Tax Tip 509: Loans Labelled as “Owner Occupier” and Deductibility of Interest

Discussion in 'Accounting & Tax' started by Terry_w, 5th Jul, 2023.

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  1. Terry_w

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

    18th Jun, 2015
    Australia wide
    Interest can be deductible where the loan is used to produce income. Where a taxpayer borrows to invest in dividend paying shares or an investment property that is or will be rented out the interest will generally be deductible.

    The label on the loan is of no-relevance for tax purposes.

    A loan might be labelled ‘Owner Occupied’ but the interest could still be deductible where the loan was used to invest. This would be common when the borrower is debt recycling.

    Conversely the loan could be labelled as ‘investment’ yet the interest not be deductible. This might be common where a borrower redraws from an existing investment loan and uses the money for something other than producing income.

    Example 1

    Homer has a $500,000 loan which he decides to debt recycle as he invests $100,000 into dividend paying shares.

    He splits the loan into 2

    a) Loan A $400,000

    b) Loan B $100,000

    Both loans are listed as ‘owner occupier’ loans and receive the lower interest rates.

    Homer uses $100,000 cash to pay off Loan B and redraws and invests in income producing shares. He is still getting the owner occupier rate but the interest on this loan should be deductible in full.

    Example 2

    Homer had an investment property before he purchased his new main residence and the loan product on the loan used to purchase this investment property is listed as ‘investment’ and the interest rate is ‘investment’ rates.

    Homer had an offset account on this loan and it reverted to PI and now has $20,000 available to redraw.

    Homer borrows this $20,000 by redrawing it and he uses it to pay into his Loan A from Example 1 as he thinks this will save him interest and increase his tax deductions.

    Sadly, Homer is wrong on both. It will actually increase his interest as he has borrowed at a higher interest rate. Furthermore, his investment loan is now a mixed use loan as it has been partially used for investment and partially used for a private purpose. No extra interest is deductible and Homer will need to apportion the interest going forward.

    I make this post as one of our loan client’s accountants has suggested that he get us to change the interest rate on his proposed loan as it is showing ‘owner occupied’ as the loan type. The accountant wants their client to pay more interest when it has no bearing on tax deductions but it will cost the client more money, unnecessarily.
    craigc likes this.

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