Negative gearing in Australia

Last updated August 21, 2024

Negative gearing in Australia deals with the laws in the Australian income tax system relating to net loss suffered by a taxpayer on their investment property, commonly called negative gearing. Negative gearing can arise in a number of contexts; for example, with real estate investments, it arises when the net rental income is less than the mortgage loan interest payable, and with shares, when net dividend income is less than the interest payable on a margin loan.

General

For income tax purposes, Australia allows the offsetting of property losses against other types of income, such as wage or business income, with only a few limits or restrictions.^[1] Negative gearing by property investors reduced personal income tax revenue in Australia by $600 million in the 2001/02 tax year, $3.9 billion in 2004/05, and $13.2 billion in 2010/11.^{[ citation needed ]}

Negative gearing continues to be a controversial political issue in Australia and was a major issue during the 2016 and 2019 Australian federal elections, during which the Australian Labor Party proposed restricting but not eliminating negative gearing and to halve the capital gains tax discount to 25%.^[2] An analysis found that negative gearing in Australia provides a greater benefit to wealthier Australians than the less wealthy according to a report from the Grattan Institute.^[3]

Federal Treasurer at the time, Scott Morrison, in defense of negative gearing, cited tax data that showed that numerous middle-income groups (he mentioned teachers, nurses, and electricians) benefit in larger numbers from negative gearing than finance managers.^[1]

History

Traditionally, Australian taxpayers have been allowed to negatively gear their investment properties, in the strict sense of investing in property at an initial loss. Negative gearing was restricted by a prohibition on the transfer of contingent property income and the property losses could not offset income from labour.^[4] It is assumed this applied to losses as well as income, but this is unclear in the Income Tax Assessment Act 1936.^[5]

In 1983, the Victorian Deputy Commissioner of Taxation briefly denied Victorian property investors the deduction for interest in excess of the rental income, so losses could not be transferred nor moved to a future tax year. That ruling was quickly overruled by the federal tax commissioner.^[6]

The Hawke government's reversion to the earlier system in which property losses could not offset income from labour was unpopular with property investors. These investors claimed this reversion had caused investment in rental accommodation to dry up and rents to rise substantially. This was unsupported by evidence other than localised increases in real rents in both Perth and Sydney, which also had the lowest vacancy rates of all capital cities at the time.^[7]

Taxation

In general, an investor can claim the loss on holding an investment property, reducing the investor's total taxable income accordingly. On the other hand, in some contexts, the investment losses are ignored, such as in the case of determining the thresholds for the Medicare levy surcharge, the private health insurance rebate, and in calculating the HELP Repayment Income, as well as other Centrelink income-tested allowances and benefits.^{[ citation needed ]}

In addition to the tax benefits of negative gearing, the investor typically would take into account the anticipated increase in the market value of the property and the tax treatment of capital gains under Australian law. For example, if the investor has held an investment property for more than twelve months, then only 50% of the capital gain is taxable.^[8]

Arguments for and against

It's true, according to Real Estate Institute data, that rents went up in Sydney and Perth. But the same data doesn't show any discernible increase in the other state capitals. I would say that, if negative gearing had been responsible for a surge in rents, then you should have observed it everywhere, not just two capitals. In fact, if you dig into other parts of the REI database, what you find is that vacancy rates were unusually low at that time before negative gearing was abolished.^{[ citation needed ]}

Eslake is referring to changes in inflation-adjusted rents (i.e., when CPI inflation is subtracted from the nominal rent increases). These are also known as real rent changes.^[7] Nominal rents nationally rose by over 25% during the two years that negative gearing was quarantined. They rose strongly in every Australian capital city, according to the official ABS CPI data.^[9] However, as nominal changes include inflation, they provide a less clear picture of how rents changed in effect, and how changes, such as disallowing property losses to offset other types of income, affect rent.^[7]

Effect on housing affordability

In 2003, the Reserve Bank of Australia (RBA) stated in its submission to the Productivity Commission First Home Ownership Inquiry:

there are no specific aspects of current tax arrangements designed to encourage investment in property relative to other investments in the Australian tax system. Nor is there any recent tax policy initiative we can point to that accounts for the rapid growth in geared property investment. But the fact is that when we observe the results, resources and finance are being disproportionately channelled into this area, and property promoters use tax effectiveness as an important selling point.^[10]

They went on to say that "the most sensible area to look for moderation of demand is among investors", and that:

the taxation treatment in Australia is more favourable to investors than is the case in other countries. In particular, the following areas appear worthy of further study by the Productivity Commission:
i. ability to negatively gear an investment property when there is little prospect of the property being cash-flow positive for many years;
ii. the benefit that investors receive by virtue of the fact that when property depreciation allowances are "clawed back" through the capital gains tax, the rate of tax is lower than the rate that applied when depreciation was allowed in the first place.
iii. the general treatment of property depreciation, including the ability to claim depreciation on loss-making investments.^[10]

In 2008, the report of the Senate Select Committee on Housing Affordability in Australia echoed the findings of the 2004 Productivity Commission report. One recommendation to the enquiry suggested that negative gearing should be capped: "There should not be unlimited access. Millionaires and billionaires should not be able to access it, and you should not be able to access it on your 20th investment property. There should be limits to it."^[11]

A 2015 report from the Senate Economics References Committee argues that, while negative gearing influences housing affordability, the primary issue is a mismatch between supply and demand.^[12]

Politics and economics

Negative gearing continues to be a controversial political issue in Australia and was a major issue during the 2016 Australian federal election and the 2019 Australian federal election, during which the Australian Labor Party proposed to eliminate the tax-deductibility of negative gearing losses against non-investment income (with some exceptions) and to halve the capital gains tax discount to 25%.^[2] An analysis found that negative gearing in Australia provides a greater benefit to wealthier Australians than the less wealthy.^[3]

Currently, a People's Commision into Housing Affordability commission is underway where the impacts of Negative Gearing on housing affordability in Australia is being investigated.^[13]

Related Research Articles

A tax is a mandatory financial charge or some other type of levy imposed on a taxpayer by a governmental organization to collectively fund government spending, public expenditures, or as a way to regulate and reduce negative externalities. Tax compliance refers to policy actions and individual behaviour aimed at ensuring that taxpayers are paying the right amount of tax at the right time and securing the correct tax allowances and tax relief. The first known taxation took place in Ancient Egypt around 3000–2800 BC. Taxes consist of direct or indirect taxes and may be paid in money or as its labor equivalent.

The Tax Reform Act of 1986 (TRA) was passed by the 99th United States Congress and signed into law by President Ronald Reagan on October 22, 1986.

An expense is an item requiring an outflow of money, or any form of fortune in general, to another person or group as payment for an item, service, or other category of costs. For a tenant, rent is an expense. For students or parents, tuition is an expense. Buying food, clothing, furniture, or an automobile is often referred to as an expense. An expense is a cost that is "paid" or "remitted", usually in exchange for something of value. Something that seems to cost a great deal is "expensive". Something that seems to cost little is "inexpensive". "Expenses of the table" are expenses for dining, refreshments, a feast, etc.

A real estate investment trust is a company that owns, and in most cases operates, income-producing real estate. REITs own many types of commercial real estate, including office and apartment buildings, studios, warehouses, hospitals, shopping centers, hotels and commercial forests. Some REITs engage in financing real estate. REITs act as a bridge between the worlds of housing and urban development on one hand, and institutional investors and financial markets on the other. They are typically categorized into commercial REITs (C-REITs) and residential REITs (R-REITs), with the latter focusing on housing assets such as apartments and single-family homes.

The Low-Income Housing Tax Credit (LIHTC) is a federal program in the United States that awards tax credits to housing developers in exchange for agreeing to reserve a certain fraction of rent-restricted units for lower-income households. The program was created under the Tax Reform Act of 1986 (TRA86) to incentivize the use of private equity in developing affordable housing. Projects developed with LIHTC credits must maintain a certain percentage of affordable units for a set period of time, typically 30 years, though there is a "qualified contract" process that can allow property owners to opt out after 15 years. The maximum rent that can be charged for designated affordable units is based on Area Median Income (AMI); over 50% of residents in LIHTC properties are considered Extremely Low-Income. Less than 10% of current credit expenditures are claimed by individual investors.

A capital gains tax (CGT) is the tax on profits realized on the sale of a non-inventory asset. The most common capital gains are realized from the sale of stocks, bonds, precious metals, real estate, and property.

Negative gearing is a form of financial leverage whereby an investor borrows money to acquire an income-producing investment and the gross income generated by the investment is less than the cost of owning and managing the investment, including depreciation and interest charged on the loan. The investor may enter into a negatively geared investment expecting tax benefits or the capital gain on the investment after it is sold to exceed the accumulated losses of holding the investment. The investor would take into account the tax treatment of negative gearing, which may generate additional benefits to the investor in the form of tax benefits if the loss on a negatively geared investment is tax-deductible against the investor's other taxable income and if the capital gain on the sale is given a favourable tax treatment.

Tax advantage refers to the economic bonus which applies to certain accounts or investments that are, by statute, tax-reduced, tax-deferred, or tax-free. Examples of tax-advantaged accounts and investments include retirement plans, education savings accounts, medical savings accounts, and government bonds. Governments establish tax advantages to encourage private individuals to contribute money when it is considered to be in the public interest.

<span class="mw-page-title-main">Consumption of fixed capital</span>

Consumption of fixed capital (CFC) is a term used in business accounts, tax assessments and national accounts for depreciation of fixed assets. CFC is used in preference to "depreciation" to emphasize that fixed capital is used up in the process of generating new output, and because unlike depreciation it is not valued at historic cost but at current market value ; CFC may also include other expenses incurred in using or installing fixed assets beyond actual depreciation charges. Normally the term applies only to producing enterprises, but sometimes it applies also to real estate assets.

Passive income is a type of unearned income that is acquired with little to no labor to earn or maintain. It is often combined with another source of income, such as regular employment or a side job. Passive income, as an acquired income, is taxable.

Buy-to-let is a British phrase referring to the purchase of a property specifically to let out, that is to rent it out. A buy-to-let mortgage is a mortgage loan specifically designed for this purpose. Buy-to-let properties are usually residential but the term also encompasses student property investments and hotel room investments.

Prior to 2006, a private annuity trust (PAT) was an arrangement to enable the value of highly appreciated assets, such as real estate, collectables or an investment portfolio, to be realized without directly selling them and incurring substantial taxes from their sale.

Real estate investing involves the purchase, management and sale or rental of real estate for profit. Someone who actively or passively invests in real estate is called a real estate entrepreneur or a real estate investor. In contrast, real estate development is building, improving or renovating real estate.

Leaseback, short for "sale-and-leaseback", is a financial transaction in which one sells an asset and leases it back for the long term; therefore, one continues to be able to use the asset but no longer owns it. The transaction is generally done for fixed assets, notably real estate, as well as for durable and capital goods such as airplanes and trains. The concept can also be applied by national governments to territorial assets; prior to the Falklands War, the government of the United Kingdom proposed a leaseback arrangement whereby the Falklands Islands would be transferred to Argentina, with a 99-year leaseback period, and a similar arrangement, also for 99 years, had been in place prior to the handover of Hong Kong to mainland China. Leaseback arrangements are usually employed because they confer financing, accounting or taxation benefits.

In the United States, individuals and corporations pay a tax on the net total of all their capital gains. The tax rate depends on both the investor's tax bracket and the amount of time the investment was held. Short-term capital gains are taxed at the investor's ordinary income tax rate and are defined as investments held for a year or less before being sold. Long-term capital gains, on dispositions of assets held for more than one year, are taxed at a lower rate.

Home ownership in Australia is considered a key cultural icon, and part of the Australian tradition known as the Great Australian Dream of "owning a detached house on a fenced block of land." Home ownership has been seen as creating a responsible citizenry; according to a former Premier of Victoria: "The home owner feels that he has a stake in the country, and that he has something worth working for, living for, fighting for."

<span class="mw-page-title-main">Australian property market</span> Overview of Australian property market

The Australian property market comprises the trade of land and its permanent fixtures located within Australia. The average Australian property price grew 0.5% per year from 1890 to 1990 after inflation, however rose from 1990 to 2017 at a faster rate. House prices in Australia receive considerable attention from the media and the Reserve Bank and some commentators have argued that there is an Australian property bubble.

The Australian property bubble is the economic theory that the Australian property market has become or is becoming significantly overpriced and due for a significant downturn. Since the early 2010s, various commentators, including one Treasury official, have claimed the Australian property market is in a significant bubble.

In commercial real estate leases in the United States, the tenant, rather than the landlord, is usually responsible for real estate taxes, maintenance, and insurance. In a "net lease", in addition to base rent, the tenant or lessee is responsible for paying some or all of the recoverable expenses related to real-estate ownership. As the rent collected under a net lease is "net" after expenses are passed through to tenants to be paid, the rent tends to be lower than rent charged under a "gross lease".

The property bubble in New Zealand is a major national economic and social issue. Since the early 1990s, house prices in New Zealand have risen considerably faster than incomes, putting increasing pressure on public housing providers as fewer households have access to housing on the private market. The property bubble has produced significant impacts on inequality in New Zealand, which now has one of the highest homelessness rate in the OECD and a record-high waiting list for public housing. Government policies have attempted to address the crisis since 2013, but have produced limited impacts to reduce prices or increase the supply of affordable housing. However, prices started falling in 2022 in response to tightening of mortgage availability and supply increasing. Some areas saw drops as high as around 9% - albeit from very high prices.

References

1 2 Koziol, Michael (26 April 2016). "Scott Morrison says claims negative gearing benefits the rich are 'a complete and utter myth'". The Sydney Morning Herald.
1 2 Wright, Danika (3 May 2016). "PolicyCheck: Negative gearing reform". The Conversation . Retrieved 26 February 2017.
1 2 Hutchens, Gareth (13 November 2015). "Negative gearing benefits the rich far more than everyday Australians, analysis shows". The Sydney Morning Herald .
↑ Avoidance, Evasion and Reform: Who Dismantled and who's rebuilding the Australian Income Tax System
↑ INCOME TAX ASSESSMENT ACT 1936
↑ Rami, Hanegbi (2002). "Negative Gearing: Future Directions". Deakin Law Review .
1 2 3 ABC Fact Check (3 March 2016). "Fact check: Did abolishing negative gearing push up rents?" . Retrieved 26 February 2017.
↑ Lim, Esther. "CGT exemptions, rollovers and concessions". Australian Taxation Office. Australian Government. Retrieved 28 February 2016.
↑ "6401.0 - Consumer Price Index, Australia, Mar 2013".
1 2 Productivity Commission Inquiry on First Home Ownership: Submission by Reserve Bank of Australia (PDF). 2003.
↑ A good house is hard to find: Housing affordability in Australia. Senate Select Committee on Housing Affordability in Australia. 2008. p. 65.
↑ Out of reach? The Australian housing affordability challenge. Senate Economics References Committee. 2015. p. 35.
↑ Wainwright, Sofie (2024-08-20). "Crushing consequences of housing crisis laid bare in People's Commission report". Everybody's Home. Retrieved 2024-08-21.

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[:5-1] 1 2 Koziol, Michael (26 April 2016). "Scott Morrison says claims negative gearing benefits the rich are 'a complete and utter myth'". The Sydney Morning Herald.

[:4-2] 1 2 Wright, Danika (3 May 2016). "PolicyCheck: Negative gearing reform". The Conversation . Retrieved 26 February 2017.

[smh_hutchens-3] 1 2 Hutchens, Gareth (13 November 2015). "Negative gearing benefits the rich far more than everyday Australians, analysis shows". The Sydney Morning Herald .

[4] Avoidance, Evasion and Reform: Who Dismantled and who's rebuilding the Australian Income Tax System

[5] INCOME TAX ASSESSMENT ACT 1936

[6] Rami, Hanegbi (2002). "Negative Gearing: Future Directions". Deakin Law Review .

[:2-7] 1 2 3 ABC Fact Check (3 March 2016). "Fact check: Did abolishing negative gearing push up rents?" . Retrieved 26 February 2017.

[8] Lim, Esther. "CGT exemptions, rollovers and concessions". Australian Taxation Office. Australian Government. Retrieved 28 February 2016.

[9] "6401.0 - Consumer Price Index, Australia, Mar 2013".

[:3-10] 1 2 Productivity Commission Inquiry on First Home Ownership: Submission by Reserve Bank of Australia (PDF). 2003.

[11] A good house is hard to find: Housing affordability in Australia. Senate Select Committee on Housing Affordability in Australia. 2008. p. 65.

[12] Out of reach? The Australian housing affordability challenge. Senate Economics References Committee. 2015. p. 35.

[13] Wainwright, Sofie (2024-08-20). "Crushing consequences of housing crisis laid bare in People's Commission report". Everybody's Home. Retrieved 2024-08-21.

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