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Loan Tip: Structuring the Renovation of a PPOR

Discussion in 'Property Finance' started by Terry_w, 13th May, 2016.

  1. Terry_w

    Terry_w Solicitor, Finance Broker, CTA Business Member

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    Structuring the Renovation of a PPOR

    Not sure whether this post should be in finance or tax. It mainly relates to loans with a bit of tax advice so I put it here.

    When renovating a PPOR and paying for items and services most people don’t consider tax issues at all. Expenses associated with the main residence are private expenses and therefore there will be no deduction available - immediately.


    But tax should be considered because there may be a chance that the PPOR will be rented out.


    What if you have cash in an offset account and a PPOR loan with redraw available.


    Example

    Elon has a house worth $500,000 and a loan on this for $200,000. He has an offset account holding $200,000 so pays no interest on the loan at all. He wants to spend $100,000 to renovate the house. He has 2 choices:

    1. Use the cash in the offset account, or
    2. Borrow

    Elon thinks “what the hell would I borrow money when I can pay cash?” But realised that either way, the overall interest bill will be the same.

    · If he goes with 1 then he will start paying interest on $100,000

    · If he goes with 2 then his loan will increase to $300,000 but $200,000 is offset so he will only be paying interest on $100,000


    The difference

    The difference will be felt when the house is rented out in a year’s time when Elon upgrades to a new PPOR.

    With option 1 he will only be able to claim the interest on $200,000. He will take his offset money with him to offset the new PPOR loan

    With option 2 he will have an additional $100,000 which he can claim the interest on. $200,000 of the original loan and $100,000 of the new loan will be deductible because the funds of both were used for the acquisition and improvement of the property and it is income producing. Therefore, Elon will be able to claim interest on $300,000. An extra $5,000 in tax deductions for the next 30 years (at 5% pa interest) will help him pay off the new non-deductible loan much sooner.


    Structuring the Loan

    Elon can do this 2 ways:

    1. Use redraw on the existing loan, or
    2. Use a separate split

    With option 1 there will be no mixing because the original loan and the redrawn amount will be both for the same property.

    All loans should ideally be IO.


    Elon should take the usual care than the extra money borrowed is not contaminated by withdrawing and parking with other cash etc. Paying directly from the loan account is the way to go.


    Elon should also be careful that no other expenses not related to the house are ever borrowed together
     
    gman65, albanga, vbplease and 3 others like this.
  2. Elives

    Elives Well-Known Member

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    Hi Terry,

    if i have an ip with 40k equity and 40k cash in offset Knowing and about to buy a ppor with the idea of only living in it for 1-2 years and then moving overseas. should i use the equity? because in the 1-2 years i wont be able to claim the 40k interest repayment deductions as it's ppor but afterwards while it's rented would benefit more in the long term?

    Cheers, Elives
     
  3. wobbycarly

    wobbycarly Well-Known Member

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    Elon? Can we have a surname with this example please?
     
  4. Mac Fields

    Mac Fields Well-Known Member

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    Thanks for your wisdom and clear explanations @Terry_w . This applies mainly if you are looking to rent out the PPoR in the future?
     
  5. albanga

    albanga Well-Known Member

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    I think the point is it doesn't matter.
    You may never have intentions of renting it out but why not plan for it anyway?
    Financially their is zero difference. potentially their is a huge financial difference.
     
    Terry_w likes this.
  6. gman65

    gman65 Well-Known Member

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    Very valid tip! I imagine quite important for a lot on PC
     
  7. Terry_w

    Terry_w Solicitor, Finance Broker, CTA Business Member

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    I think you are asking if you should borrow to buy a main residence - a temporary one.

    Yes why not? If you keep the $40k in the offset account you won't have incurred any more interest, but you will be larger deductions when the property is rented - if you use some or all of that $40k.

    If by borrowing the extra $40k you will incur LMI then that may change things.

    Also consider your plans may change and you may not end up living in the property.
     
    Elives likes this.
  8. Terry_w

    Terry_w Solicitor, Finance Broker, CTA Business Member

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    If you never rent the place out there will be no difference. But plans change and borrowing now can cost you the same in interest, but gives you more deductions later - its more flexible/
     
    Mac Fields likes this.