Negative gearing is a popular investment strategy in Australia. You might have heard the term if you are a potential or current property investor. But do you know what negative gearing actually is and how it can benefit you? If not, then read on as we will help you understand the concept of negative gearing and the potential benefits and risks associated with it.
We’ll highlight a few of these deductible expenses in more detail below to help you understand how you can claim tax deductions on them.
Negative Gearing
A property is said to be negatively geared when the interest on borrowed amount is greater than the net rental income. As a result, a net rental loss arises from a negatively geared property. You may borrow money for buying a property, renovate it and cover several maintenance costs only to discover that the annual rental income the property has generated for you is less than what you incurred in expenses.
This looks bad, but you can take advantage of the loss you incur by offsetting it against the income that you are generating from other sources. So you’ll earn less income from your investment property and thereby will be paying less tax at the end of the year. While negative gearing is popularly used with an investment property, you can also use it for other financial investments like bonds and shares.
Investment Expenses That Can Be Claimed as a Deduction
Generally, a deduction for the expenses associated with the maintenance and management of a property can be claimed including the interest paid on loans. If your property is negatively geared, you might be able to deduct the entire amount of rental expenses against your salary, wages, rental income, and other income.
You might also be able to claim depreciation against the rental income of your property. Generally, deductions are claimed in three major categories. These include:
Capital Items
Larger items in a rental property depreciate over time and you can claim deductions over them.
Revenue Deductions
Revenue deductions can be claimed by property investors. For example, you may claim deductions for the interest on a loan and ongoing maintenance charges.
Building Allowences
Building allowances can be claimed by property investors. For example, you might claim deductions for building works or depreciation over time.
A detailed list of expenses that are deductible in an investment property can be found on the ATO website.
Risks of Negative Gearing
Negative gearing, like any other investment strategy, comes with its own set of risks. Borrowing money for making an investment is in itself risky and you should know everything that is involved in negative gearing before you implement this strategy. Some important risks you must consider before pursuing the negative gearing investment strategy include:
- Do you have a backup plan to deal with cash flow shortage?
- You might not be able to find a tenant and your property might stay vacant for a long period of time. How will you deal with this situation?
- What will happen if the real estate property market crashes and you aren’t able to achieve the planned capital gain?
- What if you aren’t able to make the repayments on your loan?
- What will happen if the Australian tax laws change and the changes make negative gearing unsuitable for your needs?
There are certain steps you can take for minimizing the risks involved in negative gearing. For example, when you are thinking about using negative gearing, you should do plenty of research before choosing your property and select an investment property that’s more likely to increase in value in the future.
Also, make sure that your income is sufficient to cover loan repayments and maintain your property in all circumstances. Before you pursue negative gearing, speak to a financial planner as they can help you determine whether this investment strategy is right for you or not.
Negative Gearing in the Australian Property Market
Negative gearing has remained a popular investment strategy for the investors of our country for several years now. But some critics have argued that although negative gearing encourages property investment, it reduces the number of available homes for buyers and increases prices. Negative gearing benefits rich investors over home buyers allowing the rich to get richer. Not only that, but this investment strategy encourages risky property investments.
Those in favor of negative gearing argue that negative gearing provides moderate benefits to investors and many of the property investors who benefit from it are on moderate incomes. Moreover, this investment strategy encourages property investments and promotes housing constructions. Proponents also claim that removing negative gearing could raise rents and hurt property prices in Australia by lowering investment.
Final Thoughts
In a nutshell, negative gearing is a popular investment strategy that you can use with your property investments. However, before you pursue it carefully assess the benefits and risk involved.
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