Interest deduction to the fullest!

Many customers are wondering whether interest on certain loans are deductible. Some people are also wondering how to maximize debt and interest deductibility.
This article summarizes some key points.

Interest Deductibility

The basic principles regarding the deductibility of interest is the direct use of funds and income producing finality.

The criterion of income-producing purpose is clear enough: the borrowed money must be used to generate income. Yet many customers think that refinancing a rental property, they can automatically deduct mortgage interest arising therefrom. To determine if the interest is deductible, it is not whether the loan is secured by a property that generates income but rather to know the use of borrowed funds. If the money was used to make an expenditure for the purpose of generating income, interest will be deductible, otherwise it will not. That is, if you mortgage a rental building to make maintenance of this rental property, interest will be deductible. If you mortgage the same property to buy a personal residence, the interest will not be deductible. Conversely, if you mortgage your primary residence to buy a rental property, the interest will be deductible as this is where the money (to buy an apartment building) that counts and not the source of security for the loan (a personal residence). Note that investment that solely generates capital gains will not be considered an end-producing income.

The second criterion, the direct use of the funds, implies a direct link between the loan and the expense. There must be clear traceability which shows the amount borrowed and the destination of the expense. In the case of a refinancing for rental renovations, for example, it will require that the borrowed funds are spent within a reasonable time after the disbursement. If half of the loan is spent right after the disbursement, but the rest is retained for future expenditure, only half of the interest will be deductible. In these cases, it is better to take two consecutive loans, or negotiate a line of credit, or finally invest those funds until the next rental expense (so that borrowed money is used in the meantime to generate income).

Refinancing vs original loan

Please note that if you refinance a property, the interest portion of the original loan balance will be treated according to the initial destination of the funds, while the interest portion corresponding to the additional funding portion will be treated according to destination of these additional funds. For example, if there is a $ 100,000 balance of your original mortgage that was used to purchase your primary residence (non-deductible interest) and you refinance an additional $ 100,000 to buy a rental property, only 50% of interests the new $ 200,000 mortgage will be deductible. To facilitate tracking of the deductible portion of interest, it is recommended to take split mortgages when refinancing. In addition, split mortgages are necessary to maximize cash damming during subsequent capital repayment (see “Cash damming” below).


If you use credit for mixed uses, be careful to separate these credit tools. For example, if you use a line of credit to pay for both business and personal expenses, you “contaminate” the loan, which means that you could not deduct any portion of the interest. There are several known solutions to avoid this situation, including sub-accounts associated with a single line of credit limit.

Cash damming

The cash damming or cash-flow dam is a method of dividing the use of borrowed funds to maximize interest deductibility. A classic example would be to have two lines of credit (or sub-accounts) for self-employed. In the first account, whose interest is deductible, you pay all business expenses. You only pay the minimum payments on that account. In another account, the margin is used for personal expenses. Since this interest is not deductible, it is in this account that we will do all the payments as soon as liquidity becomes available. This approach helps minimize the non-deductible interest cost as deductible interest is optimized. There are several variations for self-employed, rental property owners, investors, etc. Feel free to talk with your tax expert at Impôts Ici !, We have extensive expertise in this area and we have finance professional network that are aware of these tax implications.

Limitation for Quebec residents

Note there are differences in interest deductibility in Quebec. When funds are used to generate investment income, interest will be deductible only up to the investment income in a given year. If the interest is higher than the investment income, the portion that exceeds may be carried forward until other investment income is available to absorb it. At the federal level it is not the case since we can deduce a higher amount of interest than the investment income that is generated.


Interest deductibility is a complex subject that contains many subtleties. It is also a subject that is constantly evolving because laws keep changing at the whim of judgments in the matter. Impôts Ici ! is your partner to help you with these issues because we have an extensive expertise in this area. In addition, we have seasoned partners in financing to coordinate taxation and finances. Looking forward to discuss these issues with you!

Nicolas Godbout, M. Fisc., Pl. Fin.
Tax master and financial planner

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