Each month our panel of tax, property and finance experts answer readers questions. You can submit your question to editor@PropertyUpdate.com.auRead on as you've probably consideed these questions too...
Capitalising Interest
I want to use 'interest capitalisation' to pay for the interest on investment properties, so all I pay is for the interest on the loan to pay for the interest on the investment mortgage (I'm sure you know all about this).
My question is: How do I approach a bank or lending institution about doing this ? Do I explain to them what I intend to do?
I read Michael Yardney's & Ed Chan's books (which are very informative) however I'm still a little confused about approaching these institutions to borrow the additional funds to do interest capitalisation.
(I understand that it depends on the amount of equity available in the investment property itself or I can use equity from my own property).
Do I borrow the money in the first instance when the property is purchased (after working out the shortfall for eg: 10 years) ? Or do I borrow on a yearly basis, keeping the shortfall at a minimum (only paying for the incrementing years rather than for the full 10 years) ?
Thanks.
Rik.
Dear Rik,
Thank you very much for your excellent question which addresses a very common issue.
Most of our clients would borrow up to 80% of the value of the property at the time of purchase and let the banks know that the funds are for investment purposes without being more specific; to cover the shortfall it is possible to use a Line-of-Credit (LOC) or any other (preferably) interest only product with an Offset or Redraw function; an experienced finance broker should be able to help you through this maze.
Usually clients do access their equity at least on a bi-annually basis to maintain a healthy buffer.
Rolf Schaefer
RJA Financial Services Pty Ltd
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Capitalising Interest
Hi
I've read some differing opinions concerning capitalised interest. I would be interested to hear your opinion as to whether capitalised interest can be claimed as a tax deduction against income? If so, is there support for that view such as an ATO ruling?
If it is dependent upon circumstances, in what circumstances would it be allowed?
Cheers
Bevan
Bevan
In the case that went to court called Harts v's ATO the ATO won the case because the marketers sold their capitalized product on tax avoidance which falls under Part 4A which basically says that if you act to avoid tax, then the ATO can use its discretion to deny the deduction.
The promoters of that loan product openly advertised tax avoidance so the judge had no choice but to deny the capitalization of interest on that particular product.
What came out of the court case was that the capitalization of interest was fine as long as it was incurred for investment purposes. This is a different situation to what happened in the Harts case. Unfortunately some people in the industry have taken things out of context and reported that all capitalization of interest is not allowed which is not true.
It depends on how it's setup and also whether the loan was incurred for investment purposes. If it was incurred for investment purposes than it is deductible but if incurred for private purposes it is not deductible.
Ed Chan,
best selling author and tax expert Director, Chan & Naylor, accountants
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Becoming a Property Developer
If someone if looking at becoming a property developer for the purpose of building units then selling them off, do you need to be a registered builder and do you need to complete the Domestic Builders Registration Course?
Regards
Victor
Victor
Many property developers don't come from a building background, but outsource their construction to registered builders.
In fact I have found that many builders don't make good developers - they don't have the right "mindset."
Property development is an creative process and property developers are creators. They take a project from the conception of an idea in somebody's mind through the design and approval phase, financing, construction, marketing and then eventually the leasing or sale of the project.
Successful property developers are a bit like movie producers. They assemble a highly talented team of people and skillfully lead them to develop a profitable outcome. Developers need to be proactive and make things happen. They must also be creative, flexible and adaptive to take their project through this maze.
Michael Yardney
Director – Metropole Property Investment Strategists
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Hi, my husband and his sister have recently sold a property which had been owned by their mother. She died 10 years ago and since that time the property had been in their
name. Obviously CGT will come into play in the next tax year. We were wondering what is the best way to get an evaluation on what the property would have been worth back then. We don't have any old council rate notices from then. If we approached a real estate agent would they have records going back that far to give us an estimate or is there another alernative? We're not sure how to go about it.Thanking you,
Debbie Hogan
Debbie
You could ask a real estate agent who may have some old records of what similar houses were worth back than. If you use a real estate agent than they must give comparative sales figures and they must give a range. The range must be narrow ie$500K to $510K and not $480K to $520K. You could also get a Residex report on a particular house going back 20 years.
Ed Chan,
best selling author and tax expert Director, Chan & Naylor, accountants
Hello,
Regards,Louise & John
The simple answer is you don't need the income to serivice your loans if you buy the right properties - you service your debts by using the increasing equity in your properties. I have explained this strategy in detail in my book "How to Grow a Multi Million Dollar Property Portfolio - in your spare time. Click here for more details.
Michael Yardney; Director – Metropole Property Investment Strategists
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Hi,
2 years ago, I purchased an investment property. The total cost of my venture was around $340,000, which included property purchase, stamp duty & other borrowing costs. The $340,000 was virtually 100% bank loan - 30% from the equity of another property and 70% investment loan.
I am in a situation that I have to sell at a loss - market is not favourable and it was my first investment venture. I just have to take the loss as "lesson learned". Assuming that I will be able to sell my property for $289,000 then take away commission and other selling cost, this may leave me with $275,000. I then pay off part of $340,000 mortgage - that leaves me $65,000 short (owing the Bank).
I then claim $65,000 as a loss in this year income tax return. But my average withholding tax is only about $30,000 - so that would leave me $35,000 (owing the Bank).
My questions are :-
1. I assume that the $35,000 can still be claimed as a loss in the next financial year tax return. Is this correct?
2. While I still owe the Bank $35,000, can claim the interest as tax deductions in the next financial year tax return?
3. Assuming the property has been sold/settled in December 2007 and pay the Bank in the same month, which would leave me a balance of $65,000 in credit, can I claim the 6-month interest (till June 2008) as tax deductions in the year 2007-2008 tax return? I do not think so.
4. Can I claim any loan interest in the succeeding financial year tax return until I paid it off?
Your input is very much appreciated.
Regards,
Property Update Follower, VIC
You cannot claim the capital loss against income so the capital loss of $65,000 can only be carried forward to be offset against a capital gain in the future. I do not understand what "withholding tax is". If you mean that you will have a debt to the bank of $35,000 than you can claim the interest on this debt as a tax deduction but only after all receipts of monies from the sale of the property has been used to pay down the debt on the same property
The $65,000 cannot be claimed as a loss against INCOME and can only be carried forward to be offset against other capital gain. One cannot offset capital losses against income but can only be offset against future capital gain
You can claim the interest on the outstsanding debt and the yes the interest in the final year is tax deductible
Ed Chan,
best selling author and tax expert Director, Chan & Naylor, accountants www.chan-naylor.com.au
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