The Revolving Credit Tax Trap for Investors – Guest Blog

Revolving credit facilities are popular with property investors because they offer flexibility, allow you to park cash to reduce interest, and provide easy access to funds when needed. But for investment properties, revolving credit creates a tax trap that can cost you thousands in lost deductions if not managed carefully.

With interest deductibility fully restored from April 2025, understanding this trap matters more than ever.

What Is Revolving Credit?

A revolving credit facility works like a secured overdraft against your property. Instead of a fixed loan with scheduled repayments, you have an approved credit limit (perhaps $200,000) with a variable interest rate. You can pay down the balance, redraw funds, and manage the account as you wish, with interest calculated daily on the outstanding balance.

For owner-occupiers, this flexibility is powerful. You can park your salary in the account to reduce daily interest, then withdraw for expenses as needed. Every dollar sitting in the account reduces your interest cost. For investors, however, this same flexibility creates a significant tax problem.

The Tax Trap Explained

The core issue is how the IRD treats money flowing through a revolving credit account. Every deposit and withdrawal must be traced to determine what the borrowed funds are used for.

How the Trap Works

Consider this scenario: You have $150,000 owing on your investment property revolving credit. Your salary of $5,000 is deposited, reducing the balance to $145,000. You then withdraw $3,000 for a personal expense such as a car repair, holiday, or credit card payment.

The IRD views that $3,000 withdrawal as a new loan for private purposes. It's not the "same" money that was there before - it's fresh borrowing secured against your investment property. The consequence is that $3,000 of your facility is now non-deductible, and the interest on that portion cannot be claimed against your rental income.

Why This Cascades

The problem compounds over time. Each personal withdrawal "taints" another portion of the facility. After a year of normal use, your $150,000 investment loan might have $30,000-50,000 of non-deductible borrowing mixed in, all because funds flowed in and out for personal use.

To illustrate the impact: on a $150,000 loan balance where $40,000 has been tainted from accumulated personal withdrawals, only $110,000 remains deductible. At 6% interest, you lose $2,400 per year in deductions. At a 33% tax rate, that costs approximately $800 per year in extra tax. Over 10 years, that's $8,000 in unnecessary tax from a facility that was supposed to save you money.

The Interest Deductibility Context

From 1 April 2025, interest on residential investment property loans is 100% deductible again. This makes the revolving credit trap even more relevant. Before April 2025, partial deductibility meant the trap cost less in absolute terms. From April 2025, full deductibility means every dollar of tainted debt costs you the full interest deduction.

If you're going to claim 100% of your interest as a deduction, you need to be able to demonstrate that 100% of the borrowing was for investment purposes. A messy revolving credit facility makes this difficult.

How to Avoid the Trap

Solution 1: Keep Investment Revolving Credit Completely Separate

The cleanest approach is to never deposit personal income or make personal withdrawals from an investment revolving credit. Structure your investment property mortgage with a fixed-rate portion for stability and a revolving portion for flexibility. Ensure all rental income goes into the revolving credit and all property expenses come from it. Never deposit salary or make personal withdrawals. This keeps the audit trail clean and ensures 100% deductibility.

Solution 2: Use Offset Accounts Instead

An offset account is linked to your mortgage but is a separate transaction account. Money in the offset reduces the interest charged on your mortgage, but the mechanics are different. Deposits to an offset don't repay the loan - they offset it. Withdrawals from the offset don't create new borrowing - they just reduce the offset benefit.

This means you can freely deposit and withdraw from an offset account without tainting your mortgage deductibility. An ideal structure for investors involves a standard table loan or fixed-rate mortgage on the investment property with an offset account linked to that loan. Rental income is deposited to the offset, property expenses are paid from the offset, and personal funds are kept completely separate. The loan itself stays 100% for investment purposes while the offset provides flexibility without the tax complication.

Solution 3: Split Your Facilities

If you want revolving credit benefits for both personal use and investment properties, use separate facilities. Your personal revolving credit (perhaps $50,000) would be attached to your home, handling salary deposits, personal withdrawals, and everyday banking. Since home loan interest isn't deductible anyway, there's no tax issue. Your investment revolving credit (perhaps $150,000) would be attached to your investment property, handling rental income only and property expenses only. This portion remains 100% deductible.

This approach requires discipline - never cross the streams - but provides both flexibility and clean tax treatment.

Solution 4: Use Entity Structures

Holding investment properties in a company, trust, or limited partnership can help with separation. With company ownership, the company has its own bank accounts, personal funds can't flow through company accounts, and separation is cleaner by default.

Entity structures have their own costs, tax implications, and complexity. Don't restructure just to solve the revolving credit problem - but if you're already using structures, ensure the bank accounts are set up correctly.

Record Keeping Requirements

If you do use revolving credit for investment properties, the IRD requires detailed record keeping. You must track every deposit and its source, every withdrawal and its purpose, the proportion of the facility used for deductible versus non-deductible purposes, and your calculations showing how you've determined the deductible interest.

For complex facilities, this can require spreadsheets tracking every transaction. The administrative burden often exceeds the flexibility benefit. If your accountant has to spend hours unpicking your revolving credit transactions each year, you're probably paying more in accounting fees than you're saving in interest.

What If You're Already in the Trap?

If you've been using investment revolving credit for personal purposes, you have options.

The first option is a clean slate refinance. Refinance the investment property with a new, clean loan. Use the funds to clear the messy revolving credit and maintain proper separation going forward.

The second option is to track and apportion. Work with your accountant to calculate the deductible versus non-deductible portions. Claim only the legitimately deductible interest. This is complex but may be necessary if refinancing isn't practical.

The third option is to accept reduced deductions. If the tainted portion is small and tracking is impractical, accept a conservative deduction approach. Not ideal, but pragmatic for small amounts.

Keep Investment and Personal Banking Separate

Revolving credit is an excellent tool for owner-occupied homes where interest isn't deductible anyway. For investment properties, the tax complications usually outweigh the benefits.

Best practice for investors is to use fixed-rate or table loans for investment properties. If you want flexibility, use an offset account instead of revolving credit. Keep personal and investment banking completely separate, and consult your accountant before setting up any flexible facility on investment property.

The interest deductibility changes from April 2025 make this more important than ever. Get your structure right now to avoid costly complications later.