Negative gearing – some basic facts

The Australian reports:

THE vast majority of property investors taking advantage of negative gearing are “mum and dads” earning less than $80,000 a year, countering the long-held view that the property investment measure was a tax lurk for the rich.

That is consistent with some analysis I did a few years ago, but didn’t get around to writing up. Looking at ATO statistics for the financial year 2008-09 I calculated who was benefiting from negative gearing.

The graph shows cumulative share of taxpayers declaring net rent income (both the number and the dollar amount).

Negative gearing 1

Eighty per cent of taxpayers declaring net rent as income earn less than $80,000. While 80% of the dollar figure for net rent is earned by taxpayers earning less than $100,000.

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19 Responses to Negative gearing – some basic facts

  1. Driftforge says:

    At some scale, does negative gearing beneficially move to a corporate structure?

  2. Andrew Worthington says:

    Yes, negative gearing is of most benefit with higher marginal tax rates and leverage, so a good tax lurk the richer you are. Whether the “mum and dads” earning less than $80,000 a year should be negative gearing at all is another question, and a function of snake-oil salesmen, such that it may be potentially welfare improving to deny it to those on low incomes.

  3. Sinclair Davidson says:

    … and yet higher income earners make less use of that particular “tax lurk”.

  4. Gavin R Putland says:

    To qualify for this “investment measure”, you don’t need to produce a new asset. You only need to acquire an existing one. Acquisition of an existing asset is part of gross investment, but not net investment; it is investment on the micro scale, but not the macro scale. To defend the present negative-gearing rules as an incentive for “investment” therefore involves the fallacy of composition, which is the mirror-image of the broken-window fallacy, which libertarians are supposed to detest above all others.

    Meanwhile, casual workers on minimum wages can’t deduct the costs of getting to work, no matter how much of their wages are eaten up by those costs.

  5. Sinclair Davidson says:

    Gavin – so secondary markets don’t matter?

  6. Driftforge says:

    … and yet higher income earners make less use of that particular “tax lurk”.

    Certainly making less use of it directly as an income tax deduction, which I why I queried what alternate arrangements might be established to achieve the same benefit.

    Ultimately negatively gearing provides subsidized interest rates for property owners who rent out their property.

    Whether that is a good thing is in the eye of the populace. By spreading the love to a large enough proportion of the population, you can get support for it whether it is a community benefit or not, because democracy works like that.

    It’s not nearly as a big a subsidy as freehold land is.

  7. Dave says:

    This reminds me of the debate in 1990 over Capital Gains Tax. Andrew Peacock, then opposition leader, had intended to abolish it. Keating scoffed at the idea, claiming that less than 1% of people paid CGT and implied that it was only rich people that paid it. Peacock countered that with statistics from the ATO showing that of that 1%, 80% of those earnt under $30,000 per year (probably the average wage back then).

  8. Bruce says:

    I daresay a fair proportion of these lowish income negative gearers are or hope to become self funded retirees which qualifies them as prime targets for Abbott and his fat-fuck Treasurer.

  9. Dave says:

    Gavin – by purchasing a property as an investment you are adding to the supply of rental housing stock, as this property would, arguably, be owner-occupied and thus otherwise unavailable for rent.

    It is also a valid argument to say that NG effectively reduces rental costs: if your cost of owning and operating that property is lower (due to the tax concession) then you need a lower rental amount to cover those costs and deliver a certain level of return on investment. I would venture to suggest that the cost of NG is substantially lower than the cost of the additional public housing that would be required if rents skyrocketed due to the removal of NG.

    The cost of getting to work is universal – everyone has that cost. They have the choice – actually, the responsibility – to choose the most cost-effective method for them. If we subsidised that cost, there would be less incentive to do that. In essence it could be argued that we are in fact subsidising home-to-work travel by having lower taxation than would be required if everyone could claim it as a deduction.

  10. Major Elvis Newton says:

    Those tireless bipartisan (LOL) class warriors ‘economists’ Stephen Koukoulas and Peter Martin would bang on endlessly about the rich dominating the negative gearing tax lurk.

    Turns out they were wrong.

    Now the facts are out, their strident virulence and cocksureness of their own truth makes them both look incompetent and foolish. Sadly they were not Robinson Crusoe.

  11. Peewhit says:

    The fact that negative gearing on residential tenancies was removed by Paul Keating, and re-instated, from memory about 6 months later never seems to be mentioned. I do wonder why this, and the reasons for re-instating the tax deduction, is not detailed at least somewhere in the discussion.

  12. Rococo Liberal says:

    this “investment measure”, ..

    Gavin

    There is no ‘measure.’

    Let me make this simple: the deduction for interest on loans is a deduction that is claimed under sec 8-1 of ITAA, 1997. This is the general deduction provision. It applies to all sorts of expenses and losses. It applies to interest on assest that are positively geared just as much as it does to assets which are negatively geared.

    A lot of the heat in the negative gearing debate seems to stem from the idea shared by many a foolish lefty that the deduction in question (if they even know it is all about a tax deduction) is a pecial provision in the Act that a conservitive government put in place to favour its wealthy mates.

  13. Gavin R Putland says:

    Sinclair wrote:

    … and yet higher income earners make less use of that particular “tax lurk”.

    In terms of absolute numbers, yes. In terms of percentages of taxpayers, no.

    At the same location it is stated (although I haven’t found the source) that the “income” in question is not gross income, but taxable income as reduced by, e.g., negative gearing. No matter how high your gross income is, you can reduce your taxable income as low as you like by buying enough negatively geared properties.

    Gavin – so secondary markets don’t matter?

    Not as much as primary markets. Secondary sellers do not necessarily convert into primary buyers of the same asset class. They can shop or invest elsewhere. And their decisions are influenced by tax concessions.

    Dave wrote:

    Gavin – by purchasing a property as an investment you are adding to the supply of rental housing stock, as this property would, arguably, be owner-occupied and thus otherwise unavailable for rent.

    And the owner-occupier would “arguably” have been removed from the rental market, thus reducing the demand for rental property.

    Due to arbitrage between buying and renting, the “supply” that matters is the overall supply, not just the supply to let. This arbitrage does not require everyone to have a choice between buying and renting; it only requires a marginal cohort.

    It is also a valid argument to say that NG effectively reduces rental costs: if your cost of owning and operating that property is lower (due to the tax concession) then you need a lower rental amount to cover those costs and deliver a certain level of return on investment.

    Yeah, right. That’s why rents fall every time the RBA cuts interest rates. Tenants must have forgotten all those rent reductions in 2008-9. Ungrateful sods.

    But if you are suggesting that negative gearing of new housing reduces production costs and therefore increases supply, you have a point.

    The cost of getting to work is universal – everyone has that cost. They have the choice – actually, the responsibility – to choose the most cost-effective method for them.

    The cost of buying stock is universal – all retailers have that cost. They have the choice – actually, the responsibility – to choose the most cost-effective method for them. Therefore the cost of stock should not be deductible against sales for the purposes of income tax – or GST, for that matter.

    If we subsidised that cost, there would be less incentive to do that.

    Since when has a tax deduction been called a subsidy around here?

    In essence it could be argued that we are in fact subsidising home-to-work travel by having lower taxation than would be required if everyone could claim it as a deduction.

    So not only is a tax deduction a subsidy; the denial of a tax deduction is also a subsidy. That takes the cake.

  14. Gavin R Putland says:

    Peewhit wrote:

    The fact that negative gearing on residential tenancies was removed by Paul Keating, and re-instated, from memory about 6 months later never seems to be mentioned.

    On the contrary, it is repeatedly pointed out that if you plot the year-on-year change in real or nominal rent over time, there is nothing special about the period (2 years, not 6 months) during which negative gearing was quarantined. Sure, rents increased during that period, but they also increased – often faster – before and after that period. And while the policy during that period was uniform, the increase in rents was not – in some places, rents even fell.

    And the quarantining was not limited to established homes as suggested nowadays.

    Rococo Liberal wrote:

    A lot of the heat in the negative gearing debate seems to stem from the idea shared by many a foolish lefty…

    I can’t speak for lefties, but I am well aware that the non-quarantining of property losses is a result of legislative omission rather than commission. The same cannot be said for the restrictions on deductibility of small-business losses and work-related travel costs. Thus the landowning class is “entitled” to the benefit of legislative neglect, while the capitalist and labouring classes are not.

  15. Dave says:

    Gavin R Putland wrote:

    The cost of buying stock is universal – all retailers have that cost. They have the choice – actually, the responsibility – to choose the most cost-effective method for them. Therefore the cost of stock should not be deductible against sales for the purposes of income tax – or GST, for that matter.

    The most obvious problem with that argument – and I’ll only deal with that one – is that our taxation system is, as it should be, based on the concept of profit, not on revenue. If we taxed a business on revenue we would, as a minimum, disincentivise business growth.

  16. Gavin R Putland says:

    Well, Dave, if you think the denial of a tax deduction for home-to-work travel is a subsidy for home-to-work travel, it’s not surprising that you can’t recognize a reductio ad absurdum when you see one.

  17. Squirrel says:

    Interesting, but the lurk is reportedly still popular with all those low-paid politicians and economic bureaucrats – and wasn’t it the low-paid pilots who went into meltdown when Hawke and Keating made some changes to negative gearing in the 80s?

    Anyway, I must admire the cunning and persistence of the defenders who are running the diversionary tactic of pushing for abolition of stamp duties – which would, of course, do wonders for affordability (particularly in conjunction with the consequent skyrocketing of annual rates and land taxes) in tight markets…….

  18. Robert Frances says:

    A couple of observations from a long time tax accountant:

    1) I question whether the chart above is capturing all of the tax returns benefiting from negative gearing (called “depreciation” here in the US). Many investors use partnerships and other legal entities for their rental property investments. They often report only a “net loss” or “net income” on their personal tax return, without showing the various components of gross rent income, interest deductions, negative gearing, et. al. I once saw a tax return where someone reported a $30,000 loss from a real estate partnership. When I looked at the underlying partnership tax return, I saw $1,100,000 of rent income offset by $1,200,000 of interest deductions, negative gearing and other typical expenses. The taxpayer owned 30% of the partnership so they reported $30,000 of the overall net $100,000 loss. If someone had reviewed their tax return they would have missed the underlying interest and negative gearing deductions that were driving the net reported loss.

    2) Rent prices are not based on costs, just as selling prices for goods and services are not always based on costs. Rents are based on the income of nearby residents, along with overall supply and demand factors in the local area. If interest and negative gearing write-offs were eliminated, rents wouldn’t go up or down, necessarily, since a landlord sets a rent price based on what the local population will pay. If these tax deductions were eliminated, and if higher taxes were imposed on rent income, some landlords would get out of the landlord business, which would make housing more affordable, but could slightly impact rents if more houses were no longer rented out.

    3) I suspect Australia has some of the same economic issues as the US. For the lower 2/3 of the population, they are paying close to 30-40% of income for rent (or an equivalent housing payment to a bank to purchase a house) and they are paying another 35-45% in total taxes, when all of the various taxes are aggregated, including the taxes passed along by businesses in the cost of their products and services. The real economy (“Main Street economy”) will never be healthy and growing until rents, housing prices and taxes are reduced on lower income families and replaced with higher taxes on the largest incomes from interest, rent, dividend and capital gain income. Since many governments tend to greatly favor the property class over the working, tenant class, these changes may not come about easily.

    4) There is no economic justification for interest and negative gearing write-offs for property investors other than to increase their net worth vis a vis everyone else.

    PS – Sorry for the block text – I couldn’t figure out how to add paragraphs using hypertext.

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