Since when was losing money ever a viable financial strategy? Negative gearing is loosely thrown around in property investing and if you don’t fully understand it, here is why the extremely wealthy use it and why the first-time investor should try to avoid it. Gearing, in itself, is the process of leveraging someone else’s money to buy an asset. In property investing this can be achieved by borrowing money from the bank in the form of a home loan to purchase a property. The initial negative, positive or neutral lingo related to gearing refers to the direction of cash flow (either money coming in or money going out) associated with that asset or property. Negative cash flow or negative gearing means your expenses out weight your income, for a property, this means the combination of interest repayments, council fees, repairs and in some cases strata fees, all cost more than your net rental income. Let’s say you had a home loan that cost $1,300 a month in interest repayments, $100 for council rates, $80 for strata fees and you allowed $150 a month for general repairs, your monthly expenses would be $1,680. Now let’s say your rental income was $360 a week, or $1,560 month, with rental agent fees deducted at 6.6% your net rental income would be $1,457. Overall this is a loss of $223 per month, not including all other rental managers setup fees, weeks or months of empty vacancy or major damage repair costs. So why would anyone want to intentionally set themselves up to lose $2,676 a year? The simple answer is capital growth, or at a very high level, the profit you make from buying and selling a property. Historically in Australia house prices have increased by 6.8% per year, so if we take the previous example, let’s say the property was worth $480,000, in one year the price of the property should theoretically go up by $32,640. When you compare roughly $33K in growth to only $2,676 in losses it seems well worth the payoff, right? WRONG! Because you still get the nearly $33,000 in growth regardless if you negatively or positively cashflow your property, so why is negatively gearing still a consideration? Current Australian policies favour negative gearing as it allows investors to claim that loss of $2,676 against their personal income as tax deductions. Now if you have never really delved into your tax return, or how tax deductions work, you don’t get the whole $2,676 back at the end of the financial year. You do, however, get some money back from your tax return, with varying amounts depending on your taxable income bracket. Let’s say you earn a salary of $80,000 a year, this would put you in the $37,001 - $90,000 tax bracket and you would be paying 32.5c for every dollar after $37,000. On a salary of $80,000 a year, you would be paying $17,547 in tax for the 2019-2020 financial year. $80,000 - $37,000 = $43,000 $43,000 X 32.5c = $13,975 $13,975 + $3,572 = $17,547 With a tax deduction of $2,676 your tax payable would be $16,677 Meaning your only recovering $870 of your $2,676 yearly outgoings. $80,000 - $37,000 - $2,676 = $40,324 $40,324 X 32.5c = $13,105 $13,105+ $3,572 = $16,677 $17,547 - $16,677 = $870 Now, these numbers may seem minor to you, and you may be saying to yourself, Jordan, I’m still happy to fork $1,806 out of my back pocket to get nearly $33,000 in capital growth. And I agree, but now I want to talk to you about investment lockout, majority of Australian property investors cap themselves at 1 or 2 Investment properties and find it extremely hard to get the 3rd. For simplicity, let's duplicate out our current scenario by how many investment properties we dream to have. 1 | -$223PM | $1,806PY after tax 2 | -$446PM | $3,612PY after tax 3 | -$669PM | $5,418PY after tax 5 | -$1,115PM | $9,030PY after tax 10 | -$2,230PM | $18,060PY after tax Now, my short term property investment goal is to get to 10 properties, and I don’t know about you, but on top of living expenses (Mostly my wife's shopping costs), I cannot afford -$2,230 a Month just for investment purposes. Some months, depending on how much my wife spends, even -$669PM for 3 investment properties would be too much. Not to mention, this is only an example, based on actual figures, with risk factors involved, banks would assess the same 3 investment properties at roughly $1,500 in outgoings per month. Hence why, most Australian property investors get caught on 1 or 2 investment properties. So back to my initial statement, when was losing money ever a viable financial strategy? Only when you are already filthy rich. Negative gearing does benefit some people in certain situations. For individuals earning more than $180,000 a year, they do get taxed at 45c for each dollar compared to 32.5c in our above example. If they claim enough tax deductions, they may be able to get themselves into a lower tax bracket and get a bigger tax return at the end of the financial year. All the while still getting the capital growth. But if you want to grow your property investment portfolio beyond 1 or 2 investment properties, I would avoid negative gearing as a strategy altogether. As always, seek your own professional financial and property buying advice for your current situation.

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