Warning - Paying Rental Expenses Using a Loan

Paul, are you in position to share more context on this.

 

@Paul@PFI
Hi Paul, did you end up getting a private ruling in relation to this?

 

The ATO position is like that of Bantacs...Highly uncertain. The ATO appears willing to consider a Part IVA scheme operates where a engineered capitalisation occurs....ie the scheme element. The degree of engineering is subject to each case as to whether Part IVA applies. The ATO view seems to require each taxpayer to exercise caution and to seek advice and even a binding private ruling based upon ALL the circumstances.

In one that I sought the ATO expressed concerns that application for equity release specifically to pay IP outgoings up to that new borrowing limit was a Part IVA concern. However that concern was not a sole and predominant purpose in the circumstance that the taxpayer spouse took maternity leave and the sole purpose of the equity loan was to ensure expenses not greater than neutral cashflow from property occurred for a limited period of time. In which case they held that interest paid to support expected outgoings for that time would be deductible. However, the decision was vague about paying expenses in excess of the neutral cashflow as the ATO seemed to consider ONLY that reduced family cashflow as the cause for the need to borrow a new amount.

The guidance from that ruling means that the concerns I had earlier remain

 

How about this as a reason for capitalising interest? The bank has forced you off an interest only loan into p&I so now you can't afford the repayments. You need to borrow to make the repayment on the rental property.

 

Be prepared to demonstrate your financial commitments though. Too easy for the ATO to say - No. We think you could have paid it. I wouldnt try without a binding private ruling. The difficulty is you would then be choosing to apply your IP loan commitments to finance - Why not buy your food on credit ?? Or other living costs like your own home loan, rent clothing etc.....Case they arent deductible are they !! Very weak argument that supports capitalisation.

Anyone in this position is probably going to be up ship creek if rates also rise.

Perhaps time to consider sale.

 

Responsible lending isn't really an issue for the ATO to address, but it does start to come into play with this argument.

Lenders assess loans on P&I repayments and it's clearly documents in the loan offer what the repayments will become after the I/O period expires. Being forced to P&I repayments isn't an argument for not being able to meet repayment commitments.

Furthermore capitalising interest will only cause that liability to increase over time, making the problem worse. You might be able to play dumb and say you didn't understand the the future impact of an I/O loans, but that only re-enforces the lender's commitment to making sure the problem doesn't deteriorate further.

 

This is not the case for either of your points.

1. Circumstances may have changed in the 5 years since taking out the loan
2. Over debt should decrease faster, not increase, because of the increased deductions.

 

@Terry_w I agree that circumstances do change and I know you can put together a strategy to demonstrate that capitalising interest would reduce overall debt.

I also know that there's several regulatory bodies that right now aren't putting a lot of stock in interest only tax and debt reduction strategies.