Ask Janne: What is your advice on negative gearing?

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Hi Janne,
 

There has been a lot of talk about negative gearing and proposals to get rid of it.

How would this affect the property market and does this mean I should start investing in shares instead of property?

Kind regards, Sofia
Bayview

 

Hi Sofia, thank you for your email.
 

Negative gearing is always a hot topic and there has been a bit of discussion about it in the press and of course, in parliament. Let’s first have a look at what it really is.

Gearing refers to borrowing – in this case borrowing to invest. Negative gearing is when the costs of investment are greater than the income generated by the investment.

For example, you buy a property for $500,000. Your income is $400 per week or $20,800 per annum if it is rented for the full 52 weeks. This is often not the case.

You borrow the full amount, plus stamp duty and legal fees, which comes to $525,000. Your interest rate is 4% or $21,000 per annum. You also pay rates, insurance, maintenance etc which comes to $5000. So your costs are $26,000 and income $20,800. The difference ($5200) comes off your taxable income, thereby reducing the tax you pay. This is negative gearing.

If this were no longer possible, you could only deduct up to the value of your income from the investment: in this case $20,800.

Negative gearing can be used for shares and managed funds as well as property. You can borrow to purchase shares/managed funds using either a housing loan (using property as security) or with a margin loan (using the shares or managed funds as security). If the income is less than the borrowing cost, then you are negatively geared.

Back in 1985 negative gearing was abolished by the Hawke/Keating government. It was reintroduced in 1987 as rents rose strongly as a result. The abolition of negative gearing would have a much greater effect on property prices, as this is far more widely used for property purchases than for share purchase.

There would be fewer investors looking for property so demand would fall. This is normally associated with a fall in price.

In terms of your own investments, it is important to look at your own portfolio to see where your investments should lie. I cannot advise you without knowledge of that. It is best to obtain professional advice.

As with all things, it depends on what you would like to achieve. If it is a high level of income, then property may not be the best for you. If most of your current investments are in shares or managed funds, property may be a great option.

There are many things to consider and this is best discussed with your financial planner. If you don’t currently have a financial planner, please call me on 9452 7871.

Regards, Janne

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