Tax Tip 272: Borrowing to buy shares and then selling those shares and deductibility of interest

One common misconception that I see goes something like this:

• Borrow from a LOC to buy say $100,000 worth of shares that produce income. Claim the interest on the loan against those shares. So far so good.

• Then, at a later date, sell those shares. Use the money from the sale to pay down the non-deductible PPOR debt.

• Keep claiming the interest on the $100,000 LOC – its ‘purpose’ after all was investment.

Of course, this won’t work. Those asking really know this deep inside, but they are hopeful that they have discovered a secret debt recycling strategy.


Once the shares are sold there is no longer any connection between the incurring of interest and any income so the interest cannot be deductible. It is not really the purpose of the loan that counts, it is the use to which the borrowed funds are put. So there is generally no point in keeping the loan open. The LOC can be paid back – but it can be reused at a later date to invest further.


However, if the shares are sold at a loss it might be possible to keep claiming the interest on the loans used to buy those shares in limited circumstances. See Tax Tip 212: Claiming Interest after Sale of Asset at a Loss Tax Tip 211: Claiming Interest after Sale of Asset at a Loss

 

Yep - Selling the asset that was originally acquired using the borrowed funds means that the deductible nexus ends on that day even if the loan ifs not repaid. The use of the proceeds needs to be considered. If it was used to buy a new IP then the interest may commence being deductible against the new IP, not the one it secured against.

Using the proceeds can be tainted or even blended in many ways:
- Partly used for a new investment purpose and also private use (eg a boat)
- Used to fund a development that is planned to be built & sold not rented.
and so on..... We have all hard of belnded loan problem. This is a blended asset problem. It affects the loan interest and its deductibility.

I'm often asked for clarification on what happens if you trade the shares regularly. The original borrowing was for CBA and NAB shares but is now ANZ and BHP shares...Thats fine. The asset has been changed rather than "refinanced". But concerns can occur if you switch investments for non-income producing purposes. Eg you sell the CBA shares and NAB and buy ANZ and Facebook Inc. Facebook shares dont pay dividends so you now have a blended loan concern. The test is income - Not intending to make a profit.

 

Thats an interesting one.

Bart borrows $100,000 to buy ANZ shares. He does this by transferring $100k from his AMP loan direct to his empty comsec account

so far so good

Bart sells the ANZ shares for $150,000. This is deposited into his Commsec account.
He then buys $100,000 worth of WBC shares.
The $50,000 left over is transferred to another account.

Can Bart claim 100% of the interest on the WBC shares?
I don't know because Bart has muddied the waters a bit here.

It would been preferrable to empty the comsec account and repay the AMP loan and then redraw $100,000 and transfer over again.

But not doing the the ATO could argue that the loan wasn't used to buy the WBC shares. At best 100,000 / 150,000 of the interest could be deductible.

I haven't seen anything to indicate how the ATO might treat this, have you Paul?

Any client of my loan company - I will offer a free private ruling, thru my law firm, to find out.

 

Commsec operate a trading sweep if you use the ACA (Accelerator Cash Account) and the trading or accelerator cash accounts are fine according to a ATO view I obtained. It is a private ruling however. I asked if they would give me a class ruling and they declined by ignoring me. I cant apply for a product ruling - Only Commsec. BUT if the funds go elsewhere yes it could create a concern.

Non CBA people eg STG who have the cash proceeds credit their savings may have a issue. The subsequent new purchase would draw on the STG account and its basically not using borrowed money.

I always advocate teh CBA ACA account v's another bank. SMSFs are OK to use another bank account as they dont borrow.

There is another safe way. Use a margin lending facility without borrowing against the shares. The tie the cash and trading together.

Tip - NEVER have income credited to the cash trading account !! It can blend too.

 

And if the loan used to buy the shares was PI and has reduced in balance since taking it out initially you would only have to stop claiming the interest on the loan associated with those shares. This would mean you would only have to pay back the remaining balance not the original borrowed amount.

Example
Borrowed to buy $20,000 worth of AMP shares and $20,000 worth of WBC shares with one loan. If the loan is PI and only $20,000 is left in total after say 10 years, if you sell the WBC shares you would only need to repay $10,000 into the loan as this is the amount that relates to those shares. This would be the case if you sold them for $20,000 or $40,000 or more

 

can somebody clarify this

if i have 20000 shares in company x purchased 5 years ago
and i have borrowed money to buy 20000 more shares in company x this year
can i sell 20000 shares in company x and still claim the interest for the other parcel or will the tax office choose to believe that i have paid off the loan

Cheers
mark davies

 

It will depend on which parcel you sell

Tax Tip 148: CGT and Different Parcels of the Same Shares Tax Tip 148: CGT and Different Parcels of the Same Shares

 

thanks terry

just to be clear i can nominate the parcel that has been sold

thanks again

i appreciate your help and quick response

mark davies

 

Hi,

Sorry to to revive an old thread, I have got the following scenario, wondering if it's legit in Tax office's eyes.

1. Repay 95% of my mortgage loan account, the fund will be available for withdraw,
2.. Withdraw/Transfer the 95% to an ANZ share investing account(the account itself also pays interest),
3.. Buy shares and ETFs with this ANZ share investing account, what I buy will pay distributions/dividends on a regular basis. I will claim 95% of the interest charged by the bank.
4.. Later down the track I sell what I bought and buy another share/ETF.

My question is, do I lose the deductibility? or can I still claim the interest expense? As the ANZ share investing account itself is also an income producing vehicle.

 

If you borrow to buy an income producing asset the interest would be deductible. But if you don't then it won't!

Why 95%, you will have a mixed loan?

 

Thank you, Terry.

It was a mortgage to buy our house originally, now I repaid 95% of it and they are available for withdrawal.

Regarding my point 4. in my original post, so even though I have sold the share and buy some other shares, as long as these funds stay in the share investing account to buy income producing asset. I can still deduct the interest?

I am asking because I have read your thread re. loan cycling to buy share, you have mentioned the loss of deductibility once shares and sold.

Also I will receive dividends and distribution through this same ANZ share investing account, and transfer them to my normal bank account, I hope this will not cause any issues.

 

I would create a new loan split for the shares proceeds that way the existing loan portion and the new split for shares remain seperate. Of course be wary of a bank that puts the borrowing for the shares into a savings account etc. Offsets against share loans work very well and are better than using savings accounts etc where funds can co-mingle. That way all share transactions can credit the offset and you never have to worry about divs etc affecting borrowings.

Not all lenders are keen on equity outs for shares. They recognise that borrowers debt remains fixed but if markets correct your capacity to repay may be seriously impacted.

Not if the shares account doesnt pay interest, Few do. You arent producing income from the borrowing. Its just parked. You would be better off moving uninvested cash to the offset and then when you do seek to buy more draw against the offset etc. You cant park borrowed money in share trading account and expect deductibility. So if you do claim and the ATO reviews they may cancel the whole deduction and allow you to conduct complex messy calcs before a deduction is allowed. In any event it doesnt make investment sense since you are paying to borrow and being uninvested.

 

No.

 

Thank you Paul,

I wouldn't park the money in the investment account deliberately, I am talking about hours or a few days in the account between trades.

However if I move the uninvested money into my offset, wouldn't that lose the nexus for the deductibility? as my offset account is also for non investment related transactions.

 

...a few days...a concern. Ideally always sweep the trading account back to the offset so inteerst is reduced. It stops the cost. If there is no interest charge there is no concern for use and deductibility. remember the cost is the amount before deductions. Its probably three times the value of a deduction.

No in the offset the interest charged is reduced for the funds unused for investment (ie it offsets) . Its perfectly self correcting. Leaving your funds in the broker account costs interest with no income. Thats the investment fundamental thats wrong. AND you dont get deductibility.

You would ensure the split for shares has its own offset. That way funds never co-mingle. NEVER blend funds in a offset.

 

My view is if you borrow to buy shares and sell and don't repay that loan, if you re-use the 'borrowed' money to buy it is not going to produce deductible interest. You might be able to have an arguable position, but what about the situation where you borrowed say $60,000 and sold at $80,000 and then you re buy $60,000 worth of shares?

Easiest way is to repay the loan and redraw out instantly

 

Thank you Sir, for your valuable comment,

However I don't think my bank will allow more than one offset account, or they might question the purpose of the loan, So I will probably keep my trading minimum(I am not a day trader).

 

No need to have more than one offset account

 

I agreed with your point of view, however I normally keep my proceeds and reinvested the whole amount less transaction fees, my CGT is paid using dividend or my own money.

 

I am not sure if I understand you correctly, so you are saying I should use the offset account only for the deductible loan account after the split (the 95%), and have another bank account for everyday transactions.