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Edited version of private ruling
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Ruling
Subject: interest deductions
Can you claim a deduction for interest incurred on a loan taken out to discharge mortgages on investment properties as a result of a Family Court Order?
No.
This ruling applies for the following period
Year ended 30 June 2010
The scheme commenced on
1 July 2009
Relevant facts
You and your spouse jointly held three investment properties with the purchases financed by bank loans.
When you and your spouse separated, a Family Court Order required you to discharge the mortgages on two of the investment properties and sign over all your rights and interests in the properties to your spouse.
In return, your spouse was ordered to discharge the mortgages on two other properties and sign over all of their rights and interests in those properties to you.
You signed over your rights and interests in the properties to your spouse and you took out a loan to pay out the mortgages on these properties.
Reasons for decision
Section 8-1 of the Income Tax Assessment Act 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 considers the deductibility of interest. Whether interest has been incurred in the course of producing assessable income generally depends on the use to which the borrowed funds have been put. The 'use' test, established in Federal Commissioner of Taxation v. Munro (1926) 38 CLR 153, is the basic test for the deductibility of interest, and looks at the application of the borrowed funds as the main criteria. Where borrowed funds are used to acquire an income producing asset (for example, a rental property), the interest on the borrowed funds is considered to be incurred in gaining or producing assessable income and will be an allowable deduction. Alternatively, where borrowed funds are used for a private or domestic purpose, the interest on the borrowed funds will not be an allowable deduction.
In your case, you borrowed funds to comply with a Family Court Order. As part of the settlement, your spouse gained full title of two jointly held rental properties and you gained full title of two other properties.
A taxpayer's marital arrangements are normally regarded as being private in nature. The interest you incur on this loan is not an expense incurred in gaining or producing your assessable income from the rental property as it is considered an expense relating to your marriage settlement. Accordingly, the interest is regarded as being of a private or domestic nature and you are not entitled to a deduction for this expense.
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