Tax Tip 2: Debt Recycling

Discussion in 'Accounting & Tax' started by Terry_w, 16th Jul, 2015.

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  1. Terry_w

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

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  2. Synergy

    Synergy Well-Known Member

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    Does DR still work if you have a blended loan refinance the ppor into splits then buy lics? Or once you have a blended loan you cant do this?
     
  3. Terry_w

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

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    Yes it will work. Split the loan and recycle away.
     
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  4. Synergy

    Synergy Well-Known Member

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    So tax agent to advise on debt recycling and broker to set up if possible? Im with nab lol so they dont like splitting without paying alot for it.
     
  5. Terry_w

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

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    or a tax lawyer.
     
  6. Rex

    Rex Well-Known Member

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    Ok, so, sorry if this is covered somewhere else. Here's a scenario:

    I have some redraw funds available in an a loan that I want to recycle to buy shares. My understanding of a correct process would be (somebody correct me if I'm wrong):
    1. Redraw from loan directly in to (empty) trading account.
    2. If the loan contains non-deductible debt, split the loan for the amount redrawn above (or keep really good records and don't further contaminate it)
    2. Buy some shares from trading account
    3. Hold shares and keep claiming interest deductions for the redrawn amount

    Then I'm a little unclear. When I sell some or all of the shares, the proceeds will go directly back to the trading account.
    Can I then use these proceeds to immediately purchase more shares and continue claiming the loan interest? Or does the original share purchase amount need to be paid directly back in to the loan then redrawn for future purchases to maintain deductibility of interest?
     
  7. Terry_w

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

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    Cash in savings accounts is no borrowings so the interest going forward would not be deductible. You would need to pay off the loan associated wtih the sold shares and then reborrow for the interest to be deductible.
     
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  8. Andy316

    Andy316 Active Member

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    In that scenario, if you are slowly building a share portfolio... let's say adding 15k a year. That ends up being a lot of little splits after one is added every year? Is there a 'neater' way of doing this?
     
  9. Terry_w

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

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    It can be done with just one split too.
     
  10. Andy316

    Andy316 Active Member

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    Not sure I follow. Start with a bigger split, and redraw 15k bits as you need to? But that would mix the loan up wouldn't it?
     
  11. Terry_w

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

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  12. Rex

    Rex Well-Known Member

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    Here's one scenario (Terry correct me if I'm wrong):
    Let's say you have a $200K PPoR loan and $20K per year surplus income you could invest. Split it into two $100K loans, choose one as the investment loan. Pay down then redraw $20K from that loan each year to purchase shares. Each year your deductible debt increases without contaminating things, but of course be careful not to make any extra repayments to the loans that you don't want to redraw to invest. Link your offset account to the other (non-deductible) split for any other savings you might accumulate. After 5 years you might want to readjust the splits.
     
  13. Terry_w

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

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    I may have misinterpreted Andy's question, this will create a mixed loan because when paying down and redrawing once that is fine, but if you do it twice without splitting you could be paying down the investment debt too.
     
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  14. Andy316

    Andy316 Active Member

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    Yup, this is kind of what I was going for in my scenario. So you could, for example, make a new loan split of 20k each year. So the ppor part is 180k in year 1, 160k in year 2, and so forth. Eventually you end up with lots of 20k splits - a new one each year. Is there a more efficient way of doing it?
     
  15. Terry_w

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

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    all of the small $20k splits can be combined.
     
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  16. QldKoolies

    QldKoolies Well-Known Member

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    Do you foresee any issues down the track if a discretionary trust is used as the vehicle for the investing to debt recycle? What questions should I be asking my accountant to confirm to make sure it’s right for my situation. I only intend on investing for dividends and for the long term, but what traps should I be aware of if I go down that route? We already have one for other business so it was suggested that using it for the investing would give us flexibility to distribute the income
     
  17. Terry_w

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

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  18. QldKoolies

    QldKoolies Well-Known Member

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  19. Ideacrash

    Ideacrash Well-Known Member

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    My Interpretation of DR after doing some reading in the forum :

    Initial Situation
    Loan A + Offset = 275K+25K 3.42 P&I
    Loan B = 325K 3.42 P&I

    Step1
    Pay 25K to Loan B from Offset account
    Split the 25K loan form Loan B

    After Step 1
    Loan A + Offset = 275K+0K 3.42 P&I
    Loan B = 300K 3.42 P&I
    Loan C = 25K 3.42 P&I

    Step 2
    Transfer the Money to Trading account 25k
    Buy ETF's/LIC /Shares 25k
    After Step 2 Assuming 4% return ( 1000) + Franking credits ( 300)
    So total profit = 1000
    Interest Paid on the loan = 855
    So overall Taxable income would be ( 1000-855) = 145
    Franking credits returned = 300$
    If no DR total taxable income would have been 1000 instead of 145.
    Franking credits returned = 300$
    That means I would have saved 320$(37% tax bracket) more from DR strategy

    Step 3
    Pay the monthly instalments to Loan C
    Any additional Savings or Dividends to be paid to the Loan A offset
    Once I have made additional 25K in Loan A offset , pay the additional funds to Loan A and make one more split ( Loan D )

    Repeat from step 2

    I have opted for P&I for the investment loan as it is easy to split to a P&I than to a IO only loan in ANZ

    Are there any loopholes in this strategy ?
     
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  20. Paul@PAS

    Paul@PAS Tax, Accounting + SMSF + All things Property Tax Business Plus Member

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    Trust borrowing interest from individuals will reduce the income available to distribute but can provide a net benefit since the trust for example may have net trust income of $1 which includes $20K of FF income and $19.99K of deductions. BOTH the income and deductiosn flow to the taxpayer and the net $1 is grossed up with the franking credits - May provide a net refund.

    The question is what occurs when the trust incurs a loss after a market correction and the debt remains ? eg $10K of trust assets and $20K of debt. There may also then be a c/fwd CGT loss in the trust as well as accumulated losses. If the debt is forgiven or not pursued then a trust law and a CGT issue could occur and the whole DR was sham.

    I always like to think of debt as a long term thing yet most people dont trades shares long term as they have losses at some point. The difference between asset risk and debt being long term should be a factor in planning DR. DR is a higher risk strategy to pursue for market linked investments.

    Its been a while since a correction and a new generation dont know that that looks like. It would likely be far greater than the recent property changes.