Negative Gearing Guide for Australian Property and Share Investors

How Negative Gearing Works for Property Investors

Property investment is the most common area where negative gearing is used in Australia. When you borrow money to buy a rental property, you’ll have costs like interest payments, loan repayments, property management fees, body corporate fees, and other expenses. If your rental income doesn’t cover these costs, your property is considered negatively geared.

Tax Deductions and Cash Flow

Australia’s tax system allows you to claim deductions for the expenses incurred on your negatively geared investment property. These deductions can include interest expenses, rental expenses, maintenance costs, and other outgoings. If your rental income is less than your expenses, the net rental loss can be offset against your other income, such as personal income, business income, or other income sources. This reduces your taxable income, which can lead to tax savings and a lower tax bill.

However, you still need to cover the cash flow shortfall between your rental income and expenses. It’s important to consider your financial situation to ensure you can manage loan repayments and unexpected costs, like emergency repairs or periods when your rental property is vacant.

Capital Gains and Long-Term Strategy

The main advantage of negative gearing is the potential for your investment property to grow in value. If you sell the property for more than you paid, you may need to pay capital gains tax on the profit. If you have owned the property for more than a year, you could be eligible for a capital gains tax discount, which can lower the amount of tax you pay. Many investors use this approach as part of their long-term financial plans.

Negative Gearing in Share Investments

Negative gearing isn’t just for property investment-it can also apply to shares. If you use a margin loan to buy shares and your dividend income and franking credits are less than your interest repayments and other expenses, your share investment is negatively geared.

Dividend Income vs. Borrowing Costs

For example, if you borrow funds to invest in shares and your income earned from dividends doesn’t cover your interest payments, you can claim deductions for the shortfall. This can reduce your overall taxable income, just like with a rental property. Over time, investors hope that the shares will increase in value, leading to capital gains when sold.

Risks Specific to Shares

It’s important to note that share investments can be more volatile than property. If the value of your shares falls, you may face a margin call, which could force you to sell at a loss. Changes in dividend policies can also affect your income generated from shares, impacting your cash flow and ability to pay tax on other income.

Tax Implications and Compliance

Whether you’re investing in a rental property or shares, understanding the tax implications is crucial. Australia’s tax laws set out what expenses you can claim and how negative gearing losses affect your tax return.

Eligible Expenses

For rental properties, deductible expenses include interest expenses, property management fees, body corporate fees, maintenance costs, and other rental expenses. For shares, you can claim deductions for interest payments on margin loans and related costs. Non-deductible expenses include principal loan repayments, and any costs not directly related to earning rental income or dividend income.

Apportionment Rules

If your investment property is used for both rental and private purposes, you’ll need to apportion your rental expenses for tax purposes. The same applies to geared investments in shares if the borrowed funds are used for both investment and personal reasons.

Loss Carryforward

If your net rental loss or negative gearing losses exceed your other income, you can carry forward the unused losses to offset against future capital gains or income. This can help with saving tax in future financial years, especially if you expect a significant capital gain from selling an investment property or shares.

Risks and Considerations

Before deciding if negative gearing suits your investment strategy, consider these risks alongside your financial goals and seek professional tax advice for your personal situation.

Market Dependency

Negative gearing relies on the expectation that the value of your investment property or shares will rise over time. If property prices or share values fall, you may not realise the capital gains needed to make up for years of rental losses or negative cash flow.

Interest Rate Sensitivity

Rising interest rates can increase your interest expenses and reduce your rental income profit or net profit from shares. This can make a negatively geared property or geared investment more difficult to hold, especially if your income doesn’t increase to match higher expenses.

Liquidity Challenges

You’ll need to ensure you have enough cash flow to cover rental losses, loan repayments, and other expenses, especially during periods when your rental property is vacant or your shares don’t pay dividends. It’s wise to consult a financial advisor or registered tax agent to assess your financial situation and plan for these scenarios.