Negative Gearing

March 22, 2016 by Edge Financial Planning
Negative Gearing - Edge Financial Planning

A new series of discussions have arise between leaders of the coalition and the opposition over the last couple of months. Negative gearing is the latest topic in order to solve Australia’s deficit and public debt. Currently, Australia’s deficit has taken a leap from 1.5% to 2.8% between 2013-14 and public debt was estimated at nearly 589 billion dollars for 2015. Concerns have been clearly expressed by the International Monetary Fund’s managing director, whose recommendations involve additional measures towards negative gearing.

So, what is Negative Gearing?

Negative gearing is essentially considered as a financial lifeline for real estate investors. If investors make losses on rental properties, they are able to claim back those losses through tax returns. The outflows for accounting such losses include interest on the loan, maintenance and miscellaneous expenses for sustaining the asset quality.

The debates…

The MPs supporting the rescinding of negative gearing believe that investors evaluate their investment(s) solely on acquiring a well-planned and located asset wherein there is a good probability of capital appreciation. These MPs further believe that taxation benefits are not a decision-making criterion for investors and will have a negligible impact on the buying capacity of the investors.

Protagonists of negative gearing believe that removing the tax advantage could have an unfavourable impact on society at large, drawing paucity in the rental housing market where landlords find investments financially unviable. They also contend that in an event where private sector housing rental markets cease to grow, the government would have to further increase their support towards housing developments costing Australian tax payers a lot more than the current tax advantage from negative gearing. They further emphasise that taxes need to be levied only on the profits and hence the premise of negative gearing is logical and reasonable.

However, investment managers have forecasted an impending housing bubble burst. In such event, the housing valuations will erode by as much as 50% in cities like Sydney and Melbourne; leading to the weakening of the Australian dollar. The price correction could end up wiping out the majority of market capitalisation of all the major banks in Australia. Given the 2015 gross lending figures of AUD 400 billion in mortgages/housing loans and its continuos increments of 50 billion dollars on YoY basis. These figures add to 1.58 trillion dollars of outstanding mortgage/housing loans in the country.

In addition, it is well known that incomes of households in Sydney have grown by 17% since 2008 while house prices have doubled in 8 years indicating a ‘bubble’ in pricing. Housing rental properties have been rising at less than 1 per on annual basis and the population growth has also been a decade low. Thus, the skyrocketing housing prices need to raise a caution for investors.

& the housing market crashes…

With the Australia’s housing stock valued at 3.6 times the country’s GDP, analysts echo voices of similarities in this scenario with what existed in the economies of Japan or Ireland prior to the crash in their respective housing markets. Such views and analysis corroborate the voice of dissident MPs who wish to abolish the negative gearing which according to them is inflating the housing prices.

Australia’s Prime Minister believes that a move to withdraw negative gearing benefits would lead to reducing the growth of the economy and of foreign investment in the country. With Australia’s accounts reported having a deficit of 21 billion dollars for the FQE December ’15 and the foreign currency loan adding to more than a trillion dollars, the solution may be in promoting investments rather than debating about potential savings whilst ‘negating the negative gearing’. What would the government do?

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