Offset in the name of the lower income earner
Once you have paid off your main residence you will probably want an offset account on one of your investment properties. This will be a useful place to store cash from rents and wages and also to save up a buffer for emergencies.
Where you have used the strategy of buying properties in sole names, some in the name of Spouse A and some in Spouse B, you can move money around to create tax savings.
You would generally want the cash in the name of the lower income earner as this spouse would generally be the one paying the least tax. Where there are several lenders involved (with that spouse) you would choose the lender with the highest rate as this will produce the highest return.
Money in an offset means less interest is incurred which means more income from the property.
Homer is on the top marginal tax rate and his wife Marg has a taxable income of $0. They each own 2 rental properties. They have just paid off their home and old man Simpson has died and left them with $200,000 cash.
Where should they put it?
The answer, from a tax perspective, would be in an offset account attached to Marg’s loans.
Loan A is at 5% pa and Loan B at 5.5% pa. Both have offset accounts.
In this situation if $200,000 is deposited in:
Loan A the savings would be $10,000 per year. Marg would pay no tax on this
Loan B, the savings would be $11,000 per year. Marg would pay no tax on this.
There would no extra tax to pay as Marg’s income is $0 before this, and after depositing her income would be either $10,000 or $11,000 both of which are under the tax free threshold.
Let’s say Homer had 2 loans with each at 6% pa. If the $200,000 was deposited into either of Homer’s offset accounts the interest savings would be
$12,000 per year.
But as Homer’s interest decreases by $12,000 his income increases by this amount and because he is on the 47% tax rate 47% or $5,640 would be lost in extra tax.
Thus after considering tax the funds would be better placed into the offset account on Loan B belonging to Marg.
Keep in mind the legal consequences of ownership in different names too:
- asset protection
- estate planning on death
- effect on spousal loan strategies
Perhaps a private loan agreement, even at nil%, can assist in legal planning.
This is also another reason to consider purchasing in sole names.
Written by Terry Waugh, CTA & lawyer at Structuring Lawyers, www.structuringlawyers.com.au