Negative gearing and capital gains tax
Is Negative Gearing a good idea? Gearing and Capital Gains Tax Explained.
In Australia, investors or media are constantly talking about negative gearing, but what does it all mean? Roxanne Efimov is our guest on the podcast this week to break down everything to do with Gearing and Capital Gains Tax. In particular we chat about how the possible changes to negative gearing will affect the property market and what it will mean for young people trying to enter! Roxanne is a Manager and Certified Accountant at Pitcher Partners and an all around great gal. Whether you have a strong opinion about negative gearing, not really sure whether it’s useful or have absolutely no idea what those words mean, we are certain you’ll learn something from this ep.
What is Gearing
Gearing is borrowing money for the purpose of investing. By adding borrowed funds to your own, you can increase your total amount available for investment. Australians have historically geared into property via a mortgage. Investors can also gear into the sharemarket as a way of having more funds to invest.
Positive vs. Negative Gearing
Negative gearing is where the amount that you take out to invest exceeds the cash flow coming in from the investment. So you’re paying the bank more in interest and principal repayments than what you are getting back in the form of a dividend or rent (the property is costing you money). Positive gearing is essentially the opposite, the income generated from the property is more than the cost of borrowing and managing the investment.
Why would people choose to negatively gear?
A lot of investors who buy properties to rent out to tenants don’t expect to make money on the rent. In the short term, you can offset the investment loss against your other taxable income and thus reduce the amount of tax you pay. This is very beneficial for high income earners as it could bring them down to the lower tax bracket. In the long run, there is the view that the property will go up in value significantly and thus a profit will be made once sold.
Capital Gains and Capital Gains Tax
Capital Gains is the profit you make from selling the property or investment. Capital Gains Tax (CGT) is the tax that you pay on that profit. It is paid when we sell the property or shares (called a CGT event), provided we do make a profit. If an asset is held for at least 1 year then any gain is first discounted by 50% for individual taxpayers. This provides an incentive to buy and hold the investment. If you do make a loss, it isn’t all bad as you can carry the loss forward and deduct it from capital gains in later income years.
What will be changing with the change of government?
Any property that is purchased going forward that is negatively geared, for tax purposes you can’t offset that rental loss against other income that has been incurred from the interest payments on that loan. Your normal utilities, water and other charges will still be deductible for tax purposes but just that interest on the investment won’t be. However this only applies to properties that are not new. They are also opposing to reduce the discount rate of capital gains tax from 50% to 25%. This won’t apply to previously bought properties and the sharemarket. So essentially they are trying to target the rental property market in aim to reduce the price of property and help new homeowners enter.
What can you take away from this conversation?
Hold your property or shares for more than 12 months to get the discount when you sell
If you do make a loss it’s ok, you can carry it forward and offset future capital gains income
Negative gearing is a tool available if you would like to use it