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Negative Gearing: A tax perk or good policy?

Negative gearing has been in the spot light as part of the Government’s “Australia’s Future Tax System” review.  This controversial discussion rears its head every few years when the two sides clash: one claiming it disadvantages first home buyers, the other saying it provides vital rental housing.

What is negative gearing and what benefits does it provide to tenants, investors and the Government?

Negative gearing is the situation where a rental property costs more to own than it generates in rental income.  Being able to claim a deduction on the expenses for investing is a well-established principle for business both in Australia and internationally.

However, some investors target their borrowing to maximise these taxation benefits so they can offset the losses incurred in the investment against their personal effort income taxation. This is particularly true for those with a deposit created by an equity release that effectively creates 100% borrowed funds for the purchase.

It can also occur in a rental market where interest rates are higher than gross rental yields.  These conditions currently exist in much of Melbourne, Sydney and many other capital cities.

What are the benefits for renters?

About 35% of Australians live in rental accommodation.  Most of these people rely on being able to find affordable accommodation near to their place of employment.  When employment centres shift, such as we have just seen with the end of the mining boom, employees need to be able to respond and move to new employment centres.

Those arguing that first home buyers are disadvantaged are forgetting that decreasing the number of rental properties through the removal of negative gearing benefits would drive rents up and those on the lowest incomes would be most disadvantaged.  They would potentially be driven out of the larger cities.

Many of these people provide vital services as minimum wage employees in sectors such as retail, food and hospitality, clerical and home services.

Imagine the impact on Australia’s GDP and productivity if there were jobs in areas with no affordable accommodation?  Imagine the impact on us if our service sector suddenly had to pay higher wages for employees?

What are the benefits for investors?

Most multiple property investors have stated they are seeking to create wealth to support their retirement living.  Buying a portfolio of property, selling half to pay back the debt and living on the income is a sound strategy.

The Government has a huge looming issue to fund future retirees via the pension.  It was reported recently that we should expect the pension to become means tested, and for it to shrink in spending power over time.  Additionally once the baby boomer generation retires the number of workers per retiree also drops dramatically increasing the taxation burden on future generations.  Self funded retirees are not relying on the Government handouts.

What are the benefits to the Government?

The Government has a responsibility to provide affordable housing in Australia and have done so in the past through owning large social housing projects.  More recently through the NRAS scheme; the scheme that gave an incentive for investors to provide the capital for this housing and offered a additional taxation benefit in return.

This project has since been retired, and so the question will be ‘How will the Government support low income earners with affordable rental accommodation?’ Clearly investment housing is an important part of this equation and the trend for Self Manage Super Funds to invest in residential housing provides a solution to accommodation and wealth creation. Superannuation is one sector that is now valued at about A$1.8Tr and is seeking good returns in low risk investments.

The benefits to tenants and investors are significant however it is the benefits to the Government that are greatest.  Being able to attract and retain international investment and businesses, and grow Australia’s GDP are key responsibilities. Having a flexible work force that can move about the country, as employment requires is vital, and reducing the demands on the public purse through more self funded retirees takes away a very significant unfunded cost.  Being free to engage in public, private partnerships to deliver new housing solutions gives the Government more flexibility on how it spends its income.

It is wise choices here that will dictate the future wealth of Australians.

 

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