Tax Tip 5: Reimbursing yourself - Impossible

The asset protection of a trust or company using money owned by another entity would be improved over contributing cash to that company or trust. It is like Son using Dad's property as security for a loan. If Son becomes bankrupt Dad's property cannot be taken by unsecured creditors, but only by the mortgagee.

 

Thanks Blacky, that's awesome! Let's see how good my broker is

Interestingly, my bank has a "Security Deposit account" product, so I will get my broker to find out if that would suit.

 

Which bank?

 

ING

 

Hmm. I have cash that I want to use to build a main residence next year. I want to build 2 townhouses now, for investment purposes, but I don't have quite enough security for the loans I need. I have told my mortgage broker that I am prepared to put the cash up as security to borrow against using a product that ING offers. He can't understand why I would want to do that. Why don't I just use the cash to build and then borrow against the new townhouse? I explained the cash is to build a main residence. Still not getting it. Sigh.

 

Tell him the tax reasons. But no meed for him to understand really.

 

Maybe time for a new broker.

 

This is interesting @Terry_w and @Blacky

I don't know anything about this product but it might suit in some situations. Due diligence and advice required for anyone looking into this as a possibility.

First Option offers a Cash Secured Loan which may be approved for any worthwhile purpose (within the Credit Union’s lending guidelines).

A Cash Secured loan is a loan that is fully secured by Fixed Term Deposit held with First Option Credit Union.

First you would need to open a First Option Fixed Term Deposit. Example interest rates are:

2.50% 6 months
2.75% 12 months​

Then apply for a First Option Cash Secured Loan using the Term Deposit as security. Interest rate is 5.35%

This is obviously for short term use only. Taking the difference between the loan interest and the term deposit rate:

For 6 months, the effective interest rate is 2.85%.
For 12 months, the effective interest rate is 2.60%.​

http://www.firstoptioncu.com.au/loans-personal-loans-cash-secured-loan.html

Case study:
I have saved money to purchase a Main Residence (PPoR) next year. In the meantime I would like to build two townhouses. I have enough borrowed funds for one and enough cash to build the second townhouse. However, I don't have enough security to cover a second loan. I have two options:
Option 1:
Use my cash to build the second townhouse at a cost of $300,000 (for example). After construction, borrow against the townhouse to buy my Main Residence. The townhouse would have no deductible interest but I would pay interest on the $300,000 for my Main Residence at, say, 4%. Over 5 years this would cost $60,000 in non-deductible interest, and I pay full tax on the rent from Unit 2!

Option 2:
Open a First Option Fixed Term Deposit for 12 months with a deposit of $300,000. Take out a First Option Cash Secured Loan for $300,000. Build the townhouse and then take out a standard loan against the townhouse to pay back the First Option loan. Over 12 months, this would cost $7,800 in interest (possibly deductible - seek advice!).

Lots more research to do, but with just that information, Option 2 seems more attractive to me.

NOTE: I am not endorsing this approach because I don’t know anything about it!

Seems interesting at this stage though.

 

@Perthguy what happens when you take the $300k out of the term deposit for your future PPOR? Presumably you'd be able to secure the ongoing loan for the townhouses against the townhouses themselves, but you're possibly relying on some growth in the value of those townhouses. Hopefully not an issue, but there is a small risk of not being able to access the cash when you want it later.

 

Thanks Peter. At current market value, the townhouse at completion should be worth $580k minimum but this could drop further as the market declines (Perth). But even at $550k, an 80% lend is still $440k, more than enough to refi a $300k loan. The value of the townhouse would have to drop to $375k for it to be a problem, which is highly unlikely. My feeling the market won't take the price below $500k. So, my idea is to take out a standard investment loan using the townhouse as security to pay out the First Option loan and then I would have access to my term deposit (upon maturity).

 

I have set up a thread to discuss this. It could be useful for people where a LOC is not feasible for some reason.

https://propertychat.com.au/community/threads/cash-secured-loan.4092/

 

I think this cost will continue until you sell your PPOR. Could this be resolved just by refinancing the PPOR loan? I assume no.

 

Refinancing won't change deductibility.

 

Then the tax tip should be re-phrased to "That is per year for the rest of your life."

There is no way to correct this at all. You are stuck with the biggest mistake you have done for the rest of your life, until you sell both your PPOR and IP and re-structure the loans from scratch. That's why loan structuring is one of the most important part of anyone's investment journey!

 

You are correct - I said "for the life of the loan", but I should have said "For the time period that you own the property" as loans can be refinanced. However I cannot edit the original post now.

There is no solution to the problem of paying cash for something instead of borrowing, other than the sale of the property and buying another.

 

When I bought my first IP, I did not have 20% deposit.
My spouse did NOT agree with my decision to buy IP as the living standard would go down.
However, if I borrowed 20% deposit from her and paid her interests, then she would agree for the purchase (and save the marriage).
At the end, I borrowed 20% deposit from her, and she included the interests she got in her tax return.
This arrangement is not for tax avoidance.
Without this arrangement, there will be no IP!!

 

Yes good point - not always for tax reasons. There are a lot of spouses out there that are more conservative, in investing, than there partners.

 

Terry your tax tip threads are a great resource, thanks!

I've seen mentioned a couple of times reference to spouse loans which is of interest to me as all our properties are in individual names.

How would this sort of loan work? For example property is in spouse A's name and needs cash to fund some construction work. Can't get a construction loan, so plan to refinance after completion. Have cash to use initially, but want it back after refinance.

The cash is in a joint bank account though, which offsets a joint loan. Do these loans need to be legally documented?

 

Yes these loans need to be properly documented and you should seek legal and tax advice.
But one legal concept is that you cannot contract with yourself, so having money in a joint account will be a problem. You cannot say how much of it is your spouse's.

I think the ATO will not allow this money to be loan by your spouse and for the interest to be deductible because part of it is your money.

Best to speak to your tax advisor.

 

See also
Legal Tip 38: Spousal and Related Party Loans

Tax Tip 47: Spousal Loans as a Tax Strategy