UPDATE: IRD consultation/discussion document released 10 June creates the concept of a “high water mark” which if included in the final law will reduce or remove the problems discussed below.
I feel the need to urgently warn all investors about Revolving Credit loans, and how I expect they will be treated under phasing out of interest deductions announced yesterday. For clarity what follows is my educated conjecture – the law has not yet been written so we can’t know for sure how things will be treated.
1) If you don’t have any Revolving Credit accounts you can stop reading now – no risk here for you.
2) If you’re Revolving Credit balance is insignificant and you don’t care about its interest deductions after 1 October, you can stop reading too.
3) If you’ve just realised that your account is actually an Offset account, not a Revolving Credit, see (1)
4) Everyone else please read on. This might be a tiny bit complicated, but the summary is – you’re probably going to want to change the way you treat that revolving credit. Right away. Now.
I wrote an article just last month about “The Revolving Credit Trap“, which focused on people losing interest deductions because of paying down and redrawing their loans for private purposes. It’s worth a quick read as background as the logic is similar, but the outcome is drastically different.
The current issue now is that in the IRD Interest Deductions factsheet made public yesterday, quietly sits the following sentence:
However, if you incur additional debt (from drawing on the same loan or taking a new loan) on or after 27 March 2021, and the use of the loan relates to the investment property, interest on that portion of the loan will not be able to be claimed as an expense from 1 October 2021 onwards.
This effectively transforms revolving credits into a deductibility cancer, effective next week. Paying down your revolving credit (with rental income, private earnings, or any other deposit) reduces the loan balance. Pay rates, repairs, or anything else from the account is then treated as “new lending” that will be 100% non-deductible as at 1 October. A probable exception is paying principal (but not interest) off other mortgages, because that’s not ‘new debt’ – it’s needlessly complex, I know. Sorry.
So where to now? Seriously consider fixing the drawn-down balance of your revolving credit accounts, right away. If your bank can refinance this to an Offset account, great. If not, look at converting it to a normal loan. Available balances (what is already paid down) is most likely stuck as non-deductible now anyway. If you large expenditure coming up very soon you could consider drawing this earlier – but don’t do this for purchases a long time away, as the additional interest you pay will outweigh the tax savings.
My thoughts are that revolving credits are no longer viable tools for most property investors. Look to remove them entirely, or accept the high likelihood that these accounts will be fully non-deductible come 1 October 2021.