Using your rental property as security for a business loan

Yes. A rental property is often the best security a business owner has: it isn’t the family home, it usually has equity built up over years, and the rent shows it’s in demand. It can back a first mortgage, second mortgage or caveat loan for the business, and the tenants carry on as normal. The detail most owners miss isn’t on the lending side. It’s the tax side of how the money is drawn.

This guide covers both: how lenders look at a tenanted property, and why the way you structure the borrowing matters when tax time comes around.

Why do owners prefer to borrow against a rental property?

Three reasons come up again and again:

• It keeps the family home out of it. Many owners would rather not put the house they live in on the line for the business.
• It often has more spare equity. Investment loans are frequently interest-only or have been paid down, and the property may have grown in value since purchase.
• Its purpose is already financial. The property was bought to build wealth, so using that wealth to fund the business feels like a natural next step.

There’s also a practical benefit at the other end of the loan. If the exit plan is to sell something, selling an investment property is usually far less disruptive than selling the home you live in, and lenders understand that. A rental property with a clear sale or refinance path gives a short-term loan a believable way out.

There’s no rule that says a lender prefers a rental property to a home, or the other way around. What matters is the value, what’s owed and how the loan will be repaid.

What happens to the tenants?

Nothing, in practical terms. Borrowing against a property you own doesn’t end or change a tenancy. The tenants keep paying rent to you or your property manager, and their rights under the lease continue.

The Victorian land registry’s glossary describes an encumbrance as an interest in land held by someone other than the registered owner, and lists leases alongside mortgages and easements as examples. In other words, a lender takes security over a property knowing someone else may have the right to live in or use it, and values the property on that basis.

The tenants’ only likely involvement is a valuation inspection. Arrange it through the property manager, give the notice the tenancy rules require, and let the valuer know if there are pets, locked rooms or a preferred time.

How does a lender look at a tenanted property?

A lender considering a rental property as security will typically want:

• the current rates notice and any strata or owners corporation levy notice
• the latest statement for the existing investment loan
• the lease, or a rental statement from the property manager showing the rent and how long the tenant has been there
• details of who owns it: you, you and a partner, a company or a trust
• evidence of building insurance (for a unit, the owners corporation’s policy)

The rent doesn’t usually set the loan amount on a private loan, but it strengthens the file. A long-term tenant paying reliably tells a lender the property is in demand and that the existing loan is being covered. A vacant property that’s been hard to let raises different questions, such as whether the rent being asked is realistic or the property needs work, so be ready to explain the gap. If the lease is about to end, say whether the tenant is renewing; it’s a small detail that saves a follow-up email.

Need funds for the business and own an investment property? See if you qualify in about 60 seconds.

Why can redrawing on the investment loan cause a tax headache?

This is the part worth slowing down for. When an owner needs business funds, the obvious move is to redraw or top up the existing investment loan. It’s quick and familiar. But the ATO treats loan interest according to how the borrowed money is used, not which property secures it.

The ATO’s guidance on rental interest expenses says that where a loan is used partly for another purpose, you must separate the interest relating to the rental property from the interest on the other funds, and apportion repayments across both portions for the length of the loan. It also explains that redrawn funds take their character from how they’re used.

So a business redraw on a rental loan leaves you with one loan, two purposes and an apportionment calculation every year until it’s repaid. That’s manageable, but it’s untidy, and it often surprises owners when their accountant asks for the details.

Approach	How it works	Tax tidiness
Redraw or top-up on the investment loan	Business money drawn from the rental loan	Mixed purpose; interest apportioned for the life of the loan
Separate second mortgage for the business	New loan behind the investment loan, used only for business	Rental loan stays rental; business loan stays business
Refinance into one larger first mortgage	Investment loan replaced; extra released	Can be split into separate loan accounts if the lender allows

The interest on the business loan is a question for the borrower and its use, and set-up costs follow the borrowing expense rules. Our guide to whether private mortgage fees are tax deductible explains those rules, including the ATO’s point that costs relating to a private portion of a loan aren’t claimable as borrowing expenses. Your accountant should confirm the right structure for your entity.

Which structure suits a rental property?

A second mortgage suits most owners. It sits behind the investment loan, leaves that loan exactly as it is, and keeps the business borrowing separate. Our page on private and second mortgages explains how priority works.

A first mortgage suits a rental that’s debt-free, or where refinancing the investment loan makes sense anyway. See first mortgage business loans.

A caveat loan suits a short, urgent need with a clear repayment event, such as a contract payment due in a couple of months.

If the property you’re thinking about is actually your home, our page on home equity business loans covers that situation.

An illustrative example

Illustrative only. A plumbing business with four staff wins a contract for a new medical centre and needs $120k for a second van, a pipe-camera and drain-jetting equipment. The owner’s home loan is stretched, but they also own a three-bedroom investment house, tenanted for six years, with an interest-only loan of about half its value.

Their first instinct is to redraw on the investment loan. Their accountant points out that would mix business and rental purposes on one loan for years. Instead, the company takes a $120k second mortgage behind the investment loan, with the owner as mortgagor. The investment loan is untouched, the tenants don’t notice anything, and the business loan is repaid from the contract’s progress payments over the following year. For more on trade businesses, see plumbing business loans.

Have a rental property and a business that needs capital?

Putting an investment property to work for the business is one of the most sensible moves an owner can make, as long as it’s set up cleanly. Business loans secured on property with us start at $20k and go up to $5m, over residential or commercial security, as a first mortgage, a second mortgage behind your existing loan, or a caveat loan.

Filling in the enquiry takes around 60 seconds, and there’s no credit check when you first enquire. Your details won’t be shopped around to a list of lenders, so the only call you get is ours. A real person looks at the property, what’s owed and what the business needs, and calls you to work through it. Please be accurate about the rent, the existing loan and who owns the property, so the first structure we suggest is the right one.

See what your rental property could do →