed to the extent of the interest received from the term deposit.

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.