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The negative gearing debate

What is negative gearing

 Negative gearing is a practice whereby an investor borrows money to acquire an income-producing investment, expecting the gross income generated by the investment, at least in the short-term, to be less than the cost of owning and managing the investment, (including depreciation – in the case of property –  and interest charged on the loan but excluding capital repayments). The arrangement is a form of financial leverage. The investor may enter into this arrangement expecting the tax benefits (if any) and the capital gain on the investment, when the investment is ultimately disposed of, to exceed the accumulated losses of holding the investment (source Wikipedia).

The leader of the Labor opposition, Bill Shorten has recently stated that if he is elected he will abolish negative gearing for investors who buy already established dwellings, with the tax break only available to those who buy new dwellings. He hopes that this will encourage growth in the building sector and encourage first buyers back into the market as well as reduce the “losses” in tax revenue from this legitimate process. He has also stated that this would not affect existing investors only new investors, existing arrangements would be grandfathered.

If Shorten’s negative gearing measures are put into place it would save the Government $32.1 billion over 10 years. . But what would this mean for the market? This has been a constant and long running debate between governments. On one hand if you force investors out of the market by abolishing negative gearing on established properties you decrease the amount of rental properties available to those who need them. Would this then place the burden on governments to build more public housing facilities? On the other hand if investors are driven out of the market will first home buyers be given the opportunity to enter the market and would this then not increase property prices again if demand starts to outstrip supply?

Let’s look at some examples:

Investment Property = $550,000 

Loan = $500,000

Rent: $500pw or $2,166 per month

Investment loan

$500,000 @ 4.77% (if you aren’t getting a better rate through our broker) = $2,554 per month.

Investment loss

Interest = $2554 + $100 (extras such as management fees, rates, insurance) = $2,654 per month.

Rent = $2166 per month.

Loss = $88 per month or $5856 per year.

As an investor you hope at this point that your property will appreciate in value and offset this loss. 

Tax Deduction

If you earn between $80,000 – $180,000 p.a, tax rate = 37%

Loss $5,856 x 37% = $2,166. Which leaves you out of pocket $3,689.

If you look at the figures above investors aren’t really getting that much back in return for their loss. In a bad year of property prices an investor loses a lot more than the tax breaks offered by negative gearing. Not to mention the real estate fees and maintenance on their property. 

Agree or disagree with this tax concession it is necessary. If negative gearing was to be abolished all together there would be less investment properties on the market for rent, leading to increased rents, greater demand and a burden being placed on the government to make up the shortfall. 

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