$30,000
Rental Income
–
$40,000
Investment Expenses
=
$10,000
Investment Loss
What Is Negative Gearing?
What Is Negative Gearing?
In simple terms:
You earn income from an investment → the investment costs more to hold than it earns → you make an investment loss.
Negative gearing is when the costs of owning an investment are greater than the income it produces. The resulting investment loss may generally be used to reduce your taxable income.
How Does Negative Gearing Work?
Negative gearing occurs when the deductible expenses associated with an investment are greater than the income the investment generates.
1. Earn Investment Income
Your investment generates income, such as rent from an investment property.
2. Pay Investment Expenses
You may have costs such as loan interest, property expenses, management fees and other deductible expenses.
3. Make an Investment Loss
If the deductible expenses are greater than the investment income, the difference is a net investment loss that may reduce your taxable income.
What Is the Tax Benefit of Negative Gearing?
If an investment is negatively geared, the net investment loss may generally be deducted from other assessable income, such as your salary. This can reduce your taxable income and therefore the amount of income tax you pay.
$120,000
Taxable Income Before Investment Loss
− $10,000
Net Investment Loss
= $110,000
Taxable Income
What Costs Can Make an Investment Negatively Geared?
An investment becomes negatively geared when its deductible expenses are greater than the income it produces. For an investment property, some common costs may include:
Loan Interest
Interest on money borrowed to purchase the investment may be deductible.
Property Management
Property management fees and certain costs associated with renting the property.
Rates & Other Costs
Certain council rates, strata fees, insurance and other eligible property expenses.
Depreciation & Capital Works
Certain depreciation and capital works deductions may also affect the overall tax position.
Does Negative Gearing Mean You Are Losing Money?
Yes, in cash flow terms, a negatively geared investment is generally costing you more than it earns.
The tax deduction can reduce the after-tax cost of that loss, but it does not make the loss disappear. For the strategy to ultimately be worthwhile, investors are generally relying on longer-term investment returns, such as capital growth, to outweigh the ongoing costs.
A tax deduction alone does not make an investment a good investment.
What Are the Risks of Negative Gearing?
Negative gearing can provide tax benefits, but it also means you are using your own cash flow to cover an investment loss.
Higher Interest Rates
Loan repayments and investment costs can increase if interest rates rise.
Cash Flow Pressure
You need enough surplus income to fund the investment shortfall over time.
Investment Values Can Fall
Capital growth isn’t guaranteed and the value of an investment can go down.
Tax Benefits Can Change
The benefit depends on your individual tax position and applicable tax rules.
The investment still needs to make financial sense before considering the tax benefit.
Why Do Investors Use Negative Gearing?
If negative gearing means an investment is losing money each year, why would someone choose to do it?
Potential Capital Growth
The investor may expect the value of the investment to increase over the longer term.
Tax Benefits
Investment losses may reduce taxable income and lower the after-tax cost of holding the investment.
Building Long-Term Wealth
The strategy may allow an investor to hold a growth asset over many years while gradually building equity.
The aim is for the longer-term investment outcome to outweigh the short-term cash flow cost.
Negative Gearing vs Positive Gearing
The difference comes down to whether the investment produces more or less income than it costs to hold.
Negative Gearing
Income < Expenses
The investment makes a loss, which may generally reduce your taxable income.
Positive Gearing
Income > Expenses
The investment produces a profit, which is generally added to your taxable income.
Neither is automatically better. The right outcome depends on the investment itself, your cash flow, tax position and longer-term goals.
Can Negative Gearing Help You Build Wealth?
Negative gearing itself does not create wealth. It simply describes an investment that costs more to hold than the income it produces.
The strategy may be worthwhile if the investment performs strongly enough over time to outweigh the ongoing holding costs. This is why the quality of the investment, your timeframe and your ability to fund the shortfall are so important.
The goal isn’t to make a tax-deductible loss. The goal is to own an investment that produces a worthwhile long-term outcome after considering all of the costs and tax benefits.
For more detailed information about negative gearing and rental property deductions, visit the Australian Taxation Office.
Negative Gearing Is Only Part of the Picture
Negative gearing can provide a tax benefit, but tax shouldn’t be the only reason you choose an investment.
The investment itself, expected returns, cash flow, level of risk, borrowing structure and your longer-term goals should all be considered.
A good investment strategy should make sense before the tax benefits are taken into account.
Where Does This Fit Into Your Financial Strategy?
Negative gearing is just one investment strategy. How you invest, structure debt, manage cash flow and build wealth should ultimately work together as part of your broader financial strategy.
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