Duckster, that is a fairly common comment regarding letting investment interest compound while paying more off private debt.
It's completely wrong to suggest that this strategy is bad because it lets investment debt increase, because you will be paying off the private debt more rapidly. All things being equal, you would be paying the same total loan repayment each month, but more of it gets directed to the private debt, and less to the investment debt. The total principal paid off will be the same, but the dividing line between the two loans simply shifts a bit to one side.
Personally, I'll never raise my head above my foxhole and show it to the ATO by doing this strategy. You can change the structure all you like, and split it between lenders and draw little boxes around all your loans, but the end result is identical, ie reducing private debt in favour of  investment debt by letting investment interest compound.
  I might go as far as letting other expenses compound, eg rates, insurance and repairs, but not interest (unless perhaps I had absolutely no private debt so it could be demonstrated to be a cash flow thing, not a tax minimisation thing.)
S/C

Richard there are lots of people trying to package this strategy up so that is it somehow acceptable to the ATO. I'm not quite sure what you are saying (as you have a few typos) but if you're saying that interest on interest is not tax deductible, then I'm sure there are several people who would disagree, namely all those people I've just referred to. It is hugely beneficial if you can get away with it, and it would open the floodgates if the ATO allowed open slather on this strategy. To me it's just simple logic that this strategy is tax avoidance regardless of how it's packaged, and I'm a little surprised that the ATO is still circling around all these private rulings that are all really about the same thing.

Just those I was referring to in my first sentence:
"there are lots of people trying to package this strategy up "

Here is something I just found which I saved ages ago:

Compound Interest on a Line of Credit Facility

Monday 27 November, 2006 The Tax Office has accepted that a deduction under s.8-1 of the ITAA97 might be allowed to a borrower for compound interest incurred on funds borrowed under a line of credit facility in order to acquire an income-producing asset. This may be the case where the facility has two sub-accounts and one of them is used to acquire an income-producing asset, and the other is used for private purposes. The situation envisaged is one where there are no fixed minimum principal and interest repayments required by the lender, and the taxpayer makes no payments off the investment sub-account until the private sub-account has been repaid in full. It may be the case, however, that Part IVA (anti-avoidance) could apply where the arrangement has the features set out in paragraphs 16 to 19 in TR 98/22.
From http://www.taxpayer.com.au/oursay/news/enews_comp_int.html