Negative Gearing.

What is Negative Gearing?

Negative gearing describes the situation where the overall costs of owning an investment exceeds the income it generates. The shortfall from the investment may be claimed as a tax deduction which reduces your overall taxable income.

Minimising the amount of personal or business tax you pay is both appropriate and legitimate. As Mr. Kerry Packer once said, “Anyone who does not minimise his tax, wants his head read.”

At Neomoney we always mention Planning or Plans, from expense plans to your life-plan and Tax Planning would be part of your overall life-plan.

Tax Planning is the process of organising your assets and liabilities so that your personal or business tax liability is minimised, legally. Tax Planning and Tax Minimising is not tax evasion. Tax evasion is a criminal offence to use fictitious names or accounts to claim false expenses and not disclosing all incomes obtained.

Negative gearing is incorporated in your tax planning structure.

Negative Gearing ~ as indicated by the ATO portal

http://www.ato.gov.au/individuals/content.asp?doc=/content/66031.htm&page=21&H21

A rental property is negatively geared if it is purchased with the assistance of borrowed funds and the net rental income, after deducting other expenses, is less than the interest on the borrowings.

The overall taxation result of a negatively geared property is that a net rental loss arises. In this case, you may be able to claim a deduction for the full amount of rental expenses against your rental and other income – such as salary, wages or business income – when you complete your tax return for the relevant income year. Where the other income is not sufficient to absorb the loss it is carried forward to the next tax year.

If by negatively gearing a rental property, the rental expenses you claim in your tax return would result in a tax refund, you may reduce your rate of withholding to better match your year-end tax liability.

How many types of Gearing are there?

As Gearing is the term used to describe borrowing for investments, there are 2 types of gearing

• Negative Gearing ~ means the costs associated in owning an investment property exceed the rental income derived from the property.
• Positive Gearing ~ means the rental income received from the investment property exceeds the finance and ownership of the property, i.e. lender interest and fees, investment property and maintenance costs.

Who can use Negative Gearing?

Negative gearing is not for everyone and is commonly used by higher income earners in entering the property market.  The rental income generated by the investment property will not be sufficient to cover the costs associated with financing and maintaining the property.

Can Negative Gearing be used with Wealth Creation?

Yes, in the instance of wealth creation for individual wealth the capital appreciation of the investment property needs to result in an overall gain which will only be assessable on the sale of the investment. In most cases the sale of the investment may be subject to the capital gains tax provisions and therefore be concessionally taxed.

How does Negative Gearing Work?

The example below illustrates the benefit for an investor as the indicative deductions incurred exceed the income derived therefore the shortfall may potentially be used to reduce the tax payable on other assessable income.  This example below does not include any long term building depreciating values in the calculations and each client should seek advice from qualified Quantity Surveyors to maximise their property investment potential depreciation deductions.

We’ve put together a simple example of Victoria & David who wish to purchase an investment property and take advantage of the gearing tax benefits. 

Victoria’s annual salary is $55,000 and David’s salary is $65,000 a combined salary of $120,000 per annum with a combined tax of $24,682 (David tax $14,022 & Victoria tax $10,660).

Victoria and David invest in a property and after calculating income less costs (See example A) the investment property generates a loss for the year of $13,799.92 ($13,799.92 divided by 2 = $6,999.93) which will reduce Victoria and David’s taxable income by approximately $6,999.93 each, reducing their combined income from $120,000 to $106,000. On this amount they expect to pay a combined tax of $19,995 that equates to a saving of $4,687 generated by negative gearing.

Example A.

The above example is based on an Interest Only Interest Rate of 8.00%. The weekly rental amount is at $350/week

Example B.

Can I depreciate the Investment?

As a building gets older and items within it wear out, they depreciate in value.

The ATO allows property investors to claim a deduction related to the building and plant and equipment items contained within it. It can be claimed by any owner of an income producing property. This deduction essentially reduces the after tax cost of owning an investment property – investors pay less tax.

For more information on property tax deductions please Click Here.

Negative Gearing will differ per client therefore we recommend you always seek Tax Planning and Legal Advice when purchasing an investment.