Moving out of the Main Residence – When can you claim Interest on loans?

There are 2 major issues when taxpayers want to claim the interest on a loan relating to a former main residence:

  1. Redrawn amounts
  2. Timing

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.

Example 1

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.

Example 2

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.

The 2 broad methods of Debt Recycling

Broadly speaking there 2 ways to ‘debt recycle’.

Debt recycling is the conversion of ‘bad debt’ into ‘good debt’. See

  1. Use the income from investments to pay down non-deductible debt, then borrow to invest further, or
  2. Selling investment assets and using the funds released to pay down the non-deductible debt and reborrowing

The best approach might be a combination of the 2 methods.


Bart has owned a few investment properties for a few years. They are positive geared by $100 per week so that is about $5,200 per year in extra funds he can use to pay off his non-deductible home loan.

But the properties have about $500,000 in equity in them.

Bart only owes $400,000 on the main residence so what he could do is to sell the properties, pay the tax and used what is left to pay off the main residence debt, and to reborrow to buy more properties.

This way he uses a combination of the 2 debt recycling methods.

Of course, there is a lot else for Bart to consider such as, most importantly, his ability to qualify for finance to buy more properties.

How to Fund a New Discretionary Trust

Discretionary trusts are generally started with just $10 or $20. Mostly trusts are established for a trustee to hold shares or property for the benefit of a beneficiary, so how does the trustee get the deposit or money to do this?

There are basically just 3 options to consider:

  1. Gift

A gift is an irreversible transfer from one person to another.

It is better than a loan for asset protection against bankruptcy because if the gift giver goes bankrupt generally the gift will not be available to creditors (but the claw back laws need to be considered).

Gifts to discretionary trusts may not be ideal though because when you die the gift will not form part of your assets and cannot be passed via your will.

If the gift giver is borrowing money to gift to a trust the interest will not be deductible.

Gifts should be documented with a deed.

2. Loans with interest

A loan can be made with interest accruing. However, interest is income to the receiver. Interest may be deductible to the trust if it is using the borrowed money invest, s 8-1 ITAA97.

The interest rate could at market, under market rates or higher than market rates. Each has different consequences.

But a person cannot contract with themselves, so you could not lend to yourself if you are the trustee.

Generally, someone borrowing money to lend to the trustee should consider charging interest to the trust. This interest would need to be at least the same interest that the bank is charging you. But the question you should be asking is if the bank has a first mortgage security over real property and charges say 4% to you, if you lend to the trust at 4% without security would this be a market interest rate? Are there any Part IVA consequences?

A loan should be documented with a written loan agreement which would be either a contract or a deed.

3. Interest free loans

Many like to make interest free loans to trusts because there are no direct tax consequences and the loaned money would generally come back to the lender at death and therefore form part of their estate and can then pass into a testamentary discretionary trust.

But a major issue with loans is the various state limitations acts. This could cause a loan to become unenforceable if there has been no activity with a loan for 6 years (NSW law). So, a loan made say 7 years ago which is interest free and no transactions have happened will not be recoverable if the borrower refuses to pay back. You might think that you are not going to sue a related trust, but you must remember that if you set up a trust you are just in control temporarily. If you lose capacity, go bankrupt or die the control of the trust will pass to someone else.

Interest fee loans should be documented in the same way as loans with interest.

Which method should you use?

You should all get specific legal advice from a lawyer, but as a guide:

  1. If you have cash and are concerned about bankruptcy a gift might be worth considering
  2. If you are not concerned about bankruptcy and have cash, then an interest free loan may be worth considering
  3. If you are borrowing and on-lending the money to the trust a loan with interest may be worth considering.

If you do make a loan you must adhere to the terms of the loan for it to be effective.

An Example of How poor Ownership Structuring Can be Painful.

Homer and Marge own 5 investment properties all jointly as Joint Tenants. All in NSW and with a combined land value of $1,200,000.

Homer is on the top marginal tax rate and Marge doesn’t work.

They have reached their borrowing capacity.

They have just paid off their main residence and are saving about $10,000 per month.


  1. Land tax

Combined land tax is $9,236 (2018 year)

If they have owned $600,000 worth of land each then there would be no land tax

  • CGT

If they sell any investment property 50% of the gain will go to Homer. They can’t divert the income to Marge.

  • Paying Down Debt

They have excess cash, ideally this would applied to Marge’s debt as she would pay less tax. But as all the loans are joint they are stuck with reducing the debt relating to both Homer and Marge

  • Offset Accounts

Similar with the cash savings/buffer. It must go into an offset account liked to a joint loan so Homer’s income will increase.

Death Planning

Because they own everything as joint tenants if one dies there is no opportunity to get half of the assets into a testamentary discretionary trust. This will result in extra tax being payable after the death of one of them.

Possible Solutions?

As they have reached their borrowing cap there may not be much they can do if they cannot qualify for a loan. But they could consider

  1. Spouse A selling 50% of the property to Spouse B.
  2. Selling on property and buying a replacement in Marge’s name only
  3. Save up and lend cash to a trustee of a discretionary trust which will buy property and then divert the rental income to Marge
  4. Sever the Joint Tenancy so they hold the existing properties as Tenants in Common in equal shares – no duty, no CGT and easy to do without triggering a loan reassessment. They could then each leave their shares of the properties to the trustee of a testamentary discretionary trust controlled by the other spouse. Half the rents could then be streamed to the children potentially tax free.
  5. Etc

Loan Tip: Overcoming Cash out Restrictions When Buying Main Residence

This strategy is simple yet often overlooked.

Strategy: When buying a new main residence borrow 80% to acquire it, whether you need to or not.


Bart has $400,000 cash and wants to buy a new main residence for $500,000. He plans to borrow $100,000 and then later set up a LOC to invest.

He borrows $100,000 and settles on the purchase. Then he asks for a $100,000 LOC and the bank starts asking questions. Eventually, after giving a DNA sample Bart is approved, but they want a statement of advice from a financial planner saying that Bart will invest in shares.

Lisa is in the exact same situation. Lisa gets some credit and tax advice and borrows $400,000 to buy her main residence. At application stage she splits the loan appropriately so that at settlement she can pay down 2 loan splits and is left with one split with $100,000 outstanding.

  • Lisa had no questions asked about future investment plans,
  • Lisa got the lower main residence rates for all of her splits (prob paying 1% less than Bart),
  • Lisa isn’t incurring any extra interest or costs, and won’t until she draws on the splits, and
  • Lisa has split the loans for tax purposes already.
  • Lisa has saved by not needing to pay a financial planner tosatisfy the lender.

In summary, Lisa has overcome the cash out restrictions and gotten a lower interest rate.

Loan Tip: Using Cash as Security for a loan

It is best not to use cash as deposit for an investment property, especially if you will have a main residence loan. Using cash on an investment reduces your deductions and increases your non-deductible interest.

But what do you do if you don’t have a main residence at the moment, but at looking to acquire one soon?

It is possible to use cash as security for a loan. Normally you may not want to or need to do this, but it is possible, and it can assist with maintaining high interest deductions in some situations.

Generally, the security used for a loan does not affect the deductibility of interest. This means anything can be used as security for a loan without effecting the deductibility of interest. The security could be shares, cash or even a car.

The beauty of cash is that it doesn’t need to be valued or sold for the lender to recover its money so the potential LVR on a loan secured by cash is 100%.

Example 1

Tom has $100,000 cash and wants to buy an investment property for $500,000 before he buys his Main Residence. He might be doing this because he has found a ‘bargain’.

Normally Tom would pay a $100,000 deposit and then borrow $400,000 for the $500,000 property. But doing this would mean that going forward Tom would have $100,000 less for the future main residence. He may be able to access it and borrow against the investment property, but this will have some bad tax consequences:

$100,000 x 5% = $5,000 less per year in tax deductions for the next x years (life of the loan).

So instead using the cash as a deposit Tom could use the $100,000 cash as security and borrow $500,000. Ideally this would be done in the form of 2 loans

Loan A $400,000 secured by a $500,000 property. LVR 80%

Loan B $100,000 secured by a $100,000 term deposit. LVR 100%.

Tom could wait for capital growth (from natural market increase and/or a quick reno) and then release the cash, or if Tom quickly buys the new main residence the cash could be released, and the main residence used as security for the investment loan.

This could happen like this:

Loan A $400,000 secured by the IP. interest deductible against the IP

Loan B $100,000 now secured by the main residence. Interest is deductible against theIP

Loan C $400,000 secured by the main residence. Interest not deductible. The $100,000 term deposit is released and used at settlement to pay for $100,000 of the purchase price of the main residence.

Overall 90% LVR.

Example 2

As above. $500,000 property with a $500,000 loan secured by both the property and the cash.

After 2 years the property is now worth $625,000. Tom applies to remove the cash as security and the bank agrees as the LVR is now 80% based on the property value alone.

$100,000 cash is then used as deposit for the main residence. Tom has an extra $5,000 per year in tax deductions for the next 30 years plus.

Example 3

Tom has 2 properties securing 2 loans at ABC Bank.

Tom sells his main residence and will buy a replacement main residence in a few months. The trouble is Tom didn’t realise that his investment property was also secured by the main residence. The investment property is relatively new and hasn’t grown in value so the bank is insisting that $100,000 of the proceeds of the sale of the main residence be used to reduce the loan on the investment property.

Tom refuses and the bank refuses to discharge the mortgage on his main residence so his sale cannot settle.

Luckily there is a solution. Tom lets the bank keep $100,000 from the sale in a term deposit and to use this as security for the investment property (as well as the investment property mortgage itself).

Then when Tom finds his new main residence he will offer this as security for the investment property and the $100,000 will be released.

The 3rd example is probably the more common situation in which the cash as security is used.

There is a cost to doing this – When cash is used as security it will be in the form of a term deposit with an interest rate much lower than what the bank is charging. So, Tom may lose 3% in rate – get charged 5% for the loan, but receive 2% interest for the term deposit. There are tax consequences of this too as this would not be deductible.

But hopefully the use of a term deposit will be brief, and the benefits can last many years to come.

Only authorised deposit taking institutions will allow for cash to be used as security.

Written by Terryw broker at

Discussion at

Don’t use Cash in Offset account to Invest

If cash is used to invest there is no interest to deduct.

However where money is taken from an offset account the interest on the loan that the offset is linked to will increase but the interest on this loan will still not directly be deductible.

There are 2 scenarios relating to this:

  1. Offset Main residence loan

If the offset account is attached to the main residence any removal of the cash will cause the non-deductible interest on the loan to increase. This interest will not be deductible because the loan is associated with a private purpose – the purchase of the main residence in this case.

E.g. $500,000 home loan with an offset attached containing $100,000 will mean interest is only charged of $400,000. If the $100,000 cash is used to invest, then the interest will be charged on the full $500,000. This will mean approx. $5000 per year in extra interest and lost deductions ($100,000 x 5%). For someone on the top tax rate this is like throwing $2,350 per year in the bin.

  1. Offset on an investment property loan

With an offset attached to an investment property the situation is similar – withdrawing of the cash will not be using borrowed money so there is no interest to claim. But indirectly there will be increased deductions because the interest on the investment loan will increase and the interest on this loan will be deductible against the investment property to which it relates.

E.g. $500,000 loan with a $100,000 offset balance. Loan relates to the purchase of 123 Smith St. $100,000 cash is withdrawn to buy 456 Jones St.

The interest on the loan for Smith St will increase by $5000 per year approx. The extra interest will be deductible against Smith St not Jones St.

Does it matter whether you use offset cash from an investment loan or borrow?

Immediately it won’t really matter. But longer term it will matter because if one property is sold there will be different consequences. Also there are advantages in borrowing as it will keep cash available for private expenses and will increase tax deductions if it is used for private expenses.

Also there will be different consequences if properties have different owners. $100,000 withdraw from an investment property offset in the name of Spouse A v $100,000 borrowed by A and on lent to B.

So think carefully before you go using offset account money.

Update – I just thought of something else relating to using cash in offset accounts and wrote something in a another thread on the issues of whether to use cash or to pay down a loan and reborrow

Unless you have available equity, and cannot borrow, you would only have 2 choices

  1. Use the cash to invest directly, or
  2. Use the cash to pay down the loan and reborrow to invest.

Which option you choose will depend on the situation.

If you plan to never move into the property relating to the existing loan again then paying it down may not give any extra advantages. Same tax consequence if you use cash or pay down and reborrow.

If there is a possibility that you may move into the new property at some point then you would want to reduce this loan size by using the cash in the offset account directly.

If there is a chance you could be selling one property at some stage then there will be different consequences as well.

If the properties will have different owners – .e.g. property A owned by you and property B owned by you and your spouse then there will be different tax consequences as your incomes will differ now and in the future.


Written by Terry Waugh, CTA & lawyer at Structuring Lawyers,


Using Redraw to invest

Withdrawing from a loan is considered new borrowings for tax purposes. So the same principles apply as to all loans. It is generally the use the borrowed funds are put to that determines deductibility. The security of the loan does not matter for tax deductibility reasons.

The reason that using redraw is generally a ‘no no’ is that it usually results in a mixed purpose loan. If there are other monies which have been drawn down and used for other things then increasing one loan to buy a property will result in a mixed purpose loan. See my other tip on why not to mix loan purposes.

So unless your loan account balance is $0 it is best not to use redraw but to set up a new split before borrowing.

However where your loan is Interest Only it is possible to use redraw and to later split the loan into the relevant portions. If doing this you should not make any deposits to the loan account other than interest.

Ideally you would split before borrowing but some people buy property at short notice with no planning and in these cases it would be better to use redraw than to use cash to pay the deposit as a mixed loan can be unmixed later – see Tax Tip 44.

The main point is that using redraw will result in a mixed purpose loan – unless the redrawn amount is used for the same purpose as the underlying loan. So avoid redrawing if possible.

Written by Terry Waugh, CTA & lawyer at Structuring Lawyers,

Borrowing to Pay Investment Expenses

Following on from the tip on debt recycling, one other variation is to borrow to pay both upfront and ongoing expenses. This can allow the recycling to happen even faster than normal.

Here we will talk about expenses other than interest (a topic for another day).

Upfront costs of a property that could be borrowed include:

  • Stamp duty
  • Government charges
  • Conveyancing Solicitor fees
  • Structuring Advice
  • Buyers agent fees

If you own an investment property there will be thousands of dollars in expenses to pay each year. These expenses may include:

  • rates
  • insurance
  • water
  • cleaning
  • repairs
  • biocycle sewerage maintenance
  • strata
  • etc.

Say these cost amount to $3,000 per year. If you pay these out of your pocket that is $3,000 that comes out of your non-deductible home loan or offset account attached to non-deductible loan (assuming it is not paid off). That means more non-deductible interest must be paid.

Instead of using cash to pay these expenses it may be possible to borrow to pay these expenses. If you borrowed $3,000 at 5% that is $150 in interest each year you must pay. But it is not $150 in additional interest as the $3,000 you would have used can go off the non-deductible home loan. This means the overall interest bill is the same.

The real benefit will be in the tax savings. If you are on the top tax rate the tax savings will be about $70 per year in the first year. That is $70 extra you can pay off your non-deductible home loan in year 1.

Not much you may think, but imagine you had 10 properties. Imagine the compounding effect over 2 or 3 years – or 30 years. Expenses also generally increase with inflation and as things wear out the repair costs become larger.

Some people take action to stop the property manager paying these expenses out of the rent. The more you pay yourself the more you can borrow to pay.

Also these expenses could be paid with a credit card which gives you points. More points means more rewards (just make sure the benefits outweigh the fees).

However there is a trap with credit cards – see a future tax tip on this (see Tax Tip 12). If using a credit card you must be careful not to mix expenses on it.

And some rental property managers will also allow their fees to be paid by the landlord instead of taking the fees from the rent.

Keep in mind that there can be other issues where the loan used to pay for the expenses is in a name other than the person who owns the property on which the expenses are paid – such as a spouse. See Tax Tip 79 for the situation where there are 2 spouses on the loan but the expenses relate to a property owned by one of them only. Where X is on the loan but the expenses relate to Y then a loan agreement would be needed.

Warning – This has all the marks of a ‘scheme’ with a dominant purpose of increasing tax deductions. Don’t implement this without professional tax advice. Members of the ATO have indicated they are looking into this strategy.

Written by Terry Waugh, CTA & lawyer at Structuring Lawyers,

Mixing Loans – Don’t do it!

It is common to see loan structuring mistakes with about 90% of the clients I see. One of the most common mistakes is ‘mixing’ loans. This occurs where one loan account has been used for more than 1 purpose and often happens when redraw is used on a loan, but can also happen when the one loan is increased.

An example:

Tom has an $80,000 loan with ANZ on a $100,000 property. He has paid the loan down to $60,000 but still has $20,000 available in redraw. The original loan was used to purchase his owner occupied property. Tom goes and buys an investment property and has the good sense not to use his cash but borrows the $20,000 from the original loan by redrawing it and using it as deposit.

Tom now has a mixed purpose loan. No real problem so far as the 2 purposes can be easily worked out and interest apportioned between them.

But problems can arise in the future.

Problem 1

If Tom’s loan is PI then he will be paying down the investment portion with every deposit he makes. The loan being one pool of debt he cannot segregate the repayments so they come off the non-deductible portion first. So every deposit he makes causes him to reduce his tax deductions which means he is losing money by paying more tax. He is essentially throwing money away.

Solution – split before using.

Problem 2

It will also be very difficult to calculate the portions of the loan. Each deposit made would come off both portions of the loan in relation to the percentage at the time of the portions at the date of deposit.

20/80 = 25%. So 25% of the loan relates to investment and 75% to private purposes. If the deposit into the loan is $100 then $25 must come off the investment portion and $75 off the private portion. Simple for the first deposit, but what if $328.77 in interest is charged for the month. 25% of this relates to the investment portion.

It would be very difficult to work out over a short period. But with some people this has gone on for many years and it would be very difficult to work out.

Solution – split before using.

Problem 3

Another problem is the offset account. Since it is one big loan Tom would be offsetting the investment portion too. Say Tom had $60,000 cash. He would still be paying interest on $20k yet 75% of this would be private interest and therefore not deductible.

Solution – split the loan before you use it. Tom could have had 2 splits of $20,000 and $60,000 he could set up the offset on the $60,000 loan and pay no non-deductible interest at all.

Problem 4

Sale Time. If Tom were to sell either property he would then need to do some readjusting. If he sold the main residence he would have to be careful about paying out the investment portion (topic of a future tax tip). Paying this out would be necessary because the loan is secured by the main residence. But this would cause Tom to lose deductions and also to have less cash available for his new main residence. Fortunately there may be a way around it in most cases. This issue would occur whether the loan was mixed or not. But it is only possible to rectify this if the loan is split before it is paid off.

However the ATO do allow a concession for these situations where the property relating to the loan is sold. See Tax Tip 55.

There are also issues with mixed loans where all portions of the loan relate to investments, albeit different investments. Tax Tip 20A An issue with mixed purpose loans where both portions are investment.

So what to do if you have mixed loans?

Fortunately the ATO allows mixed loans to be unmixed. Rolf says you cannot unscramble an egg, but the ATO allows you to notionally unscramble a mixed loan.

You must work out the relevant portions on a reasonable basis and the loan can then be split. Splitting means each loan portion will end up with a separate account number so they can be distinguished from each other.

Written by Terry Waugh, CTA & lawyer at Structuring Lawyers,