Interest is not deductible merely because a loan is secured by rental property or was obtained by a business. The treatment depends mainly on the actual use of the borrowed money, a legal obligation to pay interest and the reasonableness of the amount.
Tracing is therefore essential. Two loans secured by the same home can be treated differently if one finances an income-producing investment and the other personal spending.
Trace the direct use of borrowed funds
At the time of borrowing, the funds should be linked to property or an activity used to earn income from business or property. The account name, collateral and general intention do not replace evidence of the actual disbursement.
When funds pass through several accounts or are mixed with personal money, the trail becomes difficult to establish. A separate account for each significant financing helps document purchases, repayments and refinancing.
Reassess current use after refinancing
Deductibility can change when the financed property is sold or the loan is refinanced. Review what the new financing replaces and how the funds are used after the transaction. Keeping the same mortgage does not guarantee that all interest remains deductible.
Conversely, refinancing an investment may preserve an eligible use if the connection is documented. Sale proceeds, partial repayments and new advances should be tracked separately.
Avoid mixed-use credit accounts
A line of credit used for personal and business expenses creates a mixed balance. Repayments and new draws make interest allocation more difficult. Personal financing should be separated from borrowing used to earn income.
Interest on money borrowed to contribute to an RRSP, TFSA or another tax-deferred or tax-exempt plan is generally not deductible as investment interest. Shareholder loans and corporate advances follow different rules again.
- Loan agreement and complete statements.
- Initial disbursement linked to the asset or activity.
- Mixed use avoided or allocated with support.
- Changes in use reviewed when they occur.
Plan debt without creating an artificial series
Debt-reorganization strategies can be valid when they reflect genuine commercial cash flows. They must still respect the actual payments, purpose of each borrowing and anti-avoidance rules. Circular entries with no real economic change are vulnerable.
The structure also has to work for cash flow. Our tax planning and self-employed accounting services can integrate debt into the file rather than reviewing it only at year-end.
Document the use before claiming the deduction
The most useful question is not “Is this a business loan?” but “Where was each dollar used, and what does it finance today?” A clear banking trail can be decisive during an audit.
Impôts Ici can trace borrowings, calculate the deductible portion and recommend a clearer account structure. To review your interest expense, contact our team.
