Edited version of private ruling

Authorisation Number: 1011852204791

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Ruling

Subject: Deduction-interest

Question 1:

Are you entitled to a deduction for interest incurred on a loan used to purchase an investment property off-the-plan?

Answer: Yes.

Question 2:

Are you entitled to a deduction for council and sewerage rates incurred on land held for income producing purposes?

Answer: Yes.

Question 3:

Are you entitled to a deduction for lenders mortgage insurance in relation to a loan used to purchase an investment property off-the-plan?

Answer: Yes.

Question 4:

Are you entitled to a deduction for loan application fees on a loan used to purchase an investment property off-the-plan?

Answer: Yes

This ruling applies for the following period:

Year ending 30 June 2012
Year ending 30 June 2013

The scheme commenced on:

1 July 2010

Relevant facts

You are intending to purchase an off-the-plan investment property.

You will borrow funds from a financial institution.

The loan will be an interest only loan.

The property will be solely owned by you.

The construction of the dwelling is expected to start in one income year and the expected completion for the construction of the dwelling and settlement date is to occur in the following income year.

The investment property will be rented once it is completed.

You are expecting to pay for the following expenses:

lender mortgage insurance in relation to the loan

· council and sewage rates before the property is rented

· loan application fees.

Relevant legislative provisions:
Income Tax Assessment Act 1997 section 8-1
Income Tax Assessment Act 1997 section 25-25 

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, or relate to the earning of exempt income.

In Steele v. Federal Commissioner of Taxation (1999) 197 CLR 459; 99 ATC 4242; (1999) 41 ATR 139 (Steele's Case), the High Court considered the deductibility of interest expenses incurred on borrowings to purchase land intended to be developed for income production. It follows from Steele's Case that interest incurred in a period prior to the derivation of relevant assessable income will be incurred in gaining or producing the assessable income in the following circumstances:

· the interest is not incurred too soon, is not preliminary to the income earning activities and is not a prelude to those activities

· the interest is not private or domestic

· the period of interest outgoings prior to the derivation of relevant assessable income is not so long, taking into account the kind of income earning activities involved, that the necessary connection between outgoings and assessable income is lost

· the interest is incurred with one end in view, the gaining or producing of assessable income, and

· continuing efforts are undertaken in pursuit of that end.

While Steele's Case deals with the issue of interest, the principles can be applied to other types of expenditure including rates, land taxes and insurance expenses and borrowing costs.

You intend taking out an interest only loan to purchase an investment property off the plan in one income year. The expected settlement date is in the following income year. The period of time between the purchase of the investment property and expected construction and settlement date of the property is not considered to be so long that the necessary connection between the interest outgoing and the derivation of income is lost.

As your property will become income producing soon after completion you are entitled to claim a deduction for interest expenses incurred on the loan to purchase the property. Similarly, the council rates and sewerage charges incurred in relation to land on which an income producing property is being built are also deductible under section 8-1 of the ITAA 1997.

Borrowing expenses

Expenditure incurred in borrowing money is normally a non-deductible capital expense. However, section 25-25 of the ITAA 1997 specifically allows a deduction for certain borrowing expenses.

Borrowing expenses, which may include establishment fees, legal fees, stamp duty on the loan and valuation fees, are deductible to the extent that the borrowed moneys are used or are to be used during that income year for income producing purposes.

The principles in Steele's case can also be applied to borrowing costs. Therefore, you are entitled to claim a deduction under section 25-25 of the ITAA 1997 for the loan application and the lenders mortgage insurance fees as part of the borrowing expense in relation to the purchasing the investment property off-the-plan which will be used solely for income producing purposes after construction. However, this section also states that where borrowing expenses total more than $100, the deduction must be spread over the period of the loan or five years, whichever is less.