Paying 10% Deposit with Loan Funds?

Hi Everyone, first post but I've been lurking for a while. I've read tax tips #5 and #53 (reimburse yourself impossible, and how to fix it if you paid cash deposit) among others but I'm having trouble understanding the mechanics of how the deposit is paid from loan funds. My situation is:

- IP sale price = $350k
- Loan A = 90% secured against IP (yes I'll get hit with LMI)
- Loan B = 15% secured against PPR using equity (10% plus 5% for stamp duty etc).

I've asked my bank how I can use loan funds to pay the 10% deposit before settlement (due at time of contract going unconditional) but they have recommended a LOC refinanced into a normal IO loan after settlement, so the extra 1% interest for the LOC will only exist for 30 days. I thought with the 15% loan secured against my PPR that I could get a bank cheque for 10% of that prior to settlement.

The bank has concerns about tax implications as the money is released before settlement. But they are happy for me to use cash to pay the deposit and reimburse myself later from loan monies which based on my understanding of Terry's posts, is a bad thing (can't claim interest deductions on the reimbursed portion). I asked about deposit gaurantee but there's a $520 fee associated with it. The LOC looks more attractive at this stage (extra 1% interest for 30 days is negligible).

I've asked my tax accountant to give me advice and I'm waiting to hear back but would like a 2nd+ opinion from the good folks on this forum (understanding any advice provided is general in nature etc).

Thanks!
Dexter

 

Setting up a LOC today and switching to an I/O loan later seems unnecessary. An I/O loan with a dedicated offset account can achieve the same outcome as long as the offset account is only used to store the funds. Don't transact other money through it, don't use it to make repayments on the loan. It should only be used as storage for the equity release. This will save you interest (even if only for a month or two) and saves the hassle of switching.

Get the money from the equity release upfront. Vendors don't like deposit bonds. If they've got another similar offer on the table, they're probably not going to take the one with the deposit bond.

It's been discussed why you can't really reimburse yourself and claim the tax deduction. Yes people do it all the time, claim the deduction and get away with it, but it's unnecessary and risky especially if you can be organised upfront. Banks don't like to release funds outside of their control, but myself and other brokers get them to do it all the time.

 

Bank dont provide tax advice and arent qualified to for good reason - They arent great at banking so their tax skills must be woeful. If the proceeds pay the deposit are borrowed AND the property will be rented after acquisition then the relevant case law is Steele's Decision. Yes it is deductible provided the proceeds borrowed pay the deposit , then the duty etc....The borrowing costs may also be 100% deductible if its incurred and later refinanced in the same year.

You could save yourself 50% interest in that period if vendor agrees to a 5% deposit

 

Soon as you head the word 'tax' uttered by a bank employee put the ear muffs on!

You simply set the LOC up now, pay the 10% deposit by transferring it directly from the LOC loan account to the real estate agent's trust account. Don't pay cash and reimburse yourself otherwise the interest will not be deductible.

 

Thanks Peter, this is the closest structure to what I had in mind. I thought a bank cheque could be written to draw funds from the loan directly to pay for the deposit but I'm assuming this isn't possible for whatever reason (I still have a lot to learn..).

 

Thanks Paul, yes the property will be rented immediately but not looking to refinance if I can help it. Is this in reference to refinancing the LOC into an I/O loan?

 

Thanks Terry, this is what the Bank suggested with the addition of refinancing the LOC into an I/O loan after settlement so I'm not stuck with the higher interest rate. There's otherwise no other fees associated with the LOC. It doesn't sound like a bad option if Peters suggestion of I/O + Offset to store the funds before I send them to the agents trust account doesn't work out.

 

Ask the bank. Some lenders allow this with IO loans, but others dont'

 

I think the LOC option is better as there is no detour along the way.

 

Provided the LOC is never used for another purpose.

 

I've discussed this further with my bank manager and after having done their own research, they agree with the sentiments being discussed here re: not being able to reimburse a cash deposit using borrowed funds. I don't need them to agree with me but it's good they understand where I'm coming from. They've offered to do a LOC for the deposit then refinance into an I/O loan after settlement, so the LOC is just a vehicle for making the funds available pre-settlement. Then conversion to I/O loan removes temptation/possibility of using the LOC for anything else. It also means I'm not stuck with LOC interest rates for the duration of the loan. I'm happy with the outcome, thanks all for your help.

 

I explained to the selling RE agent that I was extracting equity from my PPOR to settle the loan and for that reason could only offer a $1,000 deposit and they were fine with it. Paid deposit in cash and all else (equity release against PPOR + IP loan) borrowed at settlement. Not every vendor / selling agent would be so flexible, but could be worth a try?

 

Yes good point and I've done the same (when purchasing PPOR, $1500 deposit) but I also wanted the ability to offer a 10% deposit in case it gave me an advantage. It's probably more for the REA to get their % secured away in their trust account but a seller could also interpret this as being a more serious deal, a buyer who is better prepared etc. It's a small thing but it turned into a "quest for the truth" once I started hearing conflicting information!

 

Always part with the minimum funds possible to secure the property and hold back the rest in an offset for example.

Have seen REAs take a 20% deposit, SMH.

 

I don't know if taking more than 10% would be lawful in some states.