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Edited version of your written advice
Authorisation Number: 1012711529249
Ruling
Subject: Interest
Question 1
Are you entitled to a deduction for the interest on the total refinanced loan amount?
Answer
No
Question 2
Are you entitled to a deduction for a portion of the interest on a refinanced loan where the original loan was used for both purchasing your residential home and other private purposes when the residential home becomes an investment property?
Answer
Yes.
This ruling applies for the following periods
Year ended 30 June 2014
Year ended 30 June 2015
Year ended 30 June 2016
Year ended 30 June 2017
Year ended 30 June 2018
The scheme commenced on
1 July 2013
Relevant facts
You took out a loan in 2008 to buy a residential home.
Since then, you have paid down more than the banks requirements and also paid some lump sum amounts.
You have also drawn funds for private purposes over the years.
You have now refinanced the loan.
Your residential home has now become an investment property.
Relevant legislative provisions
Income Tax Assessment Act 1997 Section 8-1
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 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 that the deductibility of interest on borrowed funds is determined by the use of the borrowed money. The use test, established in FC of T 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 criterion.
Where a borrowing is used to acquire an income producing asset or relates to an income producing activity, the interest on this borrowing is considered to be incurred in the course of producing assessable income.
In your case, the loan was originally used for private purposes and therefore, no deduction is allowable for interest. However, once the property became income producing, the portion of the loan that was for the property is deductible.
As you have repaid extra amounts to the loan and redrawn funds for private purposes, it needs to be determined what portion of the loan is now used for income producing purposes.
Taxation Ruling TR 2000/2 Income tax: deductibility of interest on moneys drawn down under line of credit facilities and redraw facilities, discusses the deductibility of interest on drawings against a line of credit or redraw facility. It is considered that a repayment to a loan account is a permanent reduction to the debt and any redrawn funds constitute new lending. Where a loan is for mixed purposes, a deduction is only allowed for the portion of the interest which relates to an income producing purpose.
Paragraphs 12 to 21 of TR 2000/2 sets out a method of apportioning interest on mixed purpose accounts.
Where interest on borrowed money generally accrues daily, we accept that it would be unnecessarily onerous to require a manual daily apportionment calculation. We accept that the interest accrued in a month is deductible where it is calculated using an apportionment approach based on the average outstanding principal used that month for income producing purposes. The deductible portion of interest accruing in each month may be calculated as follows:
total interest accrued for the month x deductible interest percentage figure
The deductible interest percentage figure is calculated as follows:
((A + B) / (C + D)) x 100
where
A = opening balance (beginning of month) of outstanding principal used for income producing purposes,
B = closing balance (end of month) of outstanding principal used for income producing purposes,
C = opening balance of total outstanding principal and
D = closing balance of total outstanding principal.
Note: the closing balance for one month is the opening balance for the next month.
Consequently a calculation must be made taking into account any repayments you have made on the loan as these are considered to be permanent reductions of the loan. The calculation must also take into account the purpose of any redraws you have made on the loan as any private use redraws will affect the deductibility of the interest incurred. You will be entitled to only the portion of interest on the remaining balance of the original loan calculated using the above formula.
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