One of the key points which was a hot topic for removal in the 2014 Australian Budget was the removal of the tax benefits of Negative Gearing. According to the Grattan Institute, quarantining negative gearing losses would save the budget around $4 billion per year initially, falling to a saving of around $2 billion per year over the longer term. Although the dollar savings are evident, the resulting catastrophic outcome of doing this may not be as obvious. This article is about helping people understand what would result from such a change and how a major decision like this could potentially send Australia back into the same state which we were in 4 years ago.
What was the General Opinion?
As you may know, many articles were stating that ‘The Government needs to axe Negative Gearing’, ‘Negative Gearing, It needs to go!’ and ‘Chop negative gearing and there is savings for buyers and the budget’. The hype for this topic was wide spread. Then on Tuesday evening the budget was released to the public and numerous people were in disagreement with why Negative gearing deductions were still allowed in the budget. What many didn’t realise was that the government did the property industry a favour.
What is Negative Gearing?
A lot of people who were in favour of cutting negative gearing did not really understand what negative gearing is and how property investment (i.e. positively geared or negatively geared investment) of any kind is a tool that keeps the property industry in balanced. Negative gearing is where a person purchases a property, where the income from the property (i.e. rent/lease) is less than what the owners needs to pay for the interest and upkeep of the property. The property actually costs the owner money to own the asset, so the property causes the owner a loss of income. This is called negative gearing and currently allows for a tax deduction in Australia.
Who Negative Gears properties?
Most people believe the only rich people negatively gear properties, but in truth, ATO data shows fewer than 80% of the total individual taxpayers that are claiming a tax deduction for property earn less than $80,000 a year. In some cases they are people who are looking to gain a foothold into to the property market to start their first investment and to be able to save an own their first house while they are paying rent.
The reason why some people do this is because an investment property allows you to out an interest only loan (which means that payments are only for the interest amount charged by the bank). Therefore the owner can take out a loan, pay a smaller amount per month off the loan and gain a tax deduction on the money spend to reduce their taxable income while the property grows over in value over time.
So Why Would Abolish Negative Gearing have a Major Effect on the Economy?
Let me take you back to the start of the GFC around 2009. In 2009-2010 spending was reduced and confidence in the economy was faltering. Banks started tightening their belts on lending and although some businesses were growing, they were unable to get loans so they faltered and fell over. Along with this a number of other businesses started to fail due to lose of clients in Australia and overseas and people started to lose their jobs. Because of theses outcomes people started losing their jobs and quite a number of people who had invested in property either lost their jobs or started to pull in their money in for security reason and sold up their investment properties to hold for a rainy day.
This caused a flood of properties in the market and saw a rapid decline in property prices as the supply of available houses outstripped the demand for investors looking to buy. Some areas saw a drop in value of up to 50% of their original value which they purchased. Because of this, investors went to ground and stopped buying houses.
Property development stopped due to lack of buyers and a number of residential construction companies failed causing loss of more employees in work and a chaos as some residential builders tried to enter the commercial construction industry just to stay afloat. More and more people started looking for houses and they lost their own properties and found a lack of rental properties. This lead to rising prices in the industry and in some cases there were actually auctions for rental houses to gain the highest bids for rents as it became obvious that trying to find a rental property was too hard to find.
Why Keep Negative Gearing?
If Negative gearing were to be removed from the budget, there would be no reason for investors to hold onto their negatively geared properties as the expenses would far out way the benefits and it could potentially lead to another situation where there is a flooding of properties to sell on the market. At this stage as the economy is finally starting to improve and investor confidence is improving, itcould potentially put a nail in the coffin and send Australia back to 2009.
Overall we can really see why negative gearing is an important factor to keep in the budget and we believe that the government may have seen this as well. The 2014 budget is about creating employment opportunities, building our countries financial foundation and preventing any further problems to arise. Sometimes the smartest and most strategic move the government can make is to not make any changes at all, this being relevant when considering negative gearing. Good luck.
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