About interest expenses
When you take out a loan for a rental property, you need to pay interest on the amount you borrow from your bank or lender. We refer to these as interest expenses. The principal amount is the money you borrow from your bank or lender.
If you use the principal amount to buy a rental property and it is rented or genuinely available for rent for the entire income year, you can claim a deduction for the interest charged on the loan.
You can only claim a portion of your interest expenses as a deduction if you either:
- use a portion of the principal amount to buy your rental property
- the property is rented or genuinely available for rent for part of the income year.
You can't claim a deduction for additional payments made to reduce the principal amount of the loan.
Watch: Claiming interest expenses
Media: Claiming interest expenses
https://tv.ato.gov.au/ato-tv/media?v=bd1bdiun85itf1External Link (Duration: 02:21)
For a summary fact sheet of what you can and can't claim, download our PDF see, Rental properties – interest expenses.
Interest expenses you can claim
You can claim the interest expenses on the loan principal (mortgage) you use to:
- buy a rental property
- buy a depreciating asset for the rental property – for example, an air conditioner for the rental property
- pay for deductible expenses – for example, to make repairs to the property that arise as a result of you renting it out
- finance renovations and extensions to the rental property.
You can also claim interest expenses when:
- you have pre-paid interest expenses up to 12 months in advance
- during the period you're repairing damage to your rental property, making it uninhabitable while the repairs are taking place.
Example: joint borrowers, joint owners – claiming share of interest incurred
Kosta and Jenny take out an investment loan for $350,000 to purchase an apartment they hold as joint tenants.
They rent out the property for the whole year from 1 July. They incur interest of $30,000 for the year.
Kosta and Jenny can each make an interest claim of $15,000 in their respective tax returns for the first year of owning the property.
End of example
Example: joint borrowers, sole owner – claiming all interest incurred
Simone decides to purchase a rental property. When she approaches her bank for a loan, they require her husband Jarrod to be a co-borrower, even though the rental property will be solely in Simone’s name.
When Simone and Jarrod enter into the loan agreement with the bank, they also enter into a separate legally enforceable written agreement with each other. The agreement is witnessed by a justice of the peace and states that Simone, as the sole owner of the rental property, is 100% liable for the loan repayments and interest.
As the sole owner of the property, Simone must declare 100% of the rental income in her tax return.
Simone can also claim a deduction for 100% of the interest expenses. Simone's agreement with Jarrod shows her intention to be liable for all of the loan repayments and interest charged on the joint loan. Simone's bank statements also support her intention as they show that she paid all the repayments and interest expenses from her own bank account.
End of exampleInterest expenses you can't claim
You can't claim a deduction for interest expenses:
- for any period the property is used for private purposes, even if it's a short period of time
- on the portion of the loan used for private purposes (for example, to purchase a car), either when
- you took out the loan
- you refinance the loan
- on a loan you used to buy a new home if you don't use the new home to produce income, even if you use your rental property as security for the loan.
Example: claiming part of the interest incurred
Yoko takes out a loan of $400,000 and uses the loan to:
- buy a rental property for $380,000
- buy a new car for $20,000 for private use.
Yoko rents her property for the whole year from 1 July. Her total interest expense on the $400,000 loan is $35,000.
Yoko works out how much interest she can claim as a deduction, using the following calculation:
Total interest expenses × (rental property loan ÷ total borrowings) = deductible interest
$35,000 × ($380,000 ÷ $400,000) = $33,250
Yoko can claim an interest expense deduction of $33,250.
The ratio between the deductible and private components of the loan is 95/5. Yoko must continue to apportion interest in accordance with this ratio for the life of the loan. Similarly, any repayments of principal are applied in the same ratio.
End of exampleLoan accounts used for private and rental expenses
If you have a loan account used for both private purposes and rental property expenses, you must keep accurate records to enable you to calculate the interest that applies to the rental property portion of the loan.
You must separate the interest relating to the rental property from any interest on funds used for private purposes.
You can't only repay the portion of the loan for your private purchases. All loan repayments must be apportioned across both rental and private portions of the loan for the length of the loan.
For apportionment calculations in these situations, see paragraphs 19 and 20 of TR 2000/2 Income tax: deductibility of interest on moneys drawn down under line of credit facilities and redraw facilities.
Example: interest incurred on a mortgage for a new home
Zac and Lucy take out a $400,000 loan secured against their existing home to purchase a new home.
Rather than sell their existing home, they decide to rent it out.
They have a mortgage of $25,000 remaining on their existing home which is added to the $400,000 loan under a loan facility with sub-accounts – that is, the two loans are managed separately but are secured by the one property.
Zac and Lucy can claim a deduction for the interest charged on the $25,000 loan for their original home, as it is now rented out.
They can't claim a deduction for the interest charged on the $400,000 loan used to purchase their new home. Even though the loan is secured against their rental property, the property isn’t being used to produce income.
End of example
Example: interest incurred on funds redrawn from the loan halfway through the year
Tyler has an investment loan for his rental property with a redraw facility. He is ahead on his repayments by $9,500 which he can redraw. Halfway through the year, Tyler redraws the available amount of $9,500 and buys himself a new TV and a lounge suite.
The outstanding balance of the loan after the redraw increases to $365,000 and total interest expenses incurred immediately before the redraw are $9,300. The total interest on $365,000 for the year is $19,000.
Tyler can only claim the interest expenses on the portion of the loan relating to the rental property. He uses the following calculations:
Total loan balance − redraw amount = rental property loan portion
$365,000 − $9,500 = $355,500
To work out how much interest he can claim, he does the following calculation in respect of the period following the redraw:
Total interest expenses after the redraw × (rental property loan portion ÷ loan balance at the time of the redraw) = deductible interest
($19,000 − $9,300 )× ($355,500 ÷ $365,000) = $9,448
Tyler can claim interest of $18,748, being $9,300 plus $9,448.
The ratio between the deductible and private components of the loan is 97.4:2.6. Tyler must continue to apportion interest and repayments of principal in accordance with this ratio for the life of the loan.
End of exampleThin capitalisation
Thin capitalisation rules may affect you if the combined debt deductions (for example, interest) of you and your associated entities are more than $2 million in any income year and you are:
- an Australian resident and you (or any associated entities) have
- certain international dealings
- overseas interests
- a foreign resident (or associated entity) with certain investments in Australia.
You must consider the thin capitalisation rules each year.