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4 steps to correct the market imbalance caused by negative gearing

The negative gearing debate rages on.

I’ve given my thoughts on why negative gearing should not be abolished  and you can read Ed Chan’s thoughts here.

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Now with recent estimates from ratings agency Moody estimating that negative gearing, the tax break given to investors who rent property at a loss, has pushed up property prices by 9 per cent, AND Onthehouse.com.au Consulting Analyst  John Edwards  has weighed into the discussion and argued that it is time for the government to take action.

However, with probably more than 1.25 million Australian’s benefiting from negative gearing, he cautioned that scrapping the tax break is not the best way forward for Australia.

He said:

“The volume of deductions being claimed is probably in the order of $20 billion per annum plus.”

Mr Edwards, said that removing the Negative Gearing benefit from property investment but not other investments would create a market distortion and could have a jolting affect on Australia’s property market.

4 steps to correct the market imbalance

Instead, Mr Edwards believes that the government should take four steps to correct the market imbalance caused by negative gearing:

  1. Instruct the Australian Tax Office (ATO) that transactions which are geared past an untenable level and produce tax losses annually for an unreasonable period of time (say five years) should be challenged under PART IVA – the section of the tax code that deals with tax avoidance.
  2. Ask the Tax Commissioner to issue a general tax ruling indicating that any party investing in residential property who borrows in excess of 80 per cent will be subject to scrutiny.
  3. State that, upon the sale of an investment property, if at no time during a reasonable pre-sale period did the rental income exceed the interest and other deductions, the tax office would consider the transaction was in effect purchased for the purpose of trading in residential property and hence the Capital Gains Tax benefit of only having to pay tax on 50 per cent of the gain would not be available.
  4. Follow these rulings up by taking action in the courts against a few very clearly very over leveraged transactions to confirm its position.

Mr Edwards said:

negative positiveNegative gearing is a necessary mechanism, in effect acting as a subsidy for people who are renting and encouraging the provision of rental stock for people who cannot afford to buy.

It is also a risk minimiser for the investor when interest rates increase.

However, there are increasingly cases where it is being allowed by Federal Government authorities when it should not be, and this is distorting the market, causing higher house prices and making it harder for first time buyers.

“Simply removing negative gearing would result in property being treated differently from other asset classes, which in itself could have long term negative effects.

In fact, tax legislation is quite clear in that investors are not permitted to enter into a transaction with the main purpose of reducing their tax liability – and similarly that if an investor is buying a property with the sole aim of making profits from capital gains and not rentals, then this constitutes property trading, that is, the investor was in the business of buying and selling residential property for a profit and is therefore not entitled to benefits in terms of the capital gains tax legislation.

Clearly, the current reality on the ground is that many property transactions should be challenged.

It is not the fault of the Tax Office that there hasn’t been stricter management of residential property investment, the Tax Office is the instrument of the Federal Treasury, acting on their direction and requires the staff to implement rules and regulation.

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There will be many ordinary Australians who have no idea about the limitation in terms of negative gearing.

There is simply so much hype about it that many will just simply think there is no limitation and will not be getting any tax advice and doing their own tax returns.

We are calling on the Federal Treasury to work with the Tax Office to clarify the current situation when it comes to negative gearing, and to take steps to correct how negative gearing is being enforced.

Financial planners and mortgage brokers who are encouraging negative gearing to excessive levels need to recognise their obligations and potential liability in providing their clients with inappropriate advice and make sure that their client is such that the tax deductions they are relying on are not disallowed when the transaction is reviewed by the commissioner.”



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Michael is a director of Metropole Property Strategists who help their clients grow, protect and pass on their wealth through independent, unbiased property advice and advocacy. He's once again been voted Australia's leading property investment adviser and his opinions are regularly featured in the media. Visit Metropole.com.au


'4 steps to correct the market imbalance caused by negative gearing' have 4 comments

  1. Avatar for Property Update

    November 26, 2014 @ 8:34 am Hamish Blair

    The price of a property is set by the marginal bidder. The price an investor is willing to pay is set by the returns from rent and future capital gains, especially if there is development potential. In many other cases the price is set by an owner occupier.

    The nature and condition of the property will determine whether it is more suited to an investor / developer, or an owner occupier. So I don’t think negative gearing is pushing up the prices of all property and the numbers have to stack up first.

    Reply

  2. Avatar for Property Update

    November 26, 2014 @ 12:08 pm Marlene

    The costs on keeping a property up to a reasonably good standard to attract good tenants is substantial. Also when a property is sold there is a capital gains cost to offset the depreciation claimed from previous years.

    I think if the Negative Gearing was removed the Government would have the cost of a lot more Public Housing and the ongoing maintenance & management costs of it. These costs would get out of control. Also, as an investor & property owner , we will not be drawing a pension in our lifetime, so this is a Government saving. I’m sure there are many other people that are doing the same.

    Reply

    • Avatar for Property Update

      November 26, 2014 @ 1:59 pm Michael Yardney

      Marlene
      I’m sure you’re right – property investors are doing the government and community a favour supplying a necessary service – housing – we take the risk and deserve the rewards.

      The government couldn’t do it as efficiently as we do

      Reply


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