There are 2 major issues when taxpayers want to claim the interest on a loan relating to a former main residence:
- Redrawn amounts
Redrawn amounts and Mixed Loans
Interest is only deductible if the loan it is incurred on was used to purchase the property, or for improvements etc. Where any amounts have ever been redrawn from a loan the interest would need to be apportioned.
Tyrell borrowed $500,000 to buy a main residence. Along the way she paid it down to $450,000 and then redrew $50,000 to buy a yacht (which is actually a small boat, but sounds better if he calls it a yatch).
This loan no longer relates solely to the property but is a mixed purpose loan so only 450/500 or 90% of any interest on the loan could be deductible once the property is available for rent.
David used a LOC for his loan to purchase his main residence and borrowed $500,000 initially. Every week he deposited his salary and then redrew amounts to live on. The amount of the loan relating to the property will decrease each week and at the end of 5 years the loan would be extremely mixed.
He would have to spend hours to work out the portion of the loan relating to the property and might find that this might only be 10% of the loan amount.
(this is why you should never use a LOC as the main loan, but only to ‘access’ equity)
The other issue is timing. A person cannot start claiming interest until the property is available for rent. This is generally only after you have moved out and have advertised the property for rent at market rates. While you are living in the property and advertising it the property wouldn’t be available for rent, so you could not claim interest during this period.
There are also timing issues on when interest is incurred and debited to an account because interest is generally incurred daily but added monthly to the loan.
Example 3Let’s say someone moves out on the 30th and immediately advertises the property for rent and on 1st of the following month they are charged $1,000 in interest. Can they claim that interest? No, well not in full because interest is charged in arrears and added to the account monthly. So, 29 days of that interest related to the period you would living in the property. So, in the first month only 1/30th of that $1,000 should be claimed.