Tax Tip 47: Spousal Loans as a Tax Strategy

Thanks @Paul@PFI and @Terry_w for the replies and advice as always!

 

Arms length terms dont necessarily require that the terms be that strict. But arms length terms are best complied with. An example is a unsecured loan or a limited form of security rather than a registered mortgage. I have often seen people use silly rates for example 12.5% because they consider it on terms like a personal loan or 20% as thats based on a revolving faciity like a credit card. And then the lender is a spouse with no income and it looks like a scheme. Part IVA could apply to what seems a valid loan agreement on arms length terms

One fatal element is failing to keep an account of the loan amount/s and balance at all times.

 

I had a client's loan agreement rejected by the ato - one I had no part in drafting.

It said repayments would be made when the parties agree and at a rate the parties agree with. Too vague for the interest to be deductible.

luckily it was able to be fixed up with a new loan agreement.

 

Yeah there are loads of precedent docs cheap on the net. Cheap because they are terrible. Just because someone sells a "LEGAL DOCUMENT" doesnt mean its drafted and given legal support and advice.

 

This particular one was from a law firms online docs

 

Yes I have seen many and it puts me in a hard place. I see it looks crappy and yet I cant give legal advice. All I can say is that the tax deductibility may be in question. This bring this to my inevitable observation that a cheap document may cost you a bit in the long run. Do you have a private ruling - You will definately need it with a dodgy agreement where a well drafted one may not.

I prefer the clients who tell me that Terry setup their loan agrement and trust etc. I know its done well.

 

You could probably tell them that this loan agreement would likely have problems with the ATO and deductibility of interest.

 

Yep thats about what I am limited to. And documented so if they want to ignore me its their issue.

 

Can a wife refinance her IP and then loan the available equity to the Husband (sole-owner of their PPOR) who then deposits the loaned amount to just sit in the PPOR offset account?

E.g. Wife's IP is negatively geared at an interest rate of 3%. She is in the 39% tax bracket, so her additional borrowing amount will seemingly cost her a net interest rate of ~1.83% [3% x (1-0.39)].

Husband's PPOR interest rate is 2.5%, so he would be willing to pay a loan to his wife at an interest rate >1.83%. The loan would be properly documented and the wife would be making a profit, so this would equate to commercial terms. Husband's interest owing could be payable at the end of the loan.

Are there any issues with this approach?

 

A wife could loan to a husband or a wife but couldn't claim the interest unless she charged the same or more as she pays her lender and a written commercial agreement is entered into

 

I wont cover what Terry has said. Its evident.

In the above case the wife cannot claim any interest deduction as the use of the borrowing doesnt produce assessable income. This is the fundamental element of tax deductibility.

 

Hey Guys, a very interesting topic. I spoke to my accountant yesterday and he wasn't sure whether the ATO would accept what is exactly being discussed in this forum. If I may explain what we're looking to achieve my wife and I. I'm looking to purchase an investment property. To do so my wife and I are looking to sell another investment property which we own 50:50 and use the net proceed to purchase the new investment. However, what I'm proposing is for my wife to lend me her share of the 50%, which I'll then combine with my 50% to the new purchase. Of course, only the interest paid on the created loan would be deductible. I would be the sole owner of the new property. I guess the question I'm asking is, is this an acceptable arrangement from ATO ruling and where can I find proper, genuine loan documents that I can use to effect this transaction? Thanks guys!

 

If you borrow money to buy the property the interest could be deductible, whether you borrow from your wife or a bank or both.

You will need to see a lawyer to get genuine loan documentation. I have previously applied for private rulings for 2 clients with my related party loan documentation passing - with no security and no interest mark up with onlending.

will your wife be charging you interest?

 

Thanks, yes as I want to deduct the interest paid on the rental income. Can you share who is your related party loan documentation contact or can you advice the type of lawyer to seek (property lawyer)?

 

Thanks, yes as I want to deduct the interest paid on the rental income. Can you share who is your related party loan documentation contact or can you advice the type of lawyer to seek (property lawyer)?

 

I am a lawyer and do my own agreements and private ruling applications.

 

One key issue is ensuring the loan is regularly paid and accounted for at all times. Even the best loan agreement will be set aside by the ATO if the parties treat it like a sham or non binding agreement. One concern I would have with the proposed arrangement is borrowing from wife too soon. eg well before the new IP is contracted...Then how can you argue that the puspose was to a buy a possible property ...one day in the future ? I would draw down her loan no differently to a bank eg Specifically for deposit, duty and even balance drawn at ssettlement.

However the issue of what you do with your share of profit on sale can also be a factor. If you used that to repay the home it could look "schemey" . It then looks like a scheme with a dominant prurpose to obtain deductible interest.

 

This is a great thread - I was wondering does the written loan agreement need to be written by a solicitor or can be written by oneself? For security, is there a need to have a mortgage agreement and lodged, or can the property be secured via the written loan agreement under a clause or something? Thank you in advance!

 

The husband would have no interest deduction for that loan. He hasnt producd any income from the borrowed money so the basic deduction principle fails. He has also REDUCED his interest deductions...The opposite effect. It makes no sense.

If the wife sought to make a profit to arbitrage tax rates it could be a scheme. The fact tax brackets is mentioned is the key indicator of concern. Part IVA ?

 

I wouldnt rely on something you bang out in a word documnet or copy from the interweb. There are good quality low cost alternatives. Often the devil is in the detail and how its structured and effected. And maintained. The paperwork needs to support that. Easy to get wrong. Loan security itself may not be a important element. It depends....