NEW IP not yet rented

Hi David,

If the purpose of the property was always to be an investment property then you can claim under the ‘purpose of the loan rule’ – it is possible to claim the interest on a block of land loan that was purchased to build an investment property – your situation isn’t a lot different.

Recommend (politely) your accountant do a search of the ATO and ask about the ‘Steele’ case – I am sure the same ruling will apply to your situation.

Also have a read of this link. It may be of interest. ‘Dale’ is a highly credentialled property investment accountant.

http://www.somersoft.com/forums/showthread.php?t=15843

Derek
[email protected]

Property Investment Support Available. Ongoing and never stopping. PM welcome.

The relevant Taxation Ruling is TR 2004/4.

This ruling deals with the deductibility of interest on borrowed funds incurred before the commencement of, and after the cessation of, business activities. The ruling follows the High Court decision in Steele’s case (99 ATC 4242), and the Full Federal Court decisions in Brown’s case (99 ATC 4600) and Jones’ case (2002 ATC 4135).

As a general principle, the ruling states that the deductibility of interest is determined through an examination of the purpose of the borrowing and the use to which the borrowed funds are put. Where the interest is on revenue account, the fact that the borrowed funds may be used to purchase a capital asset does not alter this conclusion.

Following Steele’s case, the Commissioner says that interest incurred before the derivation of assessable income will be deductible under sec 51(1) of ITAA 1936 or sec 8-1 of ITAA 1997, provided that:

-the interest is not preliminary to the income earning activities;
-the interest is not private or domestic;
-the period of interest outgoings before the derivation of relevant assessable income is not so long that the necessary connection between outgoings and assessable income is lost;
-the interest is incurred with one end in view, ie the gaining or producing of assessable income; and
-continuing efforts are undertaken in pursuit of that end.

Where interest has been incurred after the relevant borrowings (or assets representing those borrowings) have been lost and relevant income earning activities have ceased, the outgoing will still have been incurred in gaining or producing assessable income if the outgoing was productive of assessable income of an earlier period. This is a question of the nexus between the outgoing and the income earning activities. The Commissioner says that interest will not fail to be deductible merely because:

-the loan is not for a fixed term;
-the taxpayer has a legal entitlement to repay before maturity the principal with or without penalty; or
-the original loan is refinanced, whether once or more than once.

However, the nexus will be broken if the taxpayer:

-keeps the loan on foot for reasons unassociated with the former income earning activities; or
-makes a conscious decision to extend the loan in such a way as there is an ongoing commercial advantage to be derived from the extension which is unrelated to the attempts to earn assessable income in connection with which the debt was originally incurred.

In particular, the Commissioner considers a legal or economic inability to repay suggests that the loan was not kept on foot for purposes other than the former income-earning activities.

Where borrowed funds are lost and there is a penalty for early repayment of the borrowings, the penalty will be deductible as if it were interest.

The Commissioner’s previous ruling on this matter (TR 2000/17) is withdrawn with effect from 9 June 2004.

Mortgage Advisor,

I would seek a private ruling from the ATO on this one.

You may be caught out under a few provisions:-

-the period of interest outgoings before the derivation of relevant assessable income is not so long that the necessary connection between outgoings and assessable income is lost;

(The ATO may consider 2 years to be too long)

-the interest is incurred with one end in view, ie the gaining or producing of assessable income; and

(technically this is not the case for you. The end view is to use this as your PPOR. Even if you don’t tell the ATO of this in seeking your ruling – which you wouldn’t because they will knock back the claim – then they may look at when you move into the property (in the future) and then claim that your original intention was to do such a thing and then they will knock back the interest deduction.

-continuing efforts are undertaken in pursuit of that end.

(again your reason was to buy other IP’s. Probably not sufficient reason for the ATO. They will want to know what efforts have been taken to to make this an income producing property – e.g. discussions with builders, quotations, negotations with council – all those things go towards helping this)

So a private ruling would let you know either way what your position would be.

Looks like my accountant let me down….

KPBuilt two units last year completed in April. took 10 months to complete. Rented one in May to Jun (end FY) and accountant only claimed propotion of interest for the period of rental income. When I queried this, I was told that the balance of the interest gets carried forward as a capital cost, which can be offset against the gain when I sell the property !!!
From what is being said on this thread, I’ve been misinformed by the account?

Hi Kp,

You are entitled to ameand your previous four tax returns and as such it should be financially advantageous to go back to your accountant armed with this new information and see what he/she thinks.

If they say no – find another accountant.

Derek
[email protected]

Property Investment Support Available. Ongoing and never stopping. PM welcome.