Negative gearing is a massive topic, especially for Australian property investors. But the strange thing is that many people think it’s mysterious and hard to understand.
Our team is here to democratise property investment, so we’ve answered the 6 most common property investment questions here to demystify the confusion around it.
Negative Gearing Explained in Simple Terms
Negative gearing, for anyone new to investment, is one of those terms that probably sounds more complex than it really is.
To explain it simply, to be negatively geared means the total costs and expenses associated with an investment are greater than the income earned from the asset.
Negative gearing applies to all investments, not just properties, so it’s important to factor in all your assets when calculating this.
Why do people want to be negatively geared?
It can seem really counterintuitive, right? If you’re going to make a loss on an investment, well why bother in the first place? In Australia specifically, there are tax benefits to being negatively geared (see the below section for more information), so although you may lose money on your investment in one year, you’ll receive additional tax breaks which can help to offset that loss in the short term.
Property investments are massive purchases so there needs to be some way for us to afford to handle the short term loss, so we can benefit from the long term gain. Negative gearing is one system that will help to offset loss when you invest in different assets for longer term capital gain.
Without it, it would be harder to invest in property because the loss wouldn’t be offset through our taxable income.
What’s the tax benefit of negative gearing
If you are investing in property at a loss, you have the benefit of deducting that loss from your taxable income. If your salary is $80,000 but you’re operating at an annual loss of $15,000, this means you can reduce your taxable income to $65,000.
So, even though you’re losing money on the investment, there’s a silver lining when it comes to taxes. Any money you lose on this investment can be used to lower the amount of income you’re taxed on. This means you might end up paying less in taxes to the government.
The refund you can earn when you do your tax can help alleviate cash flow issues as well and losses can also be carried over to following years if you don’t earn enough to qualify for it.
Who is negatively geared in Australia?
We must sound like a broken record, but here at PropHero our mission is to help all Australians invest in property so they can achieve their long term financial goals. The one heartwarming fact about negative gearing is actually a very big, common misconception.
If you’re reading this because you’re negatively geared or are considering it, then you’re not alone!
Of the 2.22 million property investors, 54% are reported to have been negatively geared during the 2019-20 financial period, claiming a net rental loss for the year.
How to calculate negative gearing?
Considering there is a lot of confusion around negative gearing, it’s actually very simple and straightforward to calculate.
Here’s how to calculate it:
Total rental income – tax deductions (property expenses plus less depreciation)
= the amount of loss from the investment property
To put this in real terms:
Say you get $600 in rental income per week, this would generate $31,200 annually ($600 x 52 weeks).
And let’s pretend total property expenses totalled $30,000 and that your depreciation for the rental property was $5,000.
This would translate to:
$31,200 – ($30,000 + $ 5,000) = -$3,800.
Your negative gearing loss was $3,800.
The ATO has a really helpful tool for you to see the full breakdown of negative gearing here.
What’s the difference between positive and negative gearing
Negative gearing means you’re not earning enough income from an investment, where as positive gearing means you are. See the difference below:
Negative gearing occurs when ongoing costs for an investment property exceed the income generated from the property.
Positively geared properties add to your rental income and generate profit, but on the flip side, you’ll need to pay additional income tax on this which can cut into your capital growth.
And that’s it! We hope you found this post useful. If you want to learn more about property investment and want to take the plunge, book in a free strategy consultation with our team here.