3 Co-Owners and deductibility of interest/expenses where one rents to the other

3 co-owners (likely to be tenants in common) with A 50% B 25% and C 25% of $1m property.

Owner A will live in the property and have home loan for 500k.

Owners B and C will also have home loan for $500k.

A will pay half of the market rent of the property to B and C.

Are there any problems with deductibility of B and C home loan interest, 50% of the property expenses against the rental income and associated negative gearing benefits ?

 

A & B/C may each separately claim their interest when each owner finances their respect %. A's wont be deductible. B/C will. Subject to below.

Most deductions would only be 50% deductible since A's portion is private subject to the next point......

If rent is not market rates (ie A pays 50%) then a reduction in the 50% of deductions to the same ratio is required for B / C. So 50% of all their deductions will be lost. ie just 25% would be counted against rental income. See this tax ruling.
Example Building insurance is $1,000. $500 is B / C share. A's $500 is private. Of this only $250 is deductible.

A may have a main residence exemption for their 50%. B/C will not have any exemption on their 50%. If B / C later sell the other 50% to A they will pay CGT based upon market values and A will not. . B & C may be able to use the non-deductible 50% of costs to reduce their profit on sale. But they may also need to adjust the costbase for quantity surveyor deductions they have claimed / or which are third element too. These non-deductibles are third element CGT costs.

At end of financial year A will have no tax report for this property B & C will.

 

If they have separate loans should be deductible interest for b and c. If combined then half of the interest might be deductible.

 

Interpreting half of market rent as A pays rent to rent the 50% owned by B/C, so A ‘pays’ ‘half’.

 

Thanks for the replies.

2 points of clarification - market rent for the whole property is $600 per week so A would pay $300 to B and C.

TerryW - could you please elaborate on your point ‘if combined then half of the interest might be deductible’

 

If there is one big loan then B and C could claim 25% of the interest each - potentially
If 2 or 3 separate loans they could claim the interest on 'their' loans

 

Thanks again Terry.
The bank have now come back with the following loan structure for a 100% loan of $1m for 3 applicants A, B and C:

- Loan Product 1 $500k P&I - account holders A,B,C 33.33% each. However A will be living in the property and will repay this loan;

- Loan Product 2 $500k interest Only - account holders A,B,C 33.33% each. B & C will pay the interest on this loan and claim a deduction as 50% of property to be rented to A at market rate.

Legal title as previously discussed will be tenants in common - A 50%, B 25%, C 25%.

Therefore the interest deductions to claimed would be Loan 2 - 50% each - is this correct please ?

 

Interest deductions for loan 2 to be claimed for B & C only - 50% each .

 

Is this a family situation?

 

You should seek proper advice. Based on what you have said possibly not correct.

 

thanks Terry but I thought based on the legal title structure A 50% B 25% C 25% then 50% of interest deductions could be claimed jointly by B&C. I understood the loan structure to be irrelevant based on this?

 

Can you cite an authority for this?

 

I would be seeking tax advice on the specific taxpayer circumstance. I recently met with a client who co-owns a property with another. Taxpayer A claims to have borrowed $$ and lent this to B to pay outgoings. I argue A cant lend to B to meet 50% of the costs since both A & B incur all property expenses. B alone cannot pay outgoings for tax purposes so 50% of the loan isnt valid eg How can I lend to myself ?. So the loan seems partly or even wholly defective on a legal basis. A cant lend to themself. Thus likely 0% or perhaps 50% or even 25% is deductible at best. Loan is at a quite high rate. My view....None of the loan is deductible and is a private arrangement and all costs must be borne by A & B jointly.

If A borrowed $$$ to buy their specific share of a property and it is owned on a TIC basis at 33.33% and B & C didnt then I would agree that A can apply their personal borrowing to their share of net income. Otherwise all costs are borne jointly.

The nature of the loans should be considered. If the loan was made by a related party and on non-arms length terms other concerns could be evident. eg Mum and Dad are B & C. They lend $$$ to A and its undocumented and non-arms length rate and other terms and could be a Part IVA issue etc....Just be cause it seems like a borrowing doesnt make it deductible.

ATO often attack loans

The equitable v legal issue is addressed for example in this private ruling which also refers to TR 93/32
Legal Database

 

Hi PaulF and TerryW,

Thanks for your responses and if I go back to my original post:

- 3 co-owners of $1m property - tenants in common with legal interest as A 50% B 25% and C 25%
- 3 co-owners have 2 home loans A - $500k P&I and B&C - $500k IO - just confirmed with the bank
- Owner A will live in the property and pay half of the market rent of $300 per week to owners B and C.

Therefore B & C will claim deductible interest on their $500k IO loan. A will not claim anything.

I therefore assume this is all ok or is there a smarter way to construct the home loan..

 

I wouldnt assume. I would find out

 

thanks paul - i thought this forum was to find out and provide guidance!

 

If B and C borrow separately from A they might be able to claim the interest on their loan.
But they should seek their own tax advice as it would be a costly mistake to make. Interest on $500k would be about $16,000 per year.

 

Yes but not for specific tax advice.

 

thanks terry - I'll probably call the ATO for advice or is there another option ?

 

See a tax agent or lawyer for advice. ATO doesn't give advice. You could always apply for a private binding ruling, but it would take 1 to 2 months