For most geared investors, interest is generally the largest deductible claimed against rental income, so it demands the most attention.
A ‘Negatively Geared Investment Property’
is when interest on a loan helps to produce a rental loss over a financial
year.
This net rental loss is generally
offset against the owner’s/landlord’s other income, reducing their payable tax,
and may makes the investment property more attractive. Ensuring that interest
can be claimed as a deductible is therefore critical.
Solutions that offer a faster
reduction of a home loan balance while maximising deductions of interest on
rental investments should be carefully scrutinised. In the case of ‘Split’
loans which in their various forms generally mean interest on the investment
loan is capitalised, while all income including rent is directed towards
reducing the home loan with its non-deductible interest expense.
This type of arrangement may be considered
tax avoidance. Interest on the capitalised interest (interest charged on interest)
may not be deductible (this depends on the ATO).
From my research here is a way if you
are about to refinance or purchase a rental property on how to set up your loan
arrangement so that you are likely to be in the best position to take advantage
of any circumstances where the ATO concedes capitalised interest is deductible.
No guarantees here but the following loan structure avoids most of the obvious
traps though of course at this stage do not claim any capitalised interest
without first obtaining an ATO ruling:
1)
Use all the available equity in your
own home to secure a loan for the maximum amount you can. Use this loan to pay
for the rental property. No doubt you will need more than that. The second loan
can be secured by the investment property but this should leave available
equity in the investment property to secure a line of credit should you later
want to do so. This further reduces the link between the loan where the
interest will be capitalised and your home. The ATO cannot argue that effectively
you are not reducing the debt on your home but only shifting debt fromnon-deductible to deductible.
2)
Do not have the home loan linked to
other loans i.e. with a floating cap. It is fine to have a split facility with
all your deductible debt but keep the home loan outside of this facility.
3)
Do not use a product that is marketed
in any way for tax benefits.
Given the attitude of the Australian
Taxation Office (ATO) – it is recommended that rental income be deposited into
the rental investment loan account to cover the interest expense. When rent is
less than interest and other expenses, using another loan, including a line of
credit, is practical.
The interest on that component should
be deductible. Where the line of credit is also used for private expenditure,
keep detailed records to calculate the deductible portions of interest and to
explain to the ATO in case of an audit.
Detailed documentation is also recommended
when consolidating several small loans into one or two new loans on a
re-structure or when borrowing more to finance a next investment after a
positive revaluation.
I strongly suggest as always consulting
your financial adviser or accountant see if negative gearing is ideal for your
financial situation.
