How to Deduct Interest on Money Borrowed for Investment Properties

Allan Madan, CA
 Aug 24, 2015
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If you are a real estate investor and are thinking of borrowing money to make your next purchase, continue reading this blog.  Learn how you can save taxes by claiming tax-deductible interest!

how to deduct interest on money borrowed for investment propertiesMany people are unaware of the tax benefit of paying interest on money borrowed to purchase an investment property.  As a general rule, it is beneficial to borrow funds rather than using your own money.  This is because interest paid on borrowed money is tax deductible, if these 3 criteria are met:

  1. A written loan agreement exists;
  2. Interest is payable on the loan; and
  3. The purpose of taking the loan is to make a profit from flipping or renting out real estate.

The most common scenario where you can deduct interest expense is when you purchase a rental property.  Interest paid reduces the net profit from the rental property and also lowers the associated taxes.  There are however, restrictions that apply to vacant land. If the land is generating income, interest paid on borrowed money can be deducted.  Otherwise, the interest paid is added to the cost of land for tax purposes.

In the event of an audit, the CRA will ask to see the loan agreement and a clear paper trail showing that the borrowed funds were directly used to purchase the income-generating property. If you are audited, consider taking a look at this article on how to prepare for tax audits in Canada.

What about interest in respect of loans to family members? For example, assume that Frank makes a loan carrying a low interest rate of 3% to his wife Sally, so that she can buy a rental property.  Sally earns less than Frank, so Frank determined he would pay less in taxes if Sally collected the rental income from the property.  Since Frank is clearly trying to avoid paying tax, the CRA will overturn this transaction, such that (A) Frank will have to pay tax on the rents collected instead of Sally, and (B) Sally will include the loan interest in her income, while Frank will claim a deduction for the interest paid.

So Here’s the Tip:

If you have borrowed funds to purchase real estate, then you can claim a tax-deduction for the interest paid. For more tax tips on the best practices for investing in real estate in Canada, take a look at this article on real estate tax planning.

Disclaimer

The information provided on this page is intended to provide general information. The information does not take into account your personal situation and is not intended to be used without consultation from accounting and financial professionals. Allan Madan and Madan Chartered Accountant will not be held liable for any problems that arise from the usage of the information provided on this page.

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Comments 2

  1. Good day

    I used my HELOC to invest into a rental property.

    This particular line was only used for that purpose

    There isn’t a loan agreement in place for this except the paper trail of the certified bank draft from the HELOC into the investment property.

    Would this meet the criteria for Canada revenue ?

    Secondly I was thinking of turning the HELOC into a mortgage so I can pay it down. Can this be done?

    1. Hi Chris,

      You can claim a tax deduction in interest paid on a HELOC, as the funds were used entirely to purchase a rental property (income producing asset). You can covert the HELOC into a separate mortgage and still deduct the interest. But make sure that you can still track the interest separately after conversion.

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