Recently, negative gearing has been a major topic of debate in the upcoming election. What is actually negative gearing and what are the implications of it? Before going in depth towards negative gearing system, there are three types of gearing in property business that likely to happen when people invest. Gearing is generally defined as borrowing certain amount of money to purchase an asset. In the case of property, the loan is taken to purchase a property.
Negative gearing is when the interest paid on the loan is more than the rental income and holding cost. As a consequence, the investors incur the loss.
Neutral gearing means that the interest paid on the loan is equal to the rental income out of the property and holding cost. Here, there is no loss or profit.
Positive gearing is when the interest paid on the loan is less than the rental income and holding cost. As a result a profit is made. However, a property with this kind of gearing is rare.
Although negative gearing means that investors incur the loss, this type of gearing is often sought by investors in Australia. It sounds quite contradictive, but it can effectively bring a lot of benefits.
A net rental loss from a negatively geared property can positively impact to the overall taxation result. It is possible for investors to claim a deduction for the full amount of rental expenses against their rental and other income such as salary, wages or business incomes, when their tax return completed for the particular income year.
The negatively geared rental property that the investors claim in their tax return would result in a tax refund. Thus, the investors may reduce their rate of withholding to better match their year-end tax liability.
As an illustration, an investor has an income of $60,000 annually. His property generates rental income about $25,000 each year. However, the holding cost of the property itself is $35,000. Thus, this investor suffers losses from the investment properties around $10,000.
In Australia, the tax deduction is categorized according to the annual income of an individual. The greater the income, the more amount of money that needs to be paid to government. The investors could take advantage of the loss of the property investment to lower their payable tax to the Australian government. In this scenario, even though the income of that person $ 60,000, the tax payable can be calculated based on $50,000 income. This is because of the tax offset that can compensate the condition of the investor due to $10,000 loss of investment. This is where investors can reap the benefits of property investment losses, from negative gearing, to pay less tax than they should.
Bill Shorten, the leader of Labor Party, proposes that negative gearing is to be restricted to “newly constructed homes”. He aspires that it will bring back the great Australian dream within reach of working and middle-class Australians, who have been priced out of the market for too long. On the contrary, current Prime Minister, Malcolm Turnbull, who is also a candidate for this coming up election, stated his opposition. He and his team contend that Labor’s proposed policy will drive down home values, increase rents and discourage investments. Both propositions have been arising public attentions and opinions, which has since intensifies. Turnbull Coalition has made its opposition to the policy shift is a key point of difference in this election.
Sources: ABC News, Domain News, ATO Website, Realestate.com.au