Let's end the madness of negative gearing

GUEST OBSERVATION

In recent times there have been a lot of arguments in the public domain on whether Australia should get rid of the negative gearing tax tool for property investors.

Negative gearing is a valuable tax tool in any economy to help companies that make investments reduce their risk-burden by allowing them to make tax deductions against losses incurred where the revenue of the investment does not cover the loan costs.

In other words, allowing the investor short-term tax relief in the investment they make, or long-term relief when an investment does not turn out to be as rewarding as anticipated (a lousy investment).

However, in Australia, negative gearing has unfortunately been used as a speculative tool to help property investors cover their losses throughout the time of holding a particular asset so they are able to eventually flip the asset for a profit.

There are two key problems with this mindset:

1. Using negative gearing in pursuit of capital gain only works when the investment appreciates in value greater than the overhanging costs involved in maintaining the liabilities of the asset whilst under ownership.
2. If there is a market correction, those who hold negatively geared assets in pursuit of capital gain generally get burnt.

Unfortunately with so many Australian property investors incredibly negatively geared, it would be economic suicide to get rid of this tax tool overnight. Getting rid of negative gearing today would simply burn too many property investors at the same particular time causing mass damage to the Australian economy.

With the majority of negatively geared property investors earning less than $100,000 per year, it would simply send too many Australians into bankruptcy too quickly. In economic downturns, negatively geared property investors would progressively suffer which would slow the pain burden.

If anything, they should keep negative gearing for property investors, however introduce resourceful tools to mediate property investors from taking advantage of a tax law where they are willingly prepared to take excessive risk where it is all but mathematically certain that they will incur losses for a very prolonged period of time. This forces investors to invest responsibly whilst reducing tax losses.

My recommendation is property investors with loan to value ratio (LVR) greater than 50% void from making any tax deductions against the first 2% of rental yields (or equivalent to property price paid).

This would force property investors to shift their focus from speculating mode to yield-hunting mode. It would also push those who are taking an abnormal amount of risk in the name of capital gain to offload their properties to reduce fiscal losses which increases tax revenue by billions of dollars. Furthermore, this approach would reduce the risk profile of property investors in a downturn.

Lindsay David is a co-founder of clean technology company GreenRigCo and a former strategy and business development consultant. You can read his blog here.

To purchase a copy of his book 'Australia: Boom to Bust', click here.