Negative gearing and capital gains tax

Negative gearing and capital gains tax

MRD News

Ongoing concern over budget black holes has the federal government and opposition scrambling to find ways of increasing their revenue.

Typically the focus tends to be on those who are do more than just go to work and earn a salary, and right now the media banter is around capital gains tax (CGT) concession and negative gearing laws.

Today, I will address both of these; soberly.

Bill Shorten’s recent announcement that a Labor government would introduce policy to halve capital gains tax CGT concessions and would restrict negative gearing to new dwellings mean absolutely nothing!

Why, because he is not about to win the upcoming election and, I believe, after the election his party will replace him as leader.

After you read this article, take a few moments to reflect soberly on your financial position and, if you have any doubt about being on-track financially, speak with us here at MRD. You’ll be pleasantly surprised with the care and respect we extend to you.

Capital Gains Tax

Malcolm Turnbull in parliament last week responded to the Labour Party's proposed changes to CGT laws.

He used an example of what he called “reasonable capital growth of 5% per annum”; saying “it’s not the best investment in the world, but still solid growth”.

He then continued and said that:

Labor’s proposed CGT changes would mean that the tax on the real gain of an investor’s asset; beit a small business, a property, a farm or some shares, after inflation, calculated at the long run average of 2.5%, would be 70%.

“So in other words they would be imposing a 70% tax on an investors’ after tax return! Nothing could be more calculated than to put the brakes on investments, on jobs and growth”; he said.

I think the takeout from what our Prime Minister said last week is that the government has no intention of doing what that Labour Party says they’d do, in the very unlikely event that they were to win office.

Negative gearing

It was Midnight Oil who, back in the 1980’s released a song with the lyrics “Short memory, must have a short memory”.

And it was the Hawke/Keating Labor government in July 1985 who limited negative gearing interest expenses to being claimable against rental income only, not wages etc. This was not retrospective, it applied to post July 1985 transactions only. Excesses were allowed to be carried forward against future rental income (not lost completely).

In 1987 the same Hawke/Keating Labor government not only reversed the negative gearing changes they had introduced two years earlier, but they increased the incentives that were offered to investors.

It seems Labor politicians have a very short memory. All indication is that if our government makes any changes, they will be limited and only apply to the very wealthy.

How negative gearing works

When the costs associated with holding a rental property; being interest on any borrowings plus all costs exceeds the rental income, those losses can be offset against one's taxes. This is what is referred to as negative gearing.

Essentially, your taxable income is income derived from all sources (salary, dividends, rents etc) minus all allowable deductions / expenses incurred in deriving your income; E.G. Work uniforms, money spent on work related courses, tools required to carry out your work etc.

As well as the above, depreciation of your property (incl. fixtures and fittings) and the expenses incurred with the operation of your rental property business are allowed to offset your overall taxable income(s); from whatever source.

Any proposal to quarantine property losses against property income only; i.e. to deny a property investor the right to offset rental property losses against other income such as wages, salary or business profits would be to single out property investors unfairly.

What's the difference between claiming losses in your investment property business to claiming losses in a start-up dog washing business against other income?

If you open a restaurant and eight months later are forced to close it because it failed to turn a profit, those losses are carried forward against future income you earn anywhere; not just in another restaurant.

New versus older property

When you invest in a new property you give work to many, many people. You also add to the housing supply.

The construction of new property means employment for surveyors, council workers, architects, concreters, tilers, bricklayers, carpenters, painters, letterbox manufacturers, electricians, plumbers, finance brokers, solicitors, real estate agents etc... and the list goes on.

Multiply that over and over and there is an army or employed people who are paying taxes to Canberra, instead of claiming social security because they were out of work.

All those trades and professional people and the suppliers of materials etc that are now employed, not only pay taxes but they also spend the money they earn. They now go to the movies, out to dinner, buy clothes, take holidays etc - things they may have forgone had they been out of work.

So now producers of movies, workers at cinemas, restaurateurs, chefs and hospitality staff, clothing manufacturers and retailers, travel agents and those employed in tourism have jobs (pay taxes rather than go on social security) and in turn spend. And so the cycle continues.

We know where the Labor Party stands on this topic and are still waiting to hear the federal government's stance.

The argument for

The argument for removing negative gearing on existing housing is to assist those looking to purchase a home. The theory is that with less investors in the market homes will be more affordable.

This makes perfect sense but also means that there will be a lot less investment properties available to rent.

Anyone who buys a new property (homeowner or investor alike) would own a second hand property post settlement; it would devalue like a new car being driven out of the dealership. This would harm homeowners, investors, tenants and the economy.

A very stupid statement by an intelligent man

John Daley, the chief executive at the Grattan Institute is quoted as having recently said:

"For every property that is no longer owned by an investor, there is one more property owned by an owner-occupier. Therefore there is one less renter and one less rental property. There is no change in the supply and demand for rental property, and therefore no change in rents."

What tha? I had to re read that as I could not believe an intelligent person could say something so ridiculous.

That statement assumes that those renting can all go and get a loan and buy a property.

What BIS Shrapnel has to say about negative gearing:

Taken straight from their website:

“Since 1964 BIS Shrapnel has provided industry reports on Building Forecasting, Residential Property, Commercial Property, Infrastructure and Mining, Transport, Building Materials Research, Household Appliances and Products, Forestry, and Paper & Packaging. Their Economic reports covering the whole economy have been a staple for decades.”

BIS Shrapnel released a report on the impact of removing negative gearing  just yesterday.

They found:

  • Rents would rise by 10%
  • Construction of new homes would fall by 4%
  • Australia’s GDP would reduce by $19 billion a year
  • There would be a loss of 175,000 over the next decade

Of course if you take would-be-investors out of the market you will reduce the supply of available rental properties and push up rental prices.

Of course if there is less construction there are less jobs and the overall economy suffers. This is economics 101, and was experienced here in Australia in the 1980’s.

Supply and demand

The law of supply and demand is irrefutable and governments of all persuasions ought to tread very carefully around policy changes that meant less housing was coming onto the market.

Our population will continue to grow and we need the supply of new housing to keep pace with demand. To that end, I cannot see our government making any significant changes (other than perhaps tinkering on the benefits offered to the very wealthy).

The Labor party’s policy was not thought through and is manifestly flawed. Fortunately, it will not become law as Bill Shorten has little to no chance of becoming Australia’s next Prime Minister.

What about you?

No matter what politicians do now and into the future, your goal ought to be to take advantage of opportunities and prevailing laws so as to deliver you the best possible outcomes.

At MRD we partner with clients to develop strategy. Strategy around property and finances with the specific aim of reducing the taxes you pay to Canberra, eliminating your mortgage in the fastest time possible and of course working to eliminate your retirement black hole.

Call MRD on 1300 883 854 or contact us >>>here to arrange a time for us to discuss strategy with you.

Partnering with you for your investment success,

Nick Lockhart