How can negative gearing work for you?

When it comes to your bank account, the word negative doesn’t exactly fill you with joy. But when it comes to investing, it can take on a whole new meaning.

Negative gearing explained.

When you borrow money to invest, this is called gearing. A property is positively geared when the rental income you receive is more than the expenses you are paying. Neutral gearing is, you guessed it, when your rental return is the same as your property-related expenses.

Now for the main event: Negative gearing is when you purchase a property for investment reasons and you spend more money on expenses than you make in rental income – essentially, you’re making a loss.

Of course, none of us invest to make a loss; obviously, it’s to make a profit and put our fancy Monopoly skills to good use. However, you can benefit from this loss by offsetting it against the income you earn from your job. This effectively lowers your income, so you’ll have less tax to pay at the end of the financial year. For this reason, having a negatively geared property is a popular investment strategy in Australia.
 

Singin’ in the claim.

When you find out what you can claim as a property investor, you’ll definitely be singing (hopefully not in the rain). Keep reading for some of the expenses you can claim to increase your negative gearing.

1. Interest.

You can claim the interest charged on your loan that you used to purchase the property, purchase land to build the property, make repairs to the property, and finance renovations on the rental property.

2. Repairs and maintenance.

Had a leaky roof? Gutters need replacing? Perhaps the front fence needed a fresh lick of paint? You can deduct the cost of these maintenance works from your annual income.

3. Travel.

Whenever you travel to your negative gearing investment property for an inspection, you’re entitled to claim the cost of petrol or your transport ticket. And if you travel overnight to visit your rental property, you can deduct your airfare, accommodation and meals.

4. Management fees.

Investing in a property manager can take the stress out of renting. They’ll advertise your property, screen the applicants, collect the rent and bond, organise tradespeople for repairs, and manage any disputes. And if you decide to use an agent, you can claim the cost of their services.

5. Body corp fees and rates.

If your property is part of a block, you’ll be expected to pay body corporate fees. These fees are used to look after common areas, like shared gardens, stairways and lifts, and repairs to external parts of the building.

You’re also responsible to pay council rates, water rates and land taxes – but as a property investor, these fees are immediately deductible.

6. Depreciation.

Over time, assets, technology and white goods lose their value. And when it comes to tax time, you can claim depreciation – a reduction in the value of these items.

Having a depreciation schedule drawn up by a professional quantity surveyor will help you make the most of depreciation claims while sticking to the rules.

Read more on unexpected house costs when investing here.

Let’s crunch the numbers.

Sounding pretty good? Find out what this investment strategy could look like for your personal situation by using these three steps to calculate negative gearing.

1.    Add up your total property income.
2.    Deduct the total sum of your property expenses (e.g. rates, gardening, and maintenance costs).
3.    Deduct the total depreciation.

Here’s a little example: Let’s say you receive $500 per week in rent, but pay $600 per week on expenses. You are making a loss of $100 per week. (-$5,200 per year). Then let's say your property depreciates in value by $15,000 over the financial year. This means you are able to offset your taxable income by $20,200. 

In summary:
Property income – (total sum of property expenses + total depreciation) = the loss you can offset your tax by.

Gearing up to negative gearing?

Before you choose negative gearing as your investment strategy, let’s have a look at some of the risks and benefits.

Let the gains begin.

Negative gearing is a positive strategy when property values are set to increase – this is called capital growth. Because you’ve been making a loss, when you do sell, you’re more likely to make a big (and hopefully) fat profit.

Less income =  Less tax

The juiciest benefit of negative gearing is the tax considerations. As you offset your rental loss against your employment income, your taxable income is reduced. Which means so is the amount of tax you have to pay. Check the ATO website to see what you can and can’t claim.

Risky business.

The tax benefits of an investment property that is negatively geared are pretty sweet. However, if you don’t have a disposable income, negative gearing probably isn’t the best investment strategy for you. You’ll need access to funds to cover the mortgage balance (i.e. mortgage repayment minus rental income), repairs, maintenance and property management, otherwise you could end up in serious financial trouble.

A loss is a loss.

Bear in mind that a negatively geared property is technically recorded as a loss. This comes with an element of risk. If at some point you are unable to fill your rental property or if there’s a drop in property values, will you be prepared?

A way to protect yourself from some risks like natural disasters or property damage (and win at Monopoly) is to ask your mortgage broker or financial advisor about the types of insurances you could get as a property investor.

While negative gearing works for some Australians, it’s not for everyone. Chatting to a financial advisor can help you decide the best investment strategy for you.

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