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Edited version of private ruling
Authorisation Number: 1011795004031
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Ruling
Subject: compound interest
Question 1
Are you entitled to a deduction for the interest you incur on your line of credit where you allow the interest to charge to itself loan without payment?
Answer: Yes
Question 2
Is this deductibility conditional upon the line of credit being secured by any particular property?
Answer: No
This ruling applies for the following period
Income year ended 30 June 2011
Income year ended 30 June 2012
Income year ended 30 June 2013
Income year ended 30 June 2014
The scheme commenced on
1 July 2010
Relevant facts and circumstances
You own a property which you currently use as your home.
You own a rental property which is currently rented at market rates.
When the current lease on your rental property expires, you will move into your rental property and commence using it as your home.
You will then commence using your previous home as a rental property, rented at market rates.
You will obtain a line of credit from which you will pay all deductible expenses you incur in respect of your rental property (ex home). You will not use this line of credit for any private purpose.
Your loans are secured by both the home and rental property.
You will allow the interest incurred on some of the line of credit to compound (charge to the line of credit without repayment).
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.
Whether interest has been incurred in the course of producing assessable income generally depends on the purpose or use to which the borrowed funds have been put. 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. Compound (or capitalised) interest, as with ordinary interest, derives its character from the use of the original borrowings: Taxation Determination TD 2008/27.
The deductibility of interest is not conditional upon the choice of property offered as security for the borrowings, as it is the use and purpose of the borrowings which is relevant: Taxation Determination TD 93/13.
Where you allow interest incurred on your line of credit to simply charge to itself without repayment, the interest is compounding. Accordingly you are entitled to a deduction for the interest you incur as its character follows that of the original borrowing, which is in respect of earning assessable income.