Negative Gearing

Negative gearing is currently a hot topic in discussions about housing affordability in Australia, and rightly so. Why?, I hear you say?

To start with, let’s revisit the definition of negative gearing to ensure we have a good handle on it before we discuss the possible impacts of abolishing it.

Negative gearing is when a person borrows money to buy an investment asset without receiving enough income from the investment to cover the interest expenses and other costs involved in maintaining it. Depending on the investor’s home country, the shortfall between income earned and interest due can be deducted from current income taxes.

Countries that allow this tax deduction include Canada, Australia and New Zealand. Negative gearing helps investors recoup possible losses from maintenance costs and rental income by claiming those losses against their other income. And, every experienced property investor knows how important negative gearing can be to their investment strategy.

According to the RBA’s head of financial stability, Luci Ellis, the combined effects of negative gearing and concessional capital gain tax is threatening to tip the balance towards investors, or more specifically, those households in the top 40 per cent of incomes.; which leaves many mum and dad investors wondering what would happen if the government scrapped or scaled back negative gearing.

So, let’s look at some possible scenarios;

1. Rents would go through the roof, so to speak. Why? Because negative gearing doesn’t just benefit investors. It helps keep rents at reasonable prices; mainly because landlords don’t feel the need to increase the rent to compensate for the lack of negative gearing. Additionally, without negative gearing there would be fewer properties to rent and more demand for those that are available; which in turn means rent would skyrocket.

2. An increase in demand for public housing is a possible result of the abolishment of negative gearing. Why? Because without enough homes for rent at affordable prices, people would have limited choices of where to live. This in turn could lead to an increase in applications for public housing. And, with the already long wait list this would put the system into an even greater spin. All in all not a good result.

3. The property market would be saturated with properties for sale. Why? Because many landlords may be tempted to sell their properties, because they would not be receiving financial incentives, so to speak, for owning them. Remember that negative gearing helps to cover the interest expenses and other costs involved in maintaining the investment property. And if an investment property owner is putting their hand in their pocket continually to maintain the dwelling it’s not a profitable experience; which is the whole purchase of investing. So, with a glut of properties for sale the market would be over saturated, prices may plummet and this could bring about a property market bust.

4. Inflation could be expected to increase along with the higher cost of holding properties. Why? Because housing costs are an element of inflation figures.

5. Mum and dad investors who are simply trying to build wealth for retirement would be hurt. According to the Australian Taxation Office, those who made a loss on rental properties had a taxable income of $80 000 or less, which equals about 66.5% of investors. This means it would be harder for them to secure their financial future and, could derail their retirement planning.

So, you get the picture. There are obvious implications if negative gearing is abolished. Whilst this may not concern you as an individual it will if you are serious about building your wealth through property investment. And, if that is the case it is really important that you have a good understanding of how government policies like negative gearing can affect your wealth creation strategy.

Once again our advice to you is read, listen and ask questions. The more information you can gather the better informed you will be; which will make an enormous difference as you start to build your property portfolio.