Edited version of private ruling

Authorisation Number: 1011635673449

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Ruling

Subject: interest deductions

Question

Are you entitled to claim a deduction of the full interest charged on your investment loan with redraw facilities when you have withdrawn additional deposits for private use?

Answer:

No.

This ruling applies for the following period

Year ended 30 June 2010

Year ending 30 June 2011

The scheme commenced on

1 July 2009

Relevant facts

You purchased an investment property.

A relative lent you a sum of money to use for private purposes and you deposited the remaining money into your investment property loan account.

You always intended to redraw the money in the future to repay the debt.

The money was withdrawn at a later date and the debt repaid.

Your investment loan balance has now increased.

Your accountant has informed you that your will not be able to claim a deduction for the interest incurred on this loan due to the redrawn funds.

You now realise that you should have deposited the additional funds into your savings account.

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 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 moneys is considered to be incurred in gaining or producing assessable income.

Taxation Ruling TR 2000/2 states that the deductibility of interest on a further borrowing of money under a redraw facility depends upon the use to which the redrawn funds are put. Where the original borrowing is for income producing purposes and the taxpayer uses the redrawn funds wholly or partly for non-income producing purposes, that part of the accrued interest attributable to the redrawn funds used for non-income producing purposes is not deductible.

In your case, you made additional payments into your investment property loan, reducing the interest payments in the short term and the debt owing on your investment property. The withdrawal of additional funds from this loan, increasing the loan to its previous position, is regarded as a new borrowing or redraw; just as any new borrowing for a similar amount is a separate borrowing. The deductibility of the interest on that separate borrowing depends on the use of the funds and whether the interest is incurred in gaining or producing assessable income.

In your situation, the 'new borrowing' was used to repay a private debt and not for an income producing purpose.

It is acknowledged that you always intended that the deposits be temporary as the monies would be redrawn in the future. However, the Commissioner does not have any discretion to allow you a deduction for the interest incurred on the redrawn amount.

As you used the redrawn funds for a non-income producing purpose, a deduction for the interest incurred is not an allowable deduction under section 8-1 of the ITAA 1997.