Tax Tip 1: Parking borrowed money in an offset account

Michael T I'm about to do that now but it's an empty offset account.

 

An empty offset or savings account or even to a solicitors trust account are all examples of safe practices. The bigger issues arise with blending money. It then is like trying to separate a cake mix and find the flour.

And leave it there too long it might go off. A straight through is best practice.

 

I have answer this in the first post. I would suggest you don't do this or to get a private ruling.

 

Brilliant! Thank you for posting this advice

 

Hi Terry,

Talking about maintaining the deductibility, how about this situation when trying to do a reno on overseas property:

IP overseas with;
- Loan 1 400k for purchase (fully drawn at settlement).
- Loan 2 100k approved (not drawn) for renovation.

Builder requires 4x progress payments of 20k each. I have a LOC in Australia that can pay these part payments - I'm comfortable that this will be deductible.

Overseas Bank for IP Loans have said they will only issue the loan to a local account and will not pay directly into the Australian LOC.

Can I draw Loan 2 into a local empty transaction account and then send internationally to clear the LOC as a 'refinance'? - is Loan 2 now deductible? No personal cash in any of the accounts.

Additionally - if the building works is only 80k can I purchase another 20k of income producing shares with the LOC and include the full 100k in the 'refinance'? What happens if we want to sell shares?

 

Hi M

Same concepts apply no matter where the property or the loan is. Prob best to drawn down loan into a clean account. Ideally put the money back into the loan and draw as needed. If not possible then keep in account and pay as needed. But don't put any other cash in account.

Ideally have a separate split for the shares as it will be a mixed purpose loan. When shares are sold you don't be able to claim the interest on that portion of the loan so would want to pay it off.

See my Tax Tip 3 Mixing Loans - Don’t do it

 

Thanks Terry

Problem is the UK loan does not have offset (it seems to be totally unknown to them), so 'clean' account will be basic transaction account. Therefore interest will be charged as soon as its drawn, possible a few days before getting to the LOC.

If drawn to new account and then immediately full sum is sent to AU LOC - is that enough to maintain the investment intention of the drawings?

 

Yes Australia is very advanced with loan products. Never heard about offset accounts in other countries.

Sending money from one country to another can be expensive and there are exchange rate differences to consider. Can't you pay into the loan and redraw later?

I would suggest a private ruling.

 

You would think an empty offset account is a good place to transfer borrowed funds but this is not necessarily correct. I set up this structure with ING but they started depositing unborrowed funds into the offset account and contaminated my borrowed funds. I asked them to stop but they have refused to . But don't worry, I have not invested any of the funds. Thanks very much to @Terry_w and yourself, I know it is a no go to mix borrowed and non-borrowed funds and then invest that money. I will reset it all before I invest any.

 

I wish ING would deposit money in my account.

 

Get an ING loan. They do it to everyone . Seriously though, it is worth $16 a month for someone outside your control to mess up the tax deductibility of borrowed funds?

 

Hi Terry,

Thanks for the great post. Can you confirm if my understanding on the following scenario is correct:

1) parking PAYG savings+borrowed funds(additional split loan) in one savings/offset account is OK so long the underlying loan account to which the offset account is attached is not investment related - e.g. PPOR loan account, interest is non-deductible anyway, so no harm of loosing deductibility on the interest as a result of contamination ,assuming PPOR loan is I/O.

2) For the co-mingled borrowed funds, interest would be deductible so long they are being paid back in full into the loan account before funds are being drawn down again for investment purposes.

2) However, if the PPOR loan account is to become an investment property, then such arrangement will result in the PPOR loan becoming contaminated and interest incurrred on the PPOR loan loosing partial tax deductibility.

3) Ideally as you said, should put the unused borrowing back into the loan account as soon as it is drawn down, however in practice, I guess this would result in the loan account being cleared. Unless I guess a separate offset account is used to offset the split loan account when the loan is drawn down?

4) Or alternatively, as you suggested in post 1, use LOC and convert into a term IO loan when used.

 

1 - no. there can be problems if the PPOR is ever rented
2 - not really. repay the loan and reborrow and it will be treated as a new loan for tax purposes
2 - yes
3 - some banks would close the loan if it is paid back in full. So you would need to leave say $100 outstanding and then claim 99.5% of the interest
4. - yes

 

Thanks, Terry. Short & sweet. So base on what you have said above, can I take:
1) it would be an 'ok' if PPOR is just a PPOR.

2) when you said "not really. repay the loan and reborrow and it will be treated as a new loan for tax purposes" - you meant the loan needs to be 'closed off' and have a new one established before funds can be drawn for investment purposes. Mere 'repaying in full' from the co-mingled funds is not enough to re-establish the original borrowed fund as 'new/untainted' in character.

3) When you said "some banks would close the loan if it is paid back in full." - are you saying the loan may be 'closed down' by some lenders if borrowed funds are just being parked 100% in an offset account? and on the bit where you say the deductibility can be retained at 99.5% of interest, doesn't this will turn into an issue when the principle is being paid down in part at sometime in the future - just recalling from one of your posts earlier warning about the danger of mixing use of investment loans

Appreciated again for your generosity in sharing your tax wisdom at the forum.

 

1. no
2. no. paying into a loan is a the same as paying off a loan. redrawing is new borrowings. No new loan account numbers needed.
3. no. loans would only be closed if you paid the entire balance off completely.
Yes leaving money in a loan will create a mixed purpose loan, but the amounts will be tiny.

 

Practical observation only..... I hope the ziplock bag comment was just a throwaway analogy for a 'mismanaged filing system', and you don't actually have receipts sitting in one of those things. The reason being that, with the paper and ink used for most receipts these days, if they are stored in plastic, they fade very quickly (making them pretty much unreadable within a very short time frame).

Highly recommended that you scan and save them (if you have the time), or at least transfer them into a paper envelope (or similar item).

 

Thanks , yes, done.

 

Thanks Terry.
1. What I meant was that PPOR remaining PPOR without ever being rented. So no deduction is claimable under that case.

3. Sweet, so in that, parking additional borrowed funds in an empty offset account should be fine then.

 

I would still advise not to do it. So easy to contaminate.

I have seen clients who accidentally deposit money in the wrong account - many times.

 

Sorry, this is not true. I have had 2 offset loans when I lived in the UK. One from FirstDirect and one from Virgin. So unless they have stopped doing them they are there! And rates over base are much kinder than Australia.

JB