Negative Gearing

The term “Negative Gearing” does not apply just to investment property.  But, here we will limit our explanation solely to how it applies to investment property.

Negative Gearing involves Income and Expenses.  Put simply, Negative Gearing is where the rental income is not enough to cover the expenses “on paper”, and the shortfall is covered by your normal 9 to 5 income.

The expenses are broken down into two categories - Cash Expenses and Non-Cash Expenses:

1.  Cash Expenses.

These are bills that you physically pay out of your pocket, such as loan interest payments, rates, insurance, agent’s fees, body corporate fees, gardening etc.

2.  Non-Cash Expenses.

Non Cash Expenses are a very important part of Negative Gearing.  They are expenses that the Tax Department will allow you to claim in your tax return, even though you DON’T actually pay for them out of your own pocket.  

The first of these is Building Depreciation.  In our example, you buy an investment property for $315,000.  Let’s say the land is worth $150,000 and the building itself (the structure) is worth $165,000.  The Tax Department will allow you to claim as a tax deduction 2.5% of the $165,000 as building depreciation, because the building depreciates in value (whereas the land increases in value).  So the Tax Department will allow to claim a deduction of $4125 EVERY YEAR that you own the property, to a maximum of 40 years.  

The second non-cash expense is Chattels Depreciation.  ”Chattels” includes things such as carpets, curtains, blinds, and light fittings.  These depreciate (wear out) much faster than the building structure, and the Tax Department therefore allows a higher rate of depreciation.  For this exercise, let’s assume the allowable amount of depreciation that the Tax Department will allow as a tax deduction on the chattels in your investment property amounts to $1500.

The third non-cash expense is loan setup costs.  When you bought your own home, you borrowed the money from the bank and they charged things like loan application fees, stamp duty on the mortgage, bank’s solicitor’s fees and the list goes on.  With your own home these fees are not Tax Deductible.  But, with the investment property, they are.

The effect of Negative Gearing on your taxable income.

Let’s say, for example, you earn $70,000 a year.  (The tax on this $70,000 is about $15,700.)  Now, we’ll assume you receive an annual rental income of $16,000 from the investment property.  Adding this $16,000 rental income to your $70,000 wage, you now have an annual taxable income of $86,000.

For this example, we will also assume the annual total of the Cash Expenses (loan interest payments, rates, insurance, agent’s fees, body corporate fees, gardening etc.) is $30,000.  And, from the figures above, we have determined the Non-Cash Expense is $5625 ($4125 for Building Depreciation, plus $1500 for Chattels Depreciation).  Thus, the total annual costs for the investment property amount to $35,625.

So, as we saw above, you now have an annual taxable income of $86,000.  But, we can deduct from that figure the $35,625 of the annual costs of the investment property.  This reduces your taxable income to $50,375.  The amount of tax that you will therefore owe the Tax Office for the year is about $9,100.

But, hang on!  Your employer will have already deducted from your wage, and paid to the Tax Office on your behalf, $15,700 through the year.  This means you will get about $6600 back in your tax return.  Simply because you bought an investment property.  Brilliant, isn’t it?!

And, it gets even better than that!  Because, you see, you don’t have to wait until the lodgement of your Tax Return at the end of the financial year to get your tax refund.  Instead, we arrange with the Tax Office for you to receive the benefit immediately, through reduced deductions of tax from your wage.

Ok, so you have bought an investment property.  The bank has lent you all the money.  We have organised a quality tenant.   And, we have even organised the tax savings from the Negative Gearing to be applied to your pay packet each time you get paid, rather than having to wait until the end of the financial year to get the refund.  Now, what would normally happen if you were to buy an investment property without help from a professional like us?  You would apply the rental income AND the tax refund from the Negative Gearing to the investment property.  And, the investment property would still cost you about an additional $269 a week, which would have to come out of your pocket.  This is because, remember, the rental income is not enough to cover all the expenses.

But under this facility, you do not have to pay the $269 a week, we’ll show you in the next step.