Negative gearing has been headlining property news for several weeks now with speculation it will be reduced or removed altogether, being on top of the list for both the Government and the Opposition. The Labour Party has already provided brief details of their intentions, with the Government ‘not ruling out’ sweeping changes. So what is negative gearing and what do you need to know?
What is negative gearing?
First, a quick refresher on negative gearing - ‘Gearing’ refers to borrowing money to purchase an asset. Negative gearing means costs of owning a property (interest, maintenance and repairs, capital depreciation and other charges) exceeds the income from the property (rent), which means you are operating at a loss.
So, how is that a good thing? It all comes down to capital growth.
The value of your property should be increasing as time goes on and if capital growth exceeds the loss you’re making in rental shortfall, then you will have a positive cash flow from the investment.
Tax deductions on investment:
· Revenue deductions
Some common tax deductions relating to rental income include agent’s fees, interest, council rates and fees, bank fees, maintenance and repairs, gas, water, depreciation on assets and insurance.
· Capital items
If you are entitled to a tax deduction on capital items such as hot water service and white goods, it would mean you can claim these items over a number of years as per depreciation schedules set by the Commissioner of Taxation.
· Building allowances
You may also be entitled to claim depreciation of capital works for building.
The benefits from negative gearing, combined with the perception of property being a “safe” investment with steady capital appreciation, has fuelled the flow of investors into the market.
However, with public awareness of the operation of negative gearing, the cost associated with missed tax revenue, and increasing housing affordability concerns, many are questioning whether it is appropriate.
What will the changes mean for investors?
Put simply, a top-rate taxpayer with two investment properties would be roughly $20,000 a year worse off under the Labour Party’s plans to limit negative gearing. For those wondering whether investors should be running for the hills; not just yet - it has been suggested that any changes would be "grandfathered", meaning; investments existing before July 1, 2017 would be exempt from the changes.
But, property investors who rely on the tax breaks they get from negative gearing will need to strongly consider how they would cope with changes to their cash flow.
While we cannot be sure of what will happen, it’s evident that what has always been a key foundation stone for investing in property in Australia is under threat from both sides!