Negative Gearing Explained: How Does it Work for Investment Properties?

Negative gearing explained

If you have looked into property investment, chances are you have come across the phrase ‘negative gearing’ once or twice. The simple explanation of the concept of gearing is that you are borrowing money to invest in an asset. This means if you need to take a loan out to buy an investment property, this property is referred to as ‘geared’. Negative gearing takes place when the cost of owning a rental property exceeds the income it gives each year. When delving into negative gearing, investors will need a dependable cash flow to cover costs and be able to earn enough income to meet their loan repayments.

Negative Gearing Tax

Negative gearing can be a popular tax strategy, as this investment can be put down as a loss when the rent from the property is less than the expenses it attracted. If you are a property investor (someone who owns a rental property), you are able to deduct any financial loss from your property against your other income that you make, to give yourself some savings on tax.

How does negative gearing work? Looking at the Pros and Cons

The Pros

The market value of your property is likely to increase over time, allowing capital growth on your investment.

Most property investors will gain a regular income of some description, from their property rental. This can be used to build equity, cover ongoing costs, or pay off your mortgage.

Because as a rental investor, you are contributing to the number of available rental properties in Australia, the government allows you to benefit from a reduced tax liability.

The Cons

Property attracts different costs than shares or other investments. There are maintenance costs, interest fees, council rates and stamp duty, to name a few. It can be a challenge to not only save your deposit, but to also maintain your investment ongoing.

While property can attract regular income when they are tenanted, while they are empty, they leave the investor vulnerable and liable to pay the costs.

While negatively gearing your property can pay off big at tax time, having to pay many expenses and bills for the property upfront during the rest of the year can be expensive and challenging. It is important to be realistic about your scenario and manage your cashflow well.

“Embrace the power of negative gearing – where financial strategy meets opportunity. By strategically leveraging this approach, investors can navigate the path towards potential wealth accumulation through optimised tax advantages and asset appreciation, paving the way for a brighter financial future.” – Nestor Ramirez, Senior Mortgage Broker.

Negative gearing case studies

Case Study 1

James’ investment property: a studio apartment in the Newcastle suburb of Mayfield, costs James $18,000 per year in mortgage interest fees and other charges.

At the same time, he is able to charge his tenants around $260 per week in rent, which equates to around $13,500 per year.

James is making a loss of $4500 per year, yet he can claim that against his income tax and reduce his overall tax liability.

James can also enjoy the fact that his property’s market value is also increasing over time. Purchased in 2018 for just under $200,000, it’s currently estimated to be worth around $320,000.

So, if James were to sell the property right now, he would make a gross profit of around $120,000. However, if he holds onto the property for another few years this may continue to increase even more.

Case Study 2

Sandra owns a rental property generating $30,000 in rent each year. The costs of holding the property, including mortgage interest, is $40,000. This gives Sandra a taxable loss of $10,000, which she can use to reduce the tax payable on her salary.

Sandra knows in advance that her investment will record a loss over the financial year, so she applies to the Tax Office to reduce the amount of tax taken out of her salary. This is called PAYG Withholding Variation and it can provide a real boost to your personal cash flow.

Negatively gearing an investment property is not a decision that should be made without care and planning. Before making any decisions, it is important to meet with a professional mortgage broker who can walk you through the whole scenario, identify the risks associated with negative gearing and assist you in mapping out a plan to not only minimize the risks, but tackle any challenges that you may face along the way.

When it comes to buying an investment property, partnering with a mortgage broker is vastly advantageous for any investor. Their expertise, personalised approach, access to multiple lenders, simplified process, and guidance through refinance mortgage rates make them invaluable allies in your refinancing journey.

Take the first step today and reach out to discuss how your home loan compares to others and whether switching lenders could be financially beneficial. 

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Disclaimer: The information provided in this fact sheet is not legal, taxation or financial planning advice. It has been prepared without considering your specific needs, objectives and personal financial situation. Before acting on this information, we recommend that you consider carefully if it is appropriate for your needs, objectives and personal financial situation. All loan products are subject to lender criteria and approval. Fees, terms and conditions apply. Your full financial needs and requirements need to be assessed prior to any offer or acceptance of a loan product. Licensing Statement: Watson Mortgages Pty Ltd Credit Representative 525053 is authorised under Australian Credit Licence 389328.