There are only two things that are certain in this life: Death and Taxes- says the old adage. How true! We have a duty and responsibility to pay taxes so that the revenue collected goes back into our communities for better infrastructure, amenities and other public services.
We all work for up to four months of the year for the tax office and the remaining eight months for ourselves! The government however, does offer investors the opportunity to legitimately minimise the amount of tax that we pay every year. Using the concept of negative gearing when purchasing a property for investment purposes can help minimise your tax liability.
As an investor you are entitled to claim all the interest on money borrowed when acquiring income producing assets such as property. It is a condition of tax law that an asset must produce income in order to qualify for tax deductions. Gearing is a term meaning that you are borrowing in order to invest. There are two types of gearing:
- Negative Gearing: Occurs when the expenses from the investment exceeds the actual income derived from the investment. Deriving a financial loss is essentially termed negative gearing.
- Positive Gearing: Occurs when the income from the investment exceeds the expenses incurred from the investment
Holding the investment at positive gearing actually increases your assessable income hence, increasing your tax payable every year.
In the case of negative gearing the actual loss incurred from the property can be offset against income from all other sources including your salary. A negatively geared property will generally give you 3 main benefits:
- Minimising your overall tax liability
- Potential capital growth (increasing value) from the property over time
- Your property gradually being paid off by the tax office (by way of tax deductions) and your tenant (by way of rental income).
It is true that investing in property can help you create wealth over time however; you must always be aware that there are potential risks associated with investing and with property is no exception.
You must undertake due diligence when selecting the right property. It is very important to familiarise yourself with the Property Buying process and how to select a Property Growth Location. Minimise the risk of things going wrong follow our 5 Biggest Home Buying Mistakes guide.
Once you have completed your due diligence and undertaking the loan process and the property selection criteria, your next step is to understand the negative gearing process and whether it is right for your individual financial circumstances.
The overall affect of negative gearing is that it will decrease your current marginal tax rate by offsetting your income with allowable deductions such as interest on the loan, banking fees, depreciation and building allowance (building allowance applies if the property is less than 40 years of age or new renovations or additions are also under 40 year sold), insurance premiums, body corporate fees, agents management fees and other non-capital expenses.
You should always obtain proper qualified advice on what expenses are tax deductible from an accountant or financial planner.
Generally different properties will yield different cash flow and taxation results; much will depend on the property purchase price, the rental revenue, the loan interest rate, your marginal tax rate, the age of the property and other factors.
For an estimate of negative gearing benefits for a particular property, please refer to our on-line Negative Gearing Tax calculator.
For further information relating to your entitlements please refer to the Australian Taxation Office website www.ato.gov.au. You should always consult your accountant or financial planner before making any investment decision.