super fund

Negative Gearing And Its Relation To Income Tax: Does Negative Gearing Reduce Taxable Income?

Borrowing money in order to purchase an asset is an example of gearing. And the reason you hear about it so much is that the government's gearing laws significantly affect how appealing the real estate market seems to investors, which, in turn, significantly affects everything from the number of homes available to the average weekly rent.

The act of taking out a loan for the specific goal of making an investment is referred to as "gearing," and the context in which this concept is most frequently brought up is that of investment real estate. Your rental income may be considered positively or negatively geared, depending on how the property is being used.

It is crucial to have a solid understanding of what negative gearing is, as well as the potential rewards and hazards that come along with it if you are an investor in real estate or are considering becoming one.

Borrowing money to invest in real estate is a popular strategy among Australians for a variety of reasons, including those listed here.

There are many who believe that the worth of property will never decrease, while others enjoy the fact that it can be seen and touched. The ability to deduct expenses related to ownership of the property, such as interest paid on loans, from taxable income is, nevertheless, the primary factor that contributes to the property's allure to potential buyers.

The Australian Taxation Office permits investors to deduct their losses from their taxable income so long as the borrowing expenses are larger than the rental income. The practice of negative gearing, also known simply as "negative gearing," is frequently regarded as more of a tax strategy than an investment strategy.

Would you like to speak to a specialist? Book a complimentary discovery session by calling: (03)999 81940 or emailing

What exactly does "negative gearing" mean?

When you borrow money to invest in an asset (often a property), the term "negative gearing" refers to the situation in which the income you get from that investment, in the form of rent, is less than your expenses for that investment. This results in a loss.

People buy real estate with the intention of increasing their wealth, which is why experiencing a loss on an investment is never desirable. People are able to participate in the real estate market much more easily as a result of a provision in Australian legislation that permits investors to deduct from their taxable income any losses that they sustain as a result of an investment property from which they benefit. This is the most important advantage of negative gearing, and it is the one that most frequently results in an increase in the supply of rental property.

A significant number of investors who purchase homes with the intention of leasing them out to tenants do not anticipate making a profit from the rent they collect. Instead, they invest in real estate with the intention of profiting from the property's long-term appreciation in value. That is to say, they purchase a piece of real estate with the expectation that, at some point in the future, its value will rise to the point that it will be possible to sell it for a sizeable profit.

The term "negative gearing" does not appear anywhere in the tax code that I could find.

Consider the possibility that the return on investment from the rental property, also known as the rental income, is insufficient to cover the whole costs of operating the rental property as well as the interest component of the loan. In that scenario, the investment property would be considered to have "negative gearing."

An investor who is ultimately focused on maximizing their rental revenue and paying off both the interest and principal component of the investment loan in each monthly instalment may not find a negatively geared property to be all that enticing at first glance. This is because a negatively geared property has a negative net operating income (NOI).

But how can you, as an investor, end yourself in a better financial situation if you purchase a property that has a negative gearing ratio?

When it comes time for you as an investor to file your annual tax return, a negatively geared investment property may be able to give you significant tax benefits, which you can take advantage of if you choose to do so.

In its most basic form, the process goes as follows:

You now own an investment property that requires you to make mortgage interest payments of $500 each and every week. You spend an additional $200 each week on things like property management fees, insurance, and repairs, as well as council rates and water. In total, your expenses for the week amount to $700.

In addition, you have a depreciation schedule established, which enables you to make a claim for depreciation losses amounting to $150 every week.

It is a term that is frequently used to describe a scenario in which the costs connected with an asset (including the costs of interest) are more than the revenue that is gained from the asset's purchase. The concept of negative gearing is not limited to the realm of real estate investments.

Negatively geared individuals have the ability to offset their losses against other types of income, including their salaries and earnings. This is in line with the larger operation of the tax system that applies to personal income in Australia.

The foundation of Australia's tax system is the notion that individuals are liable for taxation on their taxable personal income, less any expenses (referred to as deductions) incurred in the process of obtaining that income. This is analogous to the manner in which business profits (that is, income less expenses) are taxed; more specifically, taxes are imposed not on a company's gross revenue but rather on its net profit.

It is acknowledged that various people place different values on the production of revenue through the use of deductions for costs incurred in that production.

A common approach to real estate investing in Australia, known as negative gearing, begs the question: how exactly does one go about reducing their taxable income through the use of this strategy?

How does taking advantage of negative gearing help you save money on taxes?

There are a lot of investors in Australia who are negatively gearing their properties because they have been led to believe that doing so will help them save money on taxes and because they have the expectation that doing so will help them gain money in the future through capital appreciation. To be more specific, how precisely can negatively gearing your investment property save you money on taxes?

When your rental return on a property is lower than your interest repayments and other costs associated with the property, we say that the property is negatively geared.

It is essential to have a solid understanding of the mechanics of negative gearing if you want to minimize your tax liability through this strategy. Why do people choose to do this? And what are some of the potential drawbacks that come along with having your home be negatively geared?

One of the ways in which negative gearing can help you save money on taxes is by offsetting the amount of income that is subject to taxation. Don't worry if that last statement didn't make any sense to you because I'm going to break it down for you now. Let's look at a very broad scenario as an illustration. Let's imagine that you have one job that brings in $100,000 for you annually.

You have a job, your employer is responsible for paying you, and your annual salary is 100 000 dollars. When you make $100,000, the government requires that you pay taxes equal to a particular percentage of your income. In modern times, a tiered structure has been implemented as Australia's method for calculating taxes. Therefore, the initial sum of money you earn, which I believe to be around $6,000 or something like, is exempt from taxation, or possibly even up to $18,000 of it. And then, gradually, the amount of tax you pay increases in proportion to the amount of money you make. After you reach the threshold of $18,000, I believe that your tax rate increases to somewhere around 18 percent or something similar.

Remember that the only way to minimize your tax liability is to lower your income, even if you use a tax-advantaged approach like negative gearing, which can help you pay less in taxes. If you need to borrow money in order to invest, selecting an investment that has positive gearing will help you get higher returns on your money while also increasing your income.

And then if you get a little bit higher, the tax rate will increase to something in the 30 percent range. And once your income reaches a certain level—currently over $180,000, I believe—you start paying over 45% in taxes.

Now, don't take it to mean that it's a rule. Clearly, I do not have a perfect understanding of the figures. However, in essence, it is a tiered system, which means that the more money you make, the more tax you will eventually have to pay. You will be required to pay taxes on a portion of that one hundred thousand dollars. For the sake of this illustration, let's just say that it's $30,000. Let's say that, all things considered, on average, our tax burden is thirty percent of what it should be. This is going to be extremely broad in scope. This does not pertain to you in any way, but rather serves the purpose of providing an illustration of how the process goes.

Since we have an income of $100,000 each year, our tax liability is $30,000. However, we now own a piece of real estate. We have an investment property that generates a yearly loss of $10,000 due to its negative gearing. This home loses its owner approximately $200 every week due to its negative gearing. Next, we take that loss of $10,000 and combine it with our income of $100,000. This is what occurs after that. Therefore, our taxable income is equal to $90,000, which is the sum of our revenue of $100,000 minus our loss of $10,000. Therefore, if you have a loss, you can reduce your taxable income by deducting the amount of that loss from the total amount of income that the government is permitted to tax you on. This is what it means to "offset" your taxable income.

Previously, you were subject to taxation on a total of $100,000. And the tax that you paid was $30,000, which is a fairly broad example of the percentage of thirty percent. You now have a loss of $10,000, which means that the amount of your income that is taxed is now only $100,000. If we assume that the tax rate will remain the same at thirty percent, then the amount that you will owe in taxation will be $27,000. There is a difference of $3,000 between having an annual income of $100,000 and having an annual income of $90,000. And just to reiterate, one more example that is quite general in nature. Through the use of negative gearing, you can reduce the amount of tax liability you owe by up to $3,000.

Therefore, what negative gearing does in practice is lower the taxable income, which is the amount of income you report to the government, such as "I earn X number of dollars each year." Most of the time, when we think about our income, all that comes to mind is how much money I make. In point of fact, though, your income can come from a variety of sources and take many different forms. In order for you to be able to support yourself financially through the work that you have employed at. You might, for example, mowing people's lawns in exchange for monetary payment; if you do this, the money you earn can be considered taxable income and subject to taxation by the ATO.

You have the option of working as a sole proprietor or as a contractor. You could obtain stock dividends. You may be able to generate income through capital growth by selling an asset (such as property or stocks) that has increased in value, or by selling another thing that has maintained or increased its value. You could potentially make money through the ownership of property that generates positive cash flow. However, the same holds true; even properties with positive cash flow might result in a loss of income. Therefore, in order to determine how much "taxable income" you have at the end of the year, it is necessary to take into consideration each of the aforementioned factors individually. This is how the government is going to calculate the amount of your tax obligation.

How Does It Function?

Negative gearing reduces your tax bill by an amount that is equal to the product of your effective marginal tax rate and the amount of your property's tax liability. This is because negative gearing results in a tax loss on your property when the amount of investment income is less than the amount of deductible expenses.

If the weekly rent on your property is determined to be $380, and if during the fiscal year 2007/2008 it is totally rented out, the total rental revenue that you would earn would be $19,760, this is because the property is completely rented out. Because of all the tax deductions you were able to take advantage of during that year, your overall loss on the rental property came to a total of $10,240.

hands exchanging house and money

The negative gearing benefit that you receive from your rental property loss will be equal to $10,240 multiplied by 30% (the marginal tax rate), which equals $3,072 if your nett taxable income for that year, excluding the loss from your rental property, is $75,000. Assuming that your nett taxable income for that year, excluding the loss from your rental property, is $75,000.

If people were required to rely solely on positive gearing, then a much smaller portion of the population would be able to buy an investment property when they were ready to do so. On the other hand, negative gearing makes it possible for a much larger portion of the population to buy an investment property much sooner. This is accomplished by allowing potential investors to deduct from their taxable income any losses that they incur as a result of their investment property from the property's value. And by doing so, one can contribute to a decrease in the cost of renting a home because there will be more properties available on the market for rental purposes. This will result in a fall in the cost of renting a home.

But in order for investors to reap the benefits of negative gearing, they need to have a consistent cash flow that enables them to cover their pre-tax borrowing expenses and produce sufficient revenue to keep up with their loan repayments. Only then can they take advantage of negative gearing. In addition to this, they need to be in a position to keep the property for an adequate amount of time for its value to rise to the point where the profit made from selling the property is greater than the rental shortfall that was incurred while they were the owners of the property. This can only be the case if they are in a position to keep the property for an adequate amount of time.

We strongly suggest that before you choose the gearing plan that will work best for you, you discuss your options with a financial advisor who can help you better understand the potential risks as well as the potential benefits of the various options.

Although incurring a loss on an investment property or shares may at first appear counterintuitive, there are some individuals who are willing to do so in the anticipation that the capital gain (defined as the difference between the sale price and the cost of the asset) that they will realize when they sell the asset will more than compensate for the loss.

Some people can also find themselves unexpectedly in a losing position if they incur larger expenses or lesser returns than they anticipated. This could happen if they make poor financial decisions.

If an asset has been possessed for more than a year before it is sold, only fifty percent of any rise in the asset's value is liable to income tax when the asset is sold. If it has been owned for less than a year, the full gain in value is taxable.

People tend to invest in real estate at a negative geared level for a variety of reasons that have nothing to do with taxes. These include misconceptions about the benefits of negative gearing and a preference for investing in "bricks and mortar," particularly in certain market conditions. Both of these tendencies may be encouraged by the recommendations of property investment advisers and the recommendations of the media.

The Advantages That Come With Using Negative Gearing

The primary advantage of negative gearing is that it allows you to deduct losses from other sources of income, like as your salary, that you have incurred over the year as a result of your rental property.

Because of this, your taxable income and the amount of tax that you are required to pay will both go down.

Negatively geared homes make up a vast percentage of the Australian economy; because of this, they are able to contribute to reduced rents and fewer demands on the public housing system.

Favourable tax arrangements for investors and the potential to contribute to the general populace's increased wealth in Australia

The primary benefit of negative gearing is that it enables individuals to balance the loss that comes with owning a property with the income that is earned from that property. Because of this, the taxable income will eventually go down, which means your tax liability will go down as well. When it comes to investing in real estate, those who pay a large amount of tax may favour negative gearing because it will boost their tax return and also allow for long-term capital growth.

Would you like to speak to a specialist? Book a complimentary discovery session by calling: (03)999 81940 or emailing

What dangers lie in wait for those who engage in negative gearing?

Negative gearing carries hazards, just like any other type of investment approach. It is inherently dangerous to borrow money in order to fund an investment, and prior to pursuing this strategy, you should have a comprehensive understanding of what is involved in negative gearing. Before you commit to a plan that involves negative gearing, you should think about the following risks:

  • What happens if you find yourself short on cash?
  • What happens if you are unable to locate a renter for the property and it sits empty for a considerable amount of time?
  • What happens if the value of real estate plummets and you are unable to make the profit on your investment that you had anticipated?
  • What happens if you are unable to keep up with the payments on your loan?
  • What happens if the laws governing taxes are altered, and negative gearing becomes less financially viable for your specific requirements?

Nevertheless, there are measures that you may do to lessen the dangers that are connected to using negative gearing. When looking for a property to use as an investment, it is in your best interest to conduct as much research as possible and to choose a piece of real estate that has a good chance of appreciating in value over time.

Even if conditions are less than ideal, you need to ensure that your income is sufficient to cover the interest payments on your investment property and the maintenance costs associated with it. If you want to ensure that the choice you make about your finances is a good one, you should consult with industry professionals such as a financial planner, a tax accountant, and a mortgage broker.

The disadvantages of using negative gearing are as follows:

  • Tax breaks are typically beneficial to those with greater incomes; but, if you aren't obligated to pay any tax, there is no reason for you to receive a reduction in what you owe.
  • It may cause real estate prices to rise, making it more difficult for first-time buyers to enter the market and purchase a home.
  • Depending on the degree to which you are negatively geared, you can be completely dependent on capital gains and run into difficulties if the amount of money you spent went up dramatically.

Would you benefit from purchasing an investment property that has a negative net income yield?

When a residential property investor takes out a loan from a financial institution in order to support the purchase of an investment property - that is, the purchase of a property that will be used as a rental rather than as the buyer's permanent residence – the investor opens the door to a financial strategy that is known as "gearing." Gearing allows the investor to increase the amount of income generated by the investment property while simultaneously decreasing the amount of interest paid on the loan.

To put it another way, the government will permit some tax deductions associated with property ownership since the buyer will use the loan from the lender as a way to earn an income.

If the investment property creates a profit, and these returns are strong enough to be able to meet the costs involved with the operating of the property, including making the interest repayments attached to the loan, then the property will be referred to as being "positively geared." Any revenue that is made in addition to the costs associated with operating the property will be subject to income tax. This includes any rental income.

On the other hand, it is also possible for the property to have a "negative gearing." This occurs when the expenses associated with holding the property are more than the money that is generated by it. Your rental income can be reduced by the amount of the tax deduction you get for these additional expenses.

Scroll to Top