investment properties

Using Rent to Pay Off Your Home Loan Sooner

We have recently received a ruling from the ATO confirming that, in appropriate circumstances it is ok to use the rent you receive to pay off your non deductible debt while capitalising interest on the rental property loan and interest on that capitalised interest will also be tax deductible. In the particular circumstances of our ruling it reduced the term of the clients private home loan to less than 7 years.

Now if the dominant purpose of your arrangement is to gain a tax benefit then the ATO can apply Part IVA to deny you a deduction for the capitalised interest. This approach stems from Hart’s case in 2004 where the ATO proved that the taxpayers’ dominant purpose in capitalising their interest was a tax benefit because they used a linked loan that was promoted by the banks for its tax benefits.

In our ruling we were successful in arguing that the dominant purpose was to pay off their home loan sooner and the tax benefit was incidental. We also showed that the property would eventually become positively geared.

Our approach was that the client was going to use the rent and other income to pay down the mortgage on her own home capitalising the interest payments on the rental properties in another line of credit. Our question was, as she was going to do this anyway it was just a matter of whether the ATO required her to apportion the interest between deductible and non deductible on the new line of credit and if so on what basis. Of course it is well settled that capitalised interest takes on the nature of the original interest so they could not say it had to be apportioned and they could not say that endeavouring to pay down your home as soon as possible had a dominant purpose of a tax benefit because every home owner tries to pay their home off as quickly as possible.

If you have been using rent to pay off your own home, possibly due to financial difficulties or any other reason that is not solely or dominantly to gain a tax benefit you might also like to apply for a ruling to make sure that the ATO can’t come along later and apply Part IVA. The ruling response we received was a private binding ruling so can only be relied upon by the person who applied for it.

On the right of this page is a link to a checklist and more information on this issue in a PDF document. If you have been using the rent to pay off private borrowings and are concerned we can prepare your own private ruling application from as little as $350.