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Tax Tip 29: Timing the breaking of fixed loans

Discussion in 'Accounting & Tax' started by Terry_w, 26th Aug, 2015.

  1. Terry_w

    Terry_w Solicitor, Finance Broker, CTA Business Member

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    Some people have fixed loans at very high rates. I was talking to someone the other day who had fixed at about 7.5%. Breaking these loans and converting them to variable can cost many thousands of dollars. But doing so can save large sums in ongoing interest as it may be possible to get a rate in the low 4s these days.

    The cost of breaking a loan is generally deductible in the year it is incurred. So where a loan relates to an investment property break fee will be deductible.

    What happens if the loan is broken in Jan while the property is an investment and then moved into in Feb. Will the break fee be deductible in full or in part?

    There does not seem to be any authority on this as far as i can see. Arguably there are 3 ways the fee could be treated.

    It could need to be apportioned over the life of the fixed loan. So where a loan is fixed for 5 years and the property is rented for 2 but lived in for 1 it could be argued that ⅓ is a private expense.

    or

    It may need to be apportioned over the year it was incurred. If it was incurred in Jan then 7/12th of it could relate to the period it was an investment.
    or

    The alternative argument is that all of the break fee is deductible as the expense was incurred when the loan related to a property that was producing income.

    I favour the last approach. The date of incurring the expense should determine its deductibility. Depending on whether you are moving into or out of an investment property it could be worth looking into if you have fixed loans.


    This extra deduction and the ongoing interest rate savings may make breaking worthwhile.


    Any of the tax agents out there want to share their views?
     
    bonanzawealth likes this.
  2. Paul@PFI

    Paul@PFI Tax Accounting + SMSF Business Member

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    Terry that's a good point. I worked in financial markets in a time long ago. A break cost in theory just brings forward a part of the interest that would have otherwise been paid over time. ie at 7% and a current variable of say 5% then the 2% is paid for the next 4 years. So the break cost is the present value of the 2% for the 4 years. And its deductible when paid...Now. There can be sound strategies to break just to bring fwd huge deductions. Then save $ in future years. Its also possible to borrow to pay a break cost.

    There can be exceptions to the deductibility however. !!

    If you break to sell its NOT deductible. Take care on timing of the decision and ensure that it relates to a decision to refinance rather than a early loan payout due to a sale. My advice is NEVER allow the bank to break the loan on the payout day if you sell. Do it when the property is still tenanted. If selling, the breakcost would be a CGT issue.