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Negative gearing in Australia has become a popular strategy for property investors, because Australia is one of the few countries that allows unrestricted use of negative gearing losses to offset income from other sources.
This guide helps explains how negative gearing works and includes a case study.

What is negative gearing?

Negative gearing occurs when the expenses you pay for an investment property are more than the rental income that you receive from tenants for that property. Under Australian law the difference can be a tax deduction at your marginal tax rate.(ii)

Why is negative gearing important?

When you negatively gear a property, you are making a cash flow loss, at least in the short-term. So why do investors negatively gear properties? The answer is two-fold:

  1. Investors who use negative gearing are generally looking for capital growth in the investment property. Their expectation is that the capital growth will outweigh any ongoing loss associated with running the investment property.(iii)
  2. The loss on the property can be offset against an individual’s income for tax purposes, providing a tax savings incentive for property investors. The higher the marginal tax rate you are on, the higher the deduction.(iv)

What tax deductions are available for investment properties?

Most investors know that loan repayments are a tax deduction, but there are several other big ticket items that are valid deductions, which are sometimes overlooked when purchasing a property. These tax savings can add up to a substantial amount, especially if the property, or fixtures and fittings, are newer which can maximise depreciation. Deductions typically include(v):

  • Real estate management fees
  • Loan repayments
  • Council rates
  • Water rates
  • Advertising (when looking to have your property tenanted)
  • Insurance on your investment property
  • Maintenance expenses
  • Reasonable travel expenses to inspect your property
  • Depreciation on assets like whitegoods and air conditioners.

It’s best to speak to a licenced accountant or specialist in this area to help you submit your return come tax time.

Case study

Chris and Melissa are both in their 40s with kids still at home. They have an existing mortgage and are looking at buying an investment property under Chris’ name to help increase their non-super assets come retirement and to make use of the tax advantages that negative gearing allow.

Chris earns $97,000 working as a plumber and his current marginal tax rate is 37%. Chris and Melissa purchase a property under Chris’ name for $500,000 and put down a deposit of $100,000, borrowing the remaining $400,000.

Once they have purchased the investment property, each year they receive $20,000 in rental income, but their home loan repayments and other expenses total $27,000. As their expenses are more than the income, the property is negatively geared.

Chris can deduct the difference of $7000 off his income, which is a tax saving of $2590.00 (37% of $7000*) bringing the effective loss down to $4410.00 ($7000 – $2590.00).

Although Chris and Melissa have still made a loss of $4410.00 on the property, if it appreciates in value, they can improve their net asset position. Say for example, the property increases in value by 5% in the first year, then it’s worth $25,000 more. They have increased their asset base by $20,590 ($25,000 increase in value minus their loss of $4410). If the property continues to appreciate over time, their net asset position will continue to improve.

Labor’s proposed changes in negative gearing
You might have heard a lot in the media about negative gearing at the moment(iv), it’s a hot political topic! The concern is that the tax advantages around negative gearing are artificially increasing property prices as investors take advantage of the tax subsidy.

But it’s not all bad news. Labor’s policy as it stands at the moment does not affect those who have a property or will purchase a property before a date that will be announced. For those properties, the tax advantages are said to be “grandfathered” or still allowed. Labor’s policy will also allow negative gearing for new dwellings that are already built. So even if the policy still comes into effect, the negative gearing strategy is still possible for new dwellings.

*At Chris’ overall tax rate, according to the ATO 2018.

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