Private ruling: deduction for interest expense on loans for rental properties
Published: March 2012
Ruling period: Year ended 30 June 2011 | Year ended 30 June 2012 | Year ended 30 June 2013 | Year ended 30 June 2014 | Year ended 30 June 2015
Date scheme commenced: 01 July 2010

Ruling: Q1: Are you entitled to a deduction for the interest expenses incurred on the borrowed funds used to purchase rental properties? | A1: Yes

Relevant facts and circumstances: Residence You shared ownership of your home with your spouse. You held a loan on this property. This loan was referrable only to the property and did not include any private expenditure. You separated from your spouse in 2011 and there was a court order allowing you to purchase your spouse's share of this property. To purchase this share you refinanced with a new loan which does not include any private expenditure. You are now the sole owner of this property and you currently rent it out. Investment Property You and your spouse owned a 50% share of an investment property. You held a loan on this property. This loan was referrable only to the property and did not include any private expenditure. You separated from your spouse in 2011 and there was a court order allowing you to purchase your spouse's share of this property. To purchase this share you refinanced with a new loan which does not include any private expenditure. You now own 50% of this property and it continues to be rented out.

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 or 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 in nature or are necessarily incurred in gaining or producing exempt income. The general principles relevant to the deductibility of interest expense are set out in Taxation Ruling TR 95/25. This Ruling provides that interest expense is incurred in gaining or producing assessable income and is not of a capital, private or domestic nature if it has a sufficient connection with the operations or activities which more directly gain or produce the taxpayer's assessable income and it is not of a capital, private or domestic nature. The test is one of characterisation and the essential character of an expense is a question of fact to be determined by reference to all the circumstances. The character of interest on a loan is generally ascertained by reference to the purpose of the loan see Fletcher & Ors v. Federal Commissioner of Taxation (1991) 173 CLR 1; 91 ATC 4950; (1991) 22 ATR 613 and the use to which the loan is put see Federal Commissioner of Taxation v. Munro (1926) 38 CLR 153. Therefore, if a loan is used to purchase property from which income is to be derived, the interest paid on the loan is generally deductible. In your case, you are using the loans to purchase your ex-spouse's share in two properties at market value for the purpose of deriving rental income. You are entitled to a deduction, under section 8-1 of the ITAA 1997, for the interest payments on loans, where the proceeds of the loans are used to purchase your spouse's share in two properties, at market value, for the purpose of deriving rental income.

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