Private ruling: Interest Expenses
Date of advice: 24 September 2015
Published: September 2015
Ruling period: Year ending 30 June 2016 | Year ending 30 June 2017 | Year ending 30 June 2018 | Year ending 30 June 2019
Date scheme commenced: 1 July 2015

Ruling: Q1: Is the interest on a redraw amount from a loan on a property that will be rented deductible where the redraw amount is used to purchase a primary residence? | A1: No. | Q2: Is the interest on the pre-redraw balance of that loan an allowable deduction when the property is rented or available for rental? | A2: Yes.

Relevant facts and circumstances: You acquired a loan to purchase your current primary residence. The home loan is solely in your name. You intend make your current primary residence available as a rental property. You intend to rent your property at a market value. You have been paying amounts above and beyond the minimum repayments as set out in the loan agreement with your lender. The total of your extra repayments is available for redraw. The extra repayments have been paid directly into your loan account. You intend to redraw the extra amount for the purpose of purchasing a new primary residence.

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

Reasons for decision: Summary: The Commissioner regards the redraw as a separate instance of borrowing to the original loan. His rationale is explained in paragraphs 39-43 of Taxation Ruling TR 2000/2. He does not view the extra repayments that allow the redraw to occur, as a debt due by the lender to the borrower (you). He views the loan agreement as giving the borrower a right (subject to restrictions in some cases) to borrow a further amount up to the balance of the loan debt that would have been outstanding if the minimum loan repayments required under the loan had been made. The extra repayments have been used to discharge part of the loan and the subsequent redraw is funded by a subsequent increasing of the overall loan. The funds used to make extra repayments simply cease to exist as an asset of the borrower after being used to discharge part of the loan debt. The extra repayments do not create a debt payable by the lender to the borrower and are not an asset of the borrower after they have been used to discharge part of the loan debt. At paragraph 22 of Taxation Ruling TR 2000/2 the Commissioner states that the deductibility of interest on a further borrowing of money under a redraw facility depends on the use to which the redrawn funds are put. If this is for a non-income producing purpose then the interest on the redraw amount is not deductible. You intend to use the redraw facility on your current home loan to purchase a new primary residence. This would mean that you are using the amount for a private or domestic purpose. Accordingly, the interest you incur on the redrawn amount will not be an allowable deduction. You should note that it makes no difference whether the amount is redrawn before or after the property is made available for rent. Interest and other deductions must be incurred in relation to a property which is held for income producing purposes. Where a property is not yet actually being rented it will be considered to be 'held' for the purpose of producing assessable income if it is genuinely available for rent. Taxation Ruling IT 2167 discusses the deductibility of costs that relate to periods during which a rent producing property is genuinely available for rent. The ruling states that expenses incurred during such periods should only be taken into account where it is established that active and bona fide efforts to let the property at a commercial rental were made. In your case it is your intention to move out of your current primary residence and make it available as a rental property. It is understood that the property may not start producing income immediately after you have vacated the premises, however, as long as you are making a genuine active effort to find tenants then it will be held that your property is available for rent and at that time the interest on the current balance of your loan will be an allowable deduction.

Reasons for decision: 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. | Taxation Ruling TR 95/25 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, it is necessary to examine the purpose of the borrowing and the use to which the borrowed funds are put. | The 'use' test, established in the High Court case Federal Commissioner of Taxation v. Munro (1926) 38 CLR 153, (1926) 32 ALR 339 is the basic test for the deductibility of interest, and looks at the application of the borrowed funds as the main criterion.