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What is negative gearing, and how does it work? Negative gearing explained

Gold toy house on seesaw with coins, representing choice to negatively gear an investment property.

If your investment property is negatively geared, it costs you more money to maintain than it makes. Essentially, you're returning a loss.

On the other hand, a positively geared investment property (also called a positive cash flow) returns enough rental income and other cash streams cover or exceed your investment costs.

Negative gearing sounds like the opposite of what you want your investment property to do. After all, rental income is one of the main perks of becoming a landlord (besides all your landlord tax benefits). How else do you cover your mortgage repayments?

In fact, negative gearing could have some tax benefits of its own.

Let's dive in. 

How negative gearing works

Houses with down arrow: how negative gearing works

Negative gearing an investment property is a popular tax strategy for high-income earners looking to pay less tax while having a valuable asset in their portfolio.

Basically, investors use their negatively geared property to lower their taxable income for the year, giving them a larger tax return for the tax year.

To do this, an investor claims eligible investments expenses and losses against their income, such as interest on their mortgage repayments. At the same time, they grow equity in the property by paying down their investment home loan. 

Equity can be a major source of wealth, since it's the value of their ownership stake in the property. An investor can then use equity to fund other projects, like a second investment property.

However, negative gearing is still a bit of gamble for the property investor. They want to lose money on expenses, and not the value of the property itself.

The main risks of negative gearing are:

  • Selling the property for less than what they paid for it (capital loss).
  • Selling the property for less than their home loan and investment expenses.
  • Paying high capital gains tax.
  • Not having enough income to absorb high expenses or out-of-pocket costs, especially if interest rate hikes on their investment mortgage. 

What can I claim on my investment property?

Property investor thinking of expenses he can claim on his investment properties

The Australian Tax Office (ATO) has listed a large variety of eligible rental expenses property investors could claim on their tax return.

Note: always consult a tax professional on what to claim when filing your tax return.

Eligible investments expenses to claim on your taxes may include:

  • Interest on your home loan. Investors can claim interest payments made towards their mortgage. They cannot claim their principal payments.
  • Repairs and maintenance. Investors can claims maintenance costs, such as repairs, for their investment property.
  • Depreciation on new properties. Investors purchases a new build can claim depreciation costs for the first 10 years after the property is built. This will need to be verified with a property valuation.
  • Travel expenses. Investors who need to travel to visit their investment property (for example, flying from Melbourne to Brisbane) could claim the travel expenses, such as return flights.
  • Council rates and strata fees. Ongoing fees like council rates or strata may also count towards investment deductions. 

Negatively geared properties in Australia

Australian capital cities and CBDs are popular property markets for negatively geared properties, since they tend to rise in value dramatically over short periods of time.

Investment properties in more affordable areas, like regional Australia or outer suburbs, instead tend to rely on rental income to make a net profit. 

Having so many negatively geared properties in one location, however, can be a problem. It can create housing bubbles and limit rental stock, which hurts housing affordability in the area.

Ironically, this housing bubble can also hurt the property investor. If people cannot afford to buy properties in a certain suburb because it has too many negatively geared property, buyer and rental demand will drop, thus lowering property prices and eating into capital growth.

Since capital growth is the main draw of negative gearing, this can make the asset a genuine financial risk.

Why is negative gearing bad?

House icon with money: why negative gearing is bad

A lot has to go right for negative gearing to work as a financial strategy, which means a lot can go wrong, too. For example, to successfully negatively gear a property, an investor has to:

  • Cover their financial losses until tax time. 
  • Afford ongoing expenses such as repairs, council rates, land tax, and strata levies. 
  • Budget for unexpected items like major damage or interest rate hikes.
  • Make principal payments on their mortgage, unless they have an interest-only home loan.
  • Buy in an area with relatively stable capital growth.

There's also housing affordability implications for the suburb. Purchasing properties just to negatively gear them can hurt the local rental market, drive up prices for first home buyers, and create housing bubbles. 

Before purchasing an investment property to negatively gear, get professional financial advice.

More FAQs about negative gearing

Is it better to positively or negatively gear your property?

It depends. If you positively gear your property, the profit from revenue streams like rental income can offset the money you sink in.

If you negatively gear your property, you lose out on profit in the short term but could enjoy bigger tax returns in the long run, as well as take advantage of capital growth when it's time to sell. 

Why is negative gearing controversial?

Negative gearing can be a controversial issue because of its implications about housing affordability. Negatively geared properties are often vacant, meaning they aren't contributing a space to live for the rental market. This shrinks supply and drives up rents for tenants.

Negative gearing is also a common investment strategy among high-income earners, meaning they're not buying the property to live in it or rent it out, but as a tax write-off. 

Is negative gearing on interest or principal?

When filing your tax return, you can only claim investment home loan interest, not the principal. Therefore, the "sunk costs" that give negative gearing its main tax benefits are interest repayments. 

Does negative gearing reduce taxable income?

Yes: negative gearing can lower your taxable income for the year. This is because you're claiming high losses on expenses without making a profit. 

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Evlin DuBose
Evlin DuBose
RG146
Senior Money Writer

Evlin, RG146 Generic Knowledge certified and a UTS Communications graduate, is a leading voice in finance news. As Mozo's go-to writer for RBA and interest rates, her work regularly features in Google's Top Stories and major publications like News.com.au.

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