Borrowing through a family trust can be an effective way to build wealth, whether you're investing in property, shares or other income-producing assets. But when it comes to claiming interest deductions, the way the arrangement is structured matters.
It's a situation we see regularly. An individual borrows funds, often against their home or another investment, and then lends those funds to their family trust. The trust uses the money to invest, earns income and later distributes that income to beneficiaries. At first glance, it seems reasonable to claim a deduction for the interest on the original loan. In many cases, however, that deduction may not be available.
The reason comes down to one of the fundamental principles of tax law: borrowed funds need to be used in a way that generates assessable income for the person claiming the deduction. If you've lent money to your family trust interest-free, the loan itself isn't producing income for you personally. While you may receive trust distributions in the future, those distributions aren't considered a return on the loan. In a discretionary trust, distributions are determined by the trustee and aren't automatically linked to money you've advanced to the trust.
As a result, the connection between the interest expense and your assessable income may not be strong enough to support a deduction.
The ATO has considered arrangements like this before and generally takes the view that the interest isn't deductible. The good news is
there are two well-established ways to structure things correctly from the outset.
Whichever structure is used, timing is critical.
These arrangements need to be properly documented before the loan is established. They can't be fixed after the fact. Once funds have been borrowed and applied, the opportunity to restructure the arrangement may be limited, and in some cases impossible.
For an agency arrangement, the trust deed needs to allow the trustee to borrow and act through an agent. The trustee must formally appoint the agent, and the appropriate documentation should be in place before any funds are drawn down.
It's also important to remember that while the structure may determine who claims the tax deduction, it doesn't change who the lender can hold responsible. In most cases, you will still be personally liable to the bank and may still be required to provide security.
If you're considering borrowing to invest through a family trust, whether for property, shares or other investments, it's worth
having the conversation before signing any loan documents. The right structure can be straightforward to put in place from the beginning,
but much harder to fix later. By getting the foundations right, you can move forward with confidence and ensure your investment strategy is
working as intended.
The way you borrow can impact your tax outcome. Speak with our team before signing any loan documents.
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