2 Strategies to avoid contaminating loans with loan increases

Discussion in 'Loans & Mortgage Brokers' started by Terry_w, 21st Jun, 2017.

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  1. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    2 Strategies to avoid contaminating loans with loan increases


    In this thread I am assuming that interest can be deductible where money is borrowed and parked in a clean offset account and later used for investment purposes. This is an assumption that may or may not be correct for your particular situation. See my tip:

    Tax Tip 1: Parking borrowed money in an offset account https://propertychat.com.au/communi...ing-borrowed-money-in-an-offset-account.1313/


    When increasing a loan and accessing equity with most banks they will need to pay out the money to somewhere, i.e. they won’t leave it undrawn in the loan account. This poses a risk because banks often pay the money into the wrong account and this has serious tax consequences. This has happened to at least one of my clients and we were not able to get the bank to reverse the transaction.


    Solution 1

    Example 1

    X has a current loan of $300,000 and wants to increase the borrowings to $400,000 by borrowing an extra $100,000. He decides to split the loan so that there is two splits, Split A for $300,000 and Split B for $100,000. He tells the bank to open a new offset account and pay the $100,000 into that account.



    The bank doesn’t do as instructed and pays the $100,000 into his existing offset account which already contains other cash money. Therefore the $100,000 loan is now a mixed purpose loan because when he goes to withdraw the $100,000 from the offset account to invest he won’t be able to say it was solely the borrowed $100,000 money that was used.


    Solution – repay the money back into the loan and then redraw. This will refresh the loan from a tax perspective. When the money is redrawn again it can be paid directly into the clean and empty offset account – see tax tip 1.


    Solution 2

    But there may be another more simple solution. And that is to clear all funds from accounts with that bank. If you have another offset account with money in it, then move that money out into another account for a few days until settlement happens. That way if the bank does deposit the money into the wrong account it won’t be mixed with cash. It may cost you a few days in lost interest, but think of that as an insurance policy.


    Example 2

    X banks with a bank whose name starts with “N” and therefore assumes they will put the money in the wrong account. He empties his existing offset account by moving the cash to another bank account he has with ING. He does this a few days before the anticipated settlement date. Now his existing bank has 2 options as to where the money will go – the existing offset account or the new one as instructed. If they get it wrong, there will be no contamination.



    As it happens they do get it wrong and put the money in the wrong bloody account. X simply transfers it to the new offset and then transfers his cash back into the original offset account.


    The down side of this is a small loss in interest from having the cash out of the offset for a few days, but this is like a small insurance policy.
     
  2. Corey Batt

    Corey Batt Well-Known Member

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    Good tips there Terry - something we have to deal with often due to a number of lenders being fairly ineffective in following instructions for payment of surplus funds. Usually not the end of the world as the workarounds are relatively quick and simple - but you have to wonder how many people without professionals on their side are not realising some of the errors they make.
     
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  3. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    I have found that Banks with names starting with N are the main culprits.
     
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  4. Jerry O

    Jerry O Well-Known Member

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    Good tips Terry!

    Hard to get the banks to follow instructions. (Bloody Nestpac hey?! :p)
     
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  5. Angus74

    Angus74 Member

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    Hey Terry,

    Just a quick question. I have recently redrawn equity for the first time and this post has got me questioning if this happened to me. The 65k equity was released by setting up a interest only variable loan with an offset attached. I thought the bank was going to just put the 65k straight into the offset account but they deposited it into my ever day spending account which bare in mind only had $20 in it at the time, I then transfered the 65k straight to the offset account. Has this contaminated the loan as I was soon to be useing part of that 65k as a deposit + costs for ip2.

    Going forward as well should I be setting up an additional offset account to put my rental income, payg so to not mix these up as there would be still some left over money from the 65k which I would like to contribute toward ip3

    Would really appreciate your advice terry

    Cheers
     
  6. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    Hi Angus

    Yes you have fallen into the mixing trap. but the portions may be relatively small as 20/65,000 is a very low percentage. However if you put further funds into this account, including rent, you will be mixing it further.
     
  7. albanga

    albanga Well-Known Member

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    Hey Terry,
    A lot is said about loan contamination and no doubt best to avoid!
    But I have spoken to a number of accountants on the issue and none seem to see it as a major issue so long as the loan has been correctly split out.
    For example 200k OO loan with offset. 50k new equity release for investment. On settlement bank puts the 50k into the OO offset which has personal funds. Person spends money in offset and then eventually buys an investment and uses 100k which includes personal savings and the 50k which was released into the offset.

    Obviously You have mixed borrowed funds with savings but I have now asked 3 separate and respectable accountants who do not see this as a big concern and said they will just apply a percentage. They said much more a concern if you had topped up the 50k as part of the 200k loan though.

    What is your professional take on this?
    What happens come tax time when applying the percentage rule?
     
  8. Angus74

    Angus74 Member

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    Hey Terry,

    Thanks for your quick reply.

    So essentially $20 of interest from that 65k might not be tax deductible?

    Going forward if I was to set up a separate offset account but still have it attached to the 65k equity loan would it be fine to put rental income, payg money in to this while using it for personal expenses aswell well?

    One more questions while purchasing ip2 I will obviously be taking the deposit and stamp duty from the 65k offset account but am I allowed to also take cost such as legal and pest and building aswell if I wanted full tax deductions? Cheers
     
  9. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    See the Domjan case mentioned in tax tip 1. The Administrative Appeals Tribinal would disagree with your accountants.
     
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  10. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    Have a read of my tax tips - all this has been covered.
     
  11. albanga

    albanga Well-Known Member

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    Has their been any more of these cases?
    It just seems so grey as opposed to a black and white ruling.

    I know the point is don't do it and don't have a problem.

    But do you feel with certainty that an accountant claiming borrowed funds into an offset is doing the wrong thing? If they can clearly trace them back and show proof the trail then IMO this is in no way malicious.
     
  12. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    Yes they certainly wrong..it is also common sense that mixing occurs. Maliciousness is irrelevant.

    No other cases that I know of.
     
  13. Angus74

    Angus74 Member

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    Hey Terry,

    Been reading through a lot of your tax tips and they have been helpful.

    I'm still a bit confused on what to do with the left over money from the offset account though after purchasing ip2. I am going to set up the new loan for ip2 as a IO loan with offset so will be using that offset to pay everything into so I am not touching the left over offset from ip1 which will still have 20k in it, so I'm a bit at a loss in what to do with the leftovers as it seems a bit messy as I will be going with the same lender and now have two offset accounts. I presume I would just wait and use that 20k to contribute to the ip3 or expenses for ip2.

    sorry if this has been covered in your tax tips, I couldn't find this exact scenario though.

    Cheers
     
  14. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    It would be just like an undrawn line of credit. You could use it for investment purposes, pay it back into the loan or use it to buy a pinball machine (but the you would be mixing.)
     
  15. Angus74

    Angus74 Member

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    Got it thanks Terry,

    Last annoying question though sorry Terry. So because the original equity was released into my saving account with $20 into it which was then transferred straight to the offset with no spending from the saving account in between I gather this might not matter and will still be contaminated? but because if was only $20 is it worth fixing up by putting back into the loan then taking out again into the clean offset account? Bare in mind my offer for IP2 was just accepted yesterday so will need to access these funds within the next few days. In other words learn from the mistake for next time but not worry too much this time because such a small amount was contaminated?

    Thanks mate really appreciate your input
     
  16. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    My advice would be none of the interest would be deductible strictly speaking because it has gone to a savings account and it is mixed and there will be a time gap between borrowing and using.

    I would suggest you pay back into the loan and reborrow again when needed.
     
  17. Angus74

    Angus74 Member

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    Wow, so your basically saying if I was to use the whole 65k for ip2 that none would be duductable not just a portion of 20/65000. You can easily see though the money trail I would of thought even though it did go into my savings first.
     
  18. Angus74

    Angus74 Member

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    Thanks for your advice Terry I have taken this on board.

    I have just got of the phone to the bank and done the following:

    -Transferred the money from the offset back into the loan -$1 so the loan wouldn't close
    - There is now $1 left in original offset account
    - There is now $1 balance on loan but $64999 in available funds to redraw
    - I have opened a new offset because I wasn't sure if the $1 in the original offset account would still contaminate the $64999 if I was to put this back into that account

    So my question is:

    1. Redraw and put the $64999 back into the orginal offset account with $1?
    2. Put the $64999 into the new offset account
    3. Leave in the Loan where I have the available $64999 and redraw when needed (but how? for building and pest, deposit, stamp ect) as you said before?
     
  19. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    see tax tip 1
     

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