Hi there,
question for those of experience please ……….is it wise to put a cash deposit into a 3 year fixed IO loan for an IP?
My broker has suggested that we borrow $15,000 above the purchase price to cover ourselves for fees, out of pocket expenses should it not be rented straight up.
My dilemma is.. that it doesn’t sit right with me, as instead of making repayments on the lower amount, we would be paying high repayments for the 3 years.
We do have disposable cash on hand (should we use it for the repayments or use it up front?) – that is why I am considering at least paying the loan fees ect out of our cash. Would this be a wise investment decision or should you go the loan for the whole lot.
It concerns me too when it comes to revaluing the property to access any equity for further investments it will take a lot longer due to the fact that we owe more than the property even started out at.
Hope this makes a little sense, I’ve been studying too much and am going around in circles…..need sleep….please help
sq[cigar]
Hi
Do you have a loan on your own home? If so, all spare cash should be going onto that loan.If not, then I would be inclined to borrow as much as possible and put any spare cash in a 100% offset account. You will get the same savings without the adverse tax consequences of paying down a loan.
Terryw
Discover Home Loans
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Thanks for your reply Terry,
No I don’t have a loan on my PPOR.
Do you mean 100% offset account again my new IP loan then? I am assuming thats what you mean.
cheers
SQ
Yes. Because once you pay down a loan, if you redraw the money this is considered new borrowings and the deductibility of interest will depend on what you use the money for.
eg. You want to use the funds for a deposit on your own home.
And if you have no PPOR, why not move into your rental property intitially and take advantage of the tax laws to have it classed as your main residence. You can then move out and claim the interest and still be able to sell without incurring CGT.
You just have to know the rules and work around then.
Terryw
Discover Home Loans
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Originally posted by Terryw:Hi
Do you have a loan on your own home? If so, all spare cash should be going onto that loan.But she surely couldn’t put the extra $15,000 into her home loan? At least, not if she plans to claim that part of the loan interest against her tax?
On the other hand, it seems that the purpose of this extra borrowing is capital in nature (“above the purchase price to cover ourselves for fees, out of pocket expenses”), so the interest on this $15,000 would not be deductable anyway would it? Note – I’m no tax expert. I always believed that purchase costs were capital expenses (reduce CGT on sale), while interest, insurance, rates, and agents’ fees were income tax deductions…
If I’m right then suzieq would not be entitled to a tax deduction on the $15,000, and the only person benefiting from the plan is the mortgage broker. Ah don’t ya love those trailing commissions – a bigger loan = more $$$ every year to the mortgage broker… [jealous]
Someone let me know,
F. [cowboy2]
Sorry, I know it’s bad etiquette to reply to one’s self…
And please excuse me suzieq for hijacking your thread.
I’m really curious about this now. I need somebody to explain to me how the different parts of IP costs are treated, taxation-wise. Here’s my thought, please correct me where I’m wrong.
Expenses are either:
– Non-deductible
– Deductible against income
– Deductible against capital gainsAm I on track so far?
So back to my original reason for posting.
Let’s say I borrow $200,000 to buy an IP. The IP costs $160,000 (whoa, a 125% loan? Nope, just a bit of equity withdrawal and 80% LVR financing). Now supposing I spend $5,000 on purchase costs, $10,000 on stamp duty and $25,000 on repairs.
Am I right in thinking that:
– I can claim the annual interest on $160,000 against my annual income
– I can claim the $5,000 in purchase costs against my annual income, but this must be done over 5 years. I can’t claim interest costs on this part of the loan can I?
– I can claim the $25,000 in repairs as capital improvements, ie offset capital gains on sale. I can’t claim interest costs on this part of the loan can I?
– I can claim the $10,000 in stamp duty as a capital cost, ie offset capital gains on sale. I can’t claim interest costs on this part of the loan can I?Thanks in advance,
F. [cowboy2]
Hi F
I am not a tax agent, but ..
I beleive the interest on any borrowings for investment purposes should be deductible. So this should include interest on the portion borrowed to cover stamp duty and borrowing costs.
The borrowing costs themselves could be claimed over 5 years.
The stamp duty etc could not be claimed now as they are purchase costs and considered capital in nature. So these would be claimed against CGT if the place is sold.
If you borrow to make repairs, then the interest should be claimable. The repairs may also be claimable, depending on the nature. If it is an improvement, it may only be able to be depreciated over a certain number of years depending on whether it is considered part of the house (2.5% over 40 years) or a fixture (much faster depedning on the item, maybe 20% over 5 years).
I think borrowing a bit extra for unforeseen stuff is a bit of a grey area. It is like borrowing to make repayments, and capitalisation of interest. previously I would have thought this was ok. But in Dec the ATO issued a ruling saying it was acceptable, but removed it about a week later. So even they are confused.
Terryw
Discover Home Loans
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Hi suzieq,
If I were you, I would borrow as much as possible against the IP (because the interest payment is a tax deduction) and invest any spare cash in investments giving me more than 8% (or whatever is your fixed intt rate).cheers,
Sanjiv Gupta“There is no passion to be found playing small – in settling for a life that is less than the one you are capable of living.†– Nelson Mandela
Thanks to all who have replied.
I’m thinking…. take the $15,000 more to cover stamp duty ect, but my only concern is
Does this loan amount affect the valuation versus equity when the property goes up and I want to access equity? What I am trying to say even though it may seem dumb is say…..
First year…..
Property $240,000
Loan $255,000Five years later
Property $360,000
Loan $255,00….Is the useable EQUITY the difference between the Property value at the time of valuation and the outstanding loan amount or the difference between the valuation of the property and property PURCHASE price not the loan.
sorry if this seem vague, but I’m just trying to get my head around it all in terms of accessing my equity down the track.
thanks again
SQ
Hi suzieq,
Equity = Property Value – Amount Owedcheers,
Sanjiv Gupta“There is no passion to be found playing small – in settling for a life that is less than the one you are capable of living.†– Nelson Mandela
Yes, borrowing more initially will mean less equity, now and the future.
Terryw
Discover Home Loans
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Send an email to get my newsletter.Terryw | Structuring Lawyers Pty Ltd / Loan Structuring Pty Ltd
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Email MeLawyer, Mortgage Broker and Tax Advisor (Sydney based but advising Aust wide) http://www.Structuring.com.au
I agree with Sanjiv and Terry.
Many people advocate never paying down the loan on I.P’s because of the tax deduction on the interest.
At the end of the day, the less you owe against what you’re worth is a good thing.
In my opinion, once your personal debt has been paid out, then you start on any other debt you have (investment).
This increases your equity for further borrowings for investment and also gives you more equity for ‘unforseen incidents’.
Cheers,
Marc.
[email protected]“we get sent lemons; it’s up to us to make lemonade”
Hi Marc
Even when personal debt is fully paid out, I would still suggest looking at putting spare cash into a offset account rather than paying down the loan.
THis is because you never know when you may need that cash for personal reasons. eg. upgrading to a new home, takign an expensive holiday, expensive medical emergency, gifting family etc.
Terryw
Discover Home Loans
[email protected]
Send an email to get my newsletter.Terryw | Structuring Lawyers Pty Ltd / Loan Structuring Pty Ltd
http://www.Structuring.com.au
Email MeLawyer, Mortgage Broker and Tax Advisor (Sydney based but advising Aust wide) http://www.Structuring.com.au
thanks for your comments everyone, I guess now its up to me to do what i feel is right.
sq
Great post for clarification on a few points.
Terry, could have fooled me about being a tax expert. I was an accountant and agree with all your comments.
Can I hijack for a moment and ask for clarification about:
“Let’s say I borrow $200,000 to buy an IP. The IP costs $160,000 (whoa, a 125% loan? Nope, just a bit of equity withdrawal and 80% LVR financing). “Can someone show me the numbers as to how this has worked please?
Understand the concept, but the bank will actually lend you more than purchase price based on the equity you have to draw on, from another IP?Thanks in advance
Peter
____________________________
Vision without action is a daydream. Action without vision is a nightmare.Thanks guys, things are a lot clearer for me now!
I have taken the extra $15,000 to cover expenses ect on this occasion. May not be right for other purchases, but for this one I feel that it is the right thing to do after evaluating it some more. It is Interest Only for 3 years and then I will re-evaluate putting more cash into it after that period – perhaps – dependent on financial status then!!
The extra cash I have, I will put in an offset account to offset interest on another IP I'm holding, which has just come out of its Interest Only period.
cheers
sq
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