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Ruling

Subject: Interest on restructure of loan

Question

If you have a mixed purpose line of credit loan (LOC 1) and you establish a second line of credit (LOC 2) for the private portion of the loan, are you entitled to claim a deduction for 100% of the interest expense on the LOC 1 from the date the LOC 2 was established?

Answer

Yes

This ruling applies for the following period

Year ended 30 June 2012

The scheme commenced on

1 July 2011

Relevant facts and circumstances

You have a line of credit (LOC 1) that has been used for both business and private purposes.

You decided to separate the private component of LOC 1 from the business component.

You established a second line of credit (LOC 2) equal to the private portion of LOC 1 and paid these funds into LOC 1.

After the establishment of LOC 2, you had two lines of credit:

· LOC 1 with a balance representing the business related borrowings, and

· LOC 2 with a balance representing the private purpose borrowings.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1.

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 or a provision of the taxation legislation excludes it.

Taxation Ruling TR 95/25 provides that the deductibility of interest is determined by the use to which the borrowed money is intended. The use test is the basic test for the deductibility of interest and looks at the application of the borrowed funds as the main criteria. Where the borrowed funds are used for the purpose of producing assessable income, a deduction will be allowed for the interest on the loan.

Taxation Ruling TR 2000/2 sets out the Commissioner's views on the deductibility of interest on drawings against a line of credit or redraw facility.

Paragraph 18 of TR 2000/2 provides for the situation when a taxpayer refinances a debt outstanding on a mixed purpose loan. It is accepted that if a taxpayer uses two separate accounts or sub-accounts to borrow amounts which are equivalent to the income producing and non-income producing portions of the mixed purpose loan, the interest accrued on the debt incurred in refinancing the income-producing portion will be deductible.

In your case, you have obtained LOC 2 to refinance the portion of LOC 1 which is attributable to non-income producing purposes. The balance of LOC 1 represents the funds borrowed which are attributable to income producing purposes.

Whilst you have not refinanced LOC 1 with two new loans, it is accepted that the action you have taken has resulted in the same outcome which would have occurred if you had refinanced with two new loans. That is, you now have two line of credits:

· LOC 1 containing that portion of the original balance, attributable to income producing purposes, and

· LOC 2 containing that portion of the original balance, attributable to non-income producing purposes.

For this reason, the interest on LOC 1 will be deductible in full from the date LOC2 was established as it relates to earning your assessable income.