Putting A Ban On Negative Gearing

Putting a ban on negative gearing would have to be one of the most nonsensical ideas I have heard in ages. The problem is, it has supporters camped in every major political party (red, green and blue).

For the unacquainted, negative gearing involves purchasing an asset using borrowed funds (gearing), and because the income received is less than the outgoings, it operates at a loss (negative cashflow). The loss becomes tax deductible.

Negative gearing (NG) is a great way to build wealth for anyone willing to roll up their sleeves, stomach some risk and make a few sacrifices. Yet there are some politicians (including trade unions) who think it should be banned because property investors are getting rich at tax payers expense.

In 1990, Treasurer Paul Keating tried to pull this stunt and the whole thing blew up in his face. So any politician who thinks this is a good idea either has a short memory, is not overly smart, or still has their head stuck up in the clouds in a helicopter.

Naturally, there will be some who call me biased because I’m a planner. That’s to be expected. Sticks and stones are part of my diet anyway.

In either case, putting a ban on NG is such an important issue that I will be spreading this topic across two Moowsletters. This week I am focusing on the macro factors around why I oppose a ban on NG.

1. Asset discrimination – you can’t just discriminate against one asset class. E.g. property. NG is used to invest in shares plus small and large businesses. Asset discrimination could easily lead to market distortion and the creation of a bubble in another market. E.g. shares.

2. Inflated property prices – investors have been blamed for pushing up property prices using NG, especially in Melbourne and Sydney. Whilst this is partly true, it won’t last because we are now in a momentum driven market. Just have a look at Perth. Remember how the mining boom was going to last for another 100 years because of China? Now they’ve all packed up their cranes and gone home.

3. Using the tax payer – many people think investors get rich at the tax payers expense. It’s not true. Apart from carrying all the risk, an investor is still out of pocket $2 for every $1 in tax they get back. Moreover, in a low interest rate environment there is less to claim. Do the sums, NG is not as sexy as it seems.

Incidentally, 70% of negative gearer’s own one investment property and earn less than$80k pa. It’s a bit different to the picture painted by some in Canberra.

4. Increased rents – short of a sell-off, investors would be forced to pass on the cashflow shortfall to renters if they couldn’t fund the difference themselves, which is most likely. Additionally, a shortage of landlords could quite possibly force rents up too.

5. Pension pressure – investors use NG to help grow their asset base and fund their own retirement. The removal of NG would only put more pressure on social security pensions. Remember also, one of the reasons for abolishing NG is to improve the budget deficit.

6. Dept. of Housing – both the past and present Govt. have spent millions of dollars marketing the sale of Govt. houses under the auspices of the Dept. of Housing. And guess who’s been buying them? That’s right, investors willing to take a risk using a NG strategy. The politicians can’t have it both ways, especially those on the left who are most vocal about banning NG.

7. Employment – for reasons that escape me, the trade unions are in favour of banning NG. All the trades are heavily dependent on building cycles, so why would they want to potentially harm the employment opportunities of their own rank and file?

8. Institutions – Australia is one of the only countries where institutions do not invest in residential property because it’s not tax effective and the rental yields are too low. Peer groups such as commercial and industrial property are much more attractive. Thank heavens for all those Mum and Dad investors out there willing to take a punt and a headache and become landlords.

So that concludes Part I of why I don’t agree with a ban on negative gearing, whether it’s for property, shares or business. Next week I will be taking you through the decision making process of negative gearing from a planners point of view.

BTW…a few weeks ago I said I would do a Moowsletter on China. I’m going to leave it until the ship hits the sand again.

Have a great week!

Adam