Tax benefits of transferring current mortgage to rental property
Question from Andrew Pengelly updated on 4th October 2006:
Our expert responded:
The short answer is yes, and there are two ways you can do this. The first one, which will be the easiest, will depend on your current account balance in the company. Say your account is in credit by $100,000, the company can borrow money from the bank to repay you this credit balance, with the interest being tax deductible in the company. You can then use these funds to repay part of your personal mortgage. The second option is a longer drawn out process but is just as effective. Firstly, you need a current valuation on the rental property. Current means the valuation must be less than six months old. You could use a government valuation, but you will probably be better off with a registered valuation. Once you the valuation, you need to prepare accounts that are up to the date in order to include the revaluation of your rental property. For this reason, it's best to do this at year end otherwise you end up having to prepare accounts twice with the consequential cost. This is to establish what the net equity is in the LAQC. We need the assets to be greater than the liabilities before we can do anything, and we need an up to date balance sheet in order to be able to establish that. Assuming that we now have positive equity, i.e. our assets will be greater than our liabilities, we can distribute a capital dividend to the shareholders of the LAQC. In order to make this payment, the LAQC is going to have to approach the bank, refinance the property, and pay the proceeds to the shareholders. Here's an example. We currently have negative equity of $25,000 (meaning our assets are less than our liabilities by 25,000), which is normally the result of losses incurred by the LAQC. We get a valuation showing the property has increased in value by $100,000. We add those two figures together and get a net of $75,000. This is the maximum capital dividend that can be paid out. There is other paperwork that needs to be done to support this and your accountant can help you with this. As the loan has been taken out in order to pay a dividend, the interest on this loan will be tax deductible. As you have already worked out, financially, you will be much better off if you can transfer as much of your personal mortgage to your rental property. Your overall cash cost will probably be the same, depending on the net cash position of the LAQC before you took out the mortgage, however at least some of your mortgage will now be ‘tax deductible’.
Kenina Court is a director of Acorn Solutions Limited, an accounting firm dedicated to working with clients to help them create wealth. She is an avid property investor, entrepreneur and seminar presenter on asset protection and wealth strategies.