The positive and negatives of geared property.

Whether you love or loathe negative gearing, it pays to understand the system, writes Harvey Grennan.

The debate around negative gearing has become quite heated of late, particularly when the spotlight is fixed on housing affordability. There are people who claim that negative gearing inflates house prices and hurts firsttime buyers. Then there are those who argue that it helps renters by boosting Australia’s supply of rental properties.

Negative gearing is essentially a form of financial leverage. It allows an investor to gain tax advantages by buying a rental property (or shares) with borrowed money, where the rental income (or dividends) doesn’t fully cover all the running costs, such as interest, rates and maintenance. The annual loss can then be claimed as a tax deduction. This concession is estimated to cost the Federal government between $4 billion and $5 billion a year in lost revenue.

But hang on, isn’t a loss still a loss? The pay-off comes when the investor sells the property at a higher price and makes a capital gain, at which point there’s another tax perk. Not only has the taxman helped with those interest payments, but the tax on capital gains is half the rate paid on wages, salary or other ‘passive’ income. It’s a pretty good deal all round, at the taxpayer’s expense.

Of course, an investor must be able to support losses until the property is sold (or becomes ‘positively’ geared because rents have risen over time or interest rates have fallen). Conventional wisdom holds that negative gearing offers most benefit for those on higher incomes, because they can avoid higher tax rates and are in a position to support losses. The argument that ‘nurses and tradies’, or ordinary working people, are the major beneficiaries of negative gearing may have political appeal but has limited support among economists.

As to whether negative gearing is good public policy or not, it depends on who you listen to. The ALP wants to abolish negative gearing on new housing, so investors already negatively geared would not be affected. The Coalition opposes reform of negative gearing, although some Liberal politicians – including former Federal treasurer Joe Hockey and former NSW planning minister Rob Stokes – disagree.

What do the real experts say? Professor Sinclair Davidson of RMIT University, who’s also a senior research fellow at the conservative Institute of Public Affairs think tank, believes changing negative gearing would make it harder for Australians to provide for retirement. “Negative gearing is not distorting the Australian taxation system,” he says.

“It reflects efforts to make the tax system neutral across asset classes.”

Former ANZ chief economist Saul Eslake has a different take. “The main impact of negative gearing,” he says,

“is to put further upward pressure on the price of established dwellings, to the detriment of those who are looking to buy dwellings to live in.”

So, take your pick and look after your own interests – everyone else does.