Edited version of your written advice

Authorisation Number: 1013066823335

Date of advice: 10 August 2016

Ruling

Subject: Rental property expenses

Question

Are 100% of the interest and borrowing costs allowable in the calculation of your net rental income/ loss or in your CGT cost base of your property where the expenses are not deductible against your rental income, though the loan is jointly held?

Answer

Yes.

This ruling applies for the following periods:

Year ended 30 June 2015

Year ended 30 June 2016

The scheme commenced on:

1 July 2014

Relevant facts and circumstances

You purchased an investment property.

You completed the transaction for this property as sole legal owner in an arm's length commercial transaction.

Due to the lender's requirements, the mortgage on this property is in joint names with your spouse.

The property is currently rented by family members at less than market value under a tenancy agreement.

In your previous tax return, costs relating to this property were deducted against income, though limited to the amount of income received.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Reasons for decision

Loan in joint names

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.

Interest paid on a mortgage over a rental property is considered an allowable deduction for the purposes of section 8-1 of the ITAA 1997.

Taxation Ruling TR 93/32 explains that the loss or income from a rental property must be shared according to the legal interest of the owners, except in those very limited circumstances where there is sufficient evidence to establish that the equitable interest is different from the legal title (paragraph 6). It goes on to explain at paragraph 41, that where taxpayers are related, for example, husband and wife, the equitable right is presumed to be exactly the same as the legal title.

A person's legal interest in a property is determined by the legal title to that property under the land law legislation in the State or Territory in which the property is situated. The legal owner of the property is recorded on the title deeds for the property issued under that legislation.

Where the title deed indicates sole ownership of a property, and the mortgage is held in joint names, the legal owner can claim the full amount of the interest paid. The fact that the other party to the mortgage may have paid some of the mortgage expenses is of no consequences for income tax purposes. The ATO treats the payment of the other party's share of the expenses as no more than a loan from the other party to the taxpayer (Taxation Ruling TR 93/32 paragraph 49).

In your case, your name is shown on the title deed to the rental property as the sole owner. Therefore, the loss or income from the rental property must be shown solely by you.

Your spouse is a party to the mortgage over your property. The ATO regards any mortgage payments made by your spouse as merely a loan to you as part of a private arrangement, and they do not affect the legal ownership of the property.

As you are listed on the title deed as the sole owner of the rental property, the mortgage interest payments are fully deductible by you under section 8-1 of the ITAA 1997.

Deductions allowable though limited to income received

Taxation Ruling IT 2167 discusses the Commissioner's views on non-economic arrangements where property is let to relatives. If property is let to relatives at less than commercial rent, the essential question for decision is whether the arrangements are consistent with normal commercial practices in this area. If they are, the owner of the property would be treated no differently for income tax purpose from any other owner in a comparable arm's length situation.

Where property is let to a relative for low rental, the rental is generally still considered to be assessable for income tax purposes. However, the losses and outgoings in relation to the property are not necessarily deductible in full.

The courts looked at the subjective purpose in Fletcher v FCT (1991) 91 ATC 4950 (Fletchers case), and the Court held that where an outgoing gives rise to a receipt of a greater than an amount of assessable income, it is often impossible to characterise an outgoing as being wholly incurred in gaining or producing assessable income without reference to the taxpayer's subjective thought process. The principle arising from Fletchers case was that where the deductions which were attributable to the activity are in excess of the assessable income from the activity it is necessary to review the taxpayer's subjective motive for incurring the expenses.

In your case, you are renting your property to family members at below market value rates. As such, the principles in Fletchers case will apply to limit your deductions to the amount of assessable income received from the property.

Rental property deductions and cost base

You can claim a deduction for certain expenses you incur for the period of time your property is rented or is available for rent. However, you cannot include expenses in your cost base calculation that have previously been claimed as rental property deductions.

The cost base of a CGT asset is generally the cost of the asset when you bought it. However, it also includes certain other costs associated with acquiring, holding and disposing of the asset.

In order to work out how much your capital gain or capital loss is, you must first establish the cost base or reduced cost base of your ownership interest in the property.

The cost base of a CGT asset is made up of five elements.

1. money or property given for the asset

2. incidental costs of acquiring the asset or that relate to the CGT event

You do not include costs if you:

• have claimed a tax deduction for them in any year, or

• omitted to claim a deduction but can still claim it because the period for amending the relevant income tax assessment has not expired

3. costs of owning the CGT asset

You do not include such costs if you acquired the asset before 21 August 1991. Nor do you include them if you:

• have claimed a tax deduction for them in any year, or  

• omitted to claim a deduction but can still claim it because the period for amending the relevant income tax assessment has not expired

4. capital costs to increase or preserve the value of your asset or to install or move it

5. capital costs of preserving or defending your ownership of or rights to your asset

In your case, loan interest and borrowing costs in excess of the amounts you have claimed or could claim as immediate deductions in the year you incurred them can be used in your calculation of the cost base of your property.