Private ruling: Interest expenses
Date of advice: 8 July 2016
Published: August 2016
Ruling period: Year ended 30 June 2016 | Year ended 30 June 2017 | Year ended 30 June 2018 | Year ended 30 June 2019
Date scheme commenced: July 20XX

Ruling: Q1: Are you entitled to a deduction for the interest expenses incurred on loan money used for your investment property after the property is sold? | 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. Where a property is rented or is available for rent, the associated interest expenses are generally an allowable deduction. In your case you have now sold your rental property. The Commissioner's view on whether interest deductions are allowable after the cessation of the relevant income producing activity is 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 . Paragraph 10 of TR 2004/4 states that where interest has been incurred over a period after the relevant borrowings (or assets representing those borrowings) have been lost to the taxpayer and the relevant 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. However, as highlighted in paragraphs 13 and 14 of TR 2004/4, if a 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 that is not related to the original income earning debt, then the nexus between the outgoings of interest and the relevant income earning activities will be broken. A legal or economic inability to repay is suggestive of the loan not having been kept on foot for purposes other than the former income earning activities. Whether or not the occasion of the outgoing of interest is to be found in what was productive of assessable income of an earlier period requires a judgement about the nexus between the outgoing and the income earning activities. In your case, your borrowed funds were used to purchase a rental property. You subsequently sold the property, however the funds received were insufficient to pay off the associated loans. You still have an outstanding amount in relation to this property. You hope to pay off the remainder of the loan when possible. As your borrowed funds were used to purchase a rental property and the property was genuinely available for rent for the full period of ownership, it is considered that the funds were used for income producing purposes. It is not considered that the loan is being kept for other non-income earning activities. Applying the principles of TR 2004/4, it is considered that your interest expenses on your loan are sufficiently connected to your prior investment property after the sale of the property. Therefore you are entitled to a deduction for the associated interest expenses incurred. | Detailed Reasoning - Additional information: It should be noted that if you do at any stage have the capacity to repay the loan and choose not to, the Commissioner would generally consider that the nexus between the interest and the gaining of assessable income would be broken and further interest deductions would not be allowable.

Relevant facts: You purchased an investment property as a sole owner. | You obtained loans to finance the purchase of the property. | Before purchase you had carried out an extensive 12 month research into both residential and commercial properties. | During your ownership period, the property was available for rent; however, with the exception of the months of rental guarantee income from the previous vendor, the property did not earn any rental income. | The property was listed with a real estate agent as soon as ownership was transferred. After the rental agreement ended you then introduced a second real estate agent. | You had difficulty in obtaining a tenant for the property. With the global financial crises (GFC) making people nervous, you dropped the normal market rent for a longer term lease. You advertised cheaper rent than other properties within the same building. | An extensive advertising campaign and 3D images were generated to show the fit-out and included internet based advertising. This generated plenty of interest but the response was always they could buy cheaper. | You maintained regular contact with your agent hoping to obtain a tenant. You offered reduced rent, rent free periods, free fit-outs to attract tenants, however you had no success. | As a result you incurred significant annual financial losses in relation to the property. | Due to the lack of income you were only able to meet the interest obligations on your loans. | You had to increase your borrowing in order to meet ongoing costs relating to the property such as rates, interest, insurance and body corporate fees. | The bank foreclosed on the loan because they realised that the property value had dropped below the loan amount. | Due to the above circumstances you had no choice but to dispose of the property. You sold it for less than the purchase price and as a result you realised a capital loss. | The net proceeds of the sale were used to repay down the existing loans. However, as the funds were insufficient to repay the total loans you still have an outstanding loan in relation to the property. | You have been unable to make any principal repayments in relation to the borrowings recently. | You wish to reduce the borrowing in relation to the property when financial resources allow you to do so.