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Claiming interest on a loan used for mortgage

Claiming interest on a loan used for mortgage

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A client (partnership) was unable to obtain a personal mortgage so instead took out a business loan.  They then took the cash out of the business as drawings.

Can the partnership claim the interest on the loan? 

I know that the loan wasn't taken out for a business purpose but the capital account still remained positive after the drawings were taken.

Any help gratefully received - I'm going round in circles!

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21st Oct 2012 22:07

I could be wrong, but, if the loan is technically in the name of the partnership then I can't see why not because it's still on the books of the business, isn't it.  I gather the bank/lender doesn't care what the money is used for as long as the repayments are made on time.

But what happens if the business goes under - the other partner(s) will be joint and severally liable for the loan (personal mortgage).

Unless the personal mortgage was for the benefit of the partnership anyway???

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22nd Oct 2012 07:52

could this possibly

be fraud?

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22nd Oct 2012 08:32

Reviewed loan agreement
I hadn't thought about it being fraud but I've reviewed the agreement and the bank was aware that it was to build a property although it doesn't specify a business or personal property.

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By MJShone
22nd Oct 2012 08:52

Sticking purely to the tax aspects...

If the partnership is borrowing to allow a partner to withdraw no more than what he has put into the business and his accumulated undrawn profits, then the interest is allowable. However, if the partner overdraws at any point, the loan is for pirvate, rather than business, purposes and the interest on that portion is not allowable.

See HMRC's Business Income Manual here:

http://www.hmrc.gov.uk/manuals/bimmanual/BIM45690.htm

in particular:

"To decide whether borrowed funds are being used for business or private purposes you need to look at the business accounts and the underlying facts. The use of the money is usually very clear, for example if the money was used to buy a business asset such as plant and machinery, and that asset is used solely for the business.

But interest is not allowable as a deduction if the borrowing finances private spending because the proprietor has taken more out of the business than they have put in or earned in profits. [My emphasis.] This is explained in more detail at BIM45705 - BIM45730."

Those paras referrred to have helpful examples. You'll see from the rest of the paragrah quoted above that simply looking at the face of the balance sheet may not be enougheg depercitaion and revaluations have to be ignored.

There often seems to be confusion around what is an allowable purpose, particularly (because of the old rules I think) when a rental business is involved. (There are numerous threads on this site about that topic.) However, I think the BIM is pretty clear - if a business borrows to allow a proprietor/partner to take out no more than he has put in plus his accumulated, undrawn profits, that is an allowable purpose so the interest on the loan is deductible.   

This can sometimes be extended to trustees where there is a business within the trust, but it's more complicated than with a non-trust business.

 

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