Edited version of private advice

Authorisation Number: 1052202162634

Date of advice: 12 December 2023

Ruling

Subject: Deduction - prepaid interest

Question

Is the prepaid interest you paid for your investments an allowable deduction in full under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for the 2021-22 financial year?

Answer

No.

This ruling applies for the following period:

Period ended 30 June 2022

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

You are a self-managed superannuation fund (SMSF), that is not carrying on a business.

You invested in investments via a deferred purchase agreement with a limited recourse loan.

You provided us with details on your investments which included: amount invested, issue price per unit, amount of prepaid interest, time period for the prepaid interest.

You provided us with the Product Disclosure Statement for your investments.

You provided us with the Deferred Purchase Agreement with Loan Master Product Disclosure Statement.

You claimed a deduction for the prepaid interest in full when you lodged your tax return for the ruling period.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1936 section 82KZMA

Income Tax Assessment Act 1936section 82KZMD

Reasons for decision

Section 8-1 of the 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.

Subdivision H of Part III of the Income Tax Assessment Act 1936 (ITAA 1936) provides rules for the period of deductibility of certain advance expenditure and applies in certain circumstances to change the timing of a deduction for expenses incurred under section 8-1 of the ITAA 1997. Under section 82KZMA and section 82KZMD of the ITAA 1936 certain expenditure that would otherwise be fully deductible under section 8-1 of the ITAA 1997 is instead deducted over a specified period.

Subsection 82KZMA(3) of the ITAA 1936 provides that the expenditure must be incurred:

(a)  in carrying on a business or incurred otherwise than carrying on a business by a taxpayer that is not an individual,

(b)  under an agreement (as defined in subsection 82KZL(1) of the ITAA 1936), and

(c)   in return for doing of a thing under the agreement that is not to be wholly done within the expenditure year.

Where all the elements of subsection 82KZMA(3) are satisfied, subsection 82KZMD(2) of the ITAA 1936 provides for the expenditure to be deductible pro-rata across the eligible service period.

You incurred expenditure as a non-individual who is not carrying on a business and under a deferred purchase agreement, for the purposes of subsection 82KZL(1) of the ITAA 1936.

The final issue is therefore whether this expenditure is in return for the 'doing of a thing' that is not to be wholly done within the expenditure year.

The purchase agreement provides that the interest payment is a prepayment of the interest amount on the loan for a specified period at an interest rate. The prepaid interest was for a period of 18 months.

As all the elements of subsection 82KZMA(3) are satisfied, the prepaid interest will be deductible pro-rata across the 18 month period as per the formula in 82KZMD(2) of the ITAA 1936.