Private ruling: Interest expenses
Date of advice: 26 November 2015
Published: February 2016
Ruling period: Year ended 30 June 2014 | Year ended 30 June 2015
Date scheme commenced: 1 July 2013

Ruling: Q1: Are you entitled to a deduction for your share of the interest expenses, rates, land taxes and emergency services levy incurred during the renovations to your investment property? | A1: Yes.


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 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. Generally, interest expenses incurred for income producing purposes are deductible under section 8-1 of the ITAA 1997, to the extent that it is not capital, private or domestic in nature. The essential character of the expense is a question of fact to be determined by reference to all the circumstances. Taxation Ruling TR 95/25 Income tax: deductions for interest under section 8-1 of the Income Tax Assessment Act 1997 following FC of T v. Roberts; FC of T v. Smith provides the Commissioner's view regarding the deductibility of interest expenses. As outlined in TR 95/25, there must be a sufficient connection between the interest expense and the activities which produce assessable income. TR 95/25 specifies that to determine whether the associated interest expenses are deductible, regard must be given to all the circumstances including the purpose of the borrowing and the use to which the borrowed funds are put. The interest incurred will generally be deductible to the extent that the borrowed funds are used to produce assessable income. The Commissioner's view on whether interest deductions are allowable prior to the commencement of income earning activities and the implications of the decision of the High Court in Steele v. FC of T (1999) 197 CLR 459; 99 ATC 4242; (1999) 41 ATR 139 ( Steele's case ) are outlined in 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. In Steeles case, the High Court considered the deductibility of interest expenses incurred on borrowings to purchase land intended to be developed for income production. TR 2004/4 concludes 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. While Steele's case deals with the issue of interest, the principles can be applied to other types of holding expenditure such as rates. In your case you have demonstrated the required commitment to the renovations of the property since purchase. After purchasing the property, you obtained the building permit and commenced renovations. You have employed tradesmen as well as doing much of the work yourself. You have put significant time, energy and money into the property since purchase. Although rental income from the property may not be derived for a few months, it is considered that there is sufficient connection between your interest and holding expenses to the earning of your assessable income. It is also considered that continuing efforts are being undertaken to earn assessable rental income and the other requirements as outlined above are met. Consequently a deduction is allowable for the interest expense incurred on your investment loan under section 8-1 of the ITAA 1997. Similarly the holding costs incurred while the property is being renovated such as rates, land taxes and emergency services levy are sufficiently connected to the earning of your assessable income and are allowable deductions. Please note, that as you own the property jointly with your spouse, then the allowable deductions are shared according to your legal ownership.

Relevant facts: You and your spouse purchased a property with the intention to renovate it then rent it on an ongoing basis. | You originally thought that the renovations would take three to six months and then the property would be rented. However the extent of renovations required was greater than first thought. Renovations included bathroom replacement and new ensuite. | You are doing the renovations yourself. You have also hired some tradesmen. | The building permit was issued on soon after purchase and the certificate of completion has been issued. The property still needs the completion of floor finishes, curtains and some painting. | You are away on holidays for a few weeks and you expect that the property will be rented shortly. | Since the building permit was issued you have worked continuously on the property in your spare time. You are employed full time. | You have incurred interest expenses as well as local council, water and sewage rates, land taxes and emergency services levy on the land.