Negative gearing is a common tax strategy used by property investors to offset the costs of owning a property against assessable income.
The strategy is arguably one of the most generous tax breaks available to Australian property investors. It allows investors to claim the shortfall between a property’s associated expenses and its rental income as a deduction against their total taxable income – resulting in a lower annual income tax bill. Where the other income is not sufficient to absorb the loss it is carried forward to the next year.
To access negative gearing on a property, the owner must have borrowed money to purchase the property and the net rental income must be less than the costs of maintaining the property. For example, if the rent of a property was $500 per week, and the property was fully tenanted for a full financial year, the rental income would be $26,000. If the deductible expenses for that year were $40,000, the net rental loss would be $14,000. The $14,000 loss can then be applied to reduce the property owner’s taxable income.
Although negative gearing is helpful for those owners experiencing a net rental loss, the strategy is not without flaws. An underperforming property is still making a loss, and ideally, investors would prefer to have a positively geared property where rental income exceeds expenses. Investors who have long term negatively geared properties are generally hoping to incur long term profits from capital growth. Even if you think that your investment property will be positively geared, understanding the benefits of negative gearing can give you a little peace of mind knowing that if the property does lose money, you will be able to offset the loss against your taxable income. When a property is positively geared, the income earned is added to your total taxable income. As such, it is taxed at your marginal tax rate. The same applies to any capital gain that you make from selling a property.
Note that from 1st July the rules regarding tax deductions for rental properties are changing
Deductions for travel expenses for a residential investment property will be disallowed. This measure addresses issues with investors that have been claiming travel costs for private purposes or who have not properly apportioned their costs. Additionally, deductions for plant and equipment in residential property investments will be limited to expenses directly incurred by investors.
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