On Negative Gearing

5

Kenny Liew

Like most slogans from social justice warriors today, the call for the abolition of negative gearing is designed to virtue signal rather than to actually consider the practicality and consequences of such a proposal. It is a catchphrase which decides whether one is compassionate or a greedy, evil capitalist. However, a more sustained look at the issue of negative gearing counters the prevailing media narrative.

Negative gearing refers to the deduction of interest expenses on money borrowed (geared), in the purchase of an investment property, from the taxable income of the investor, in particular when the interest expense exceeds rental income (negative). There is nothing contentious about this. It is settled in taxation law that income is taxable, and the expenses earned in assessing that income are deductible from that income. Negative gearing has been part of the tax code since there was a federal tax code in the 1930’s. Therefore, it is false to claim that negative gearing is a cause of housing un-affordability over the last thirty years. If indeed negative gearing is the scapegoat then one would also have to blame the original Income Tax Assessment Act 1936 that harmonised a federal income tax for the first time in Australian history. It is common sense that taxation causes housing un-affordability by decreasing disposable income.

From http://www.factsfightback.org.au/does-negative-gearing-keep-rent-prices-low-check-the-facts/

In fact, all that happened thirty years ago in July 1985, was that the Hawke/Keating government experimented with abolishing negative gearing in order to increase tax revenues to support the burgeoning federal deficit. This was short-lived and the legitimate deduction was quietly returned in September 1987 after rental prices rose. This is unsurprising because renters form the other side of the transaction with investors. An attack on investors, once you follow through the logical and empirical evidence, is an attack on renters. When investors leave the property market, there will be less construction of new homes and less conversion of owner-occupied housing stock to the rental market. As Bob Hawke puts it in a post-budget dinner on 16 September 1987, the ‘restoration of negative gearing, and retention of a still generous depreciation allowance should combine to provide a powerful boost to the supply of rental accommodation, thus pushing rents down in real terms over time.’

One counter argument is that the rental feedback is over-exaggerated. Saul Erlslake claims that rents increased only in Sydney and Perth due to a lack of vacancy in those cities. However, all that argument is saying is the uncontroversial fact that there are many factors affecting rent. This does not undermine the logic nor do away with the empirical evidence from Sydney and Perth. In fact, one could say that once you control for vacancy, as in the case of Sydney and Perth, the abolishment of negative gearing will lead to an increase in rental prices.

Since renters are often the young, single mothers, the poor; the abolishment of negative gearing merely transfers the burden of housing from richer home-buyers, who have a significant cash deposit and an income worthy of a mortgage; to renters, who do not. The problem of affordability does not go away. It merely shifts to a silent and poor minority who are unable to save the difference in order to move up the ladder of opportunity.

From http://www.abc.net.au/news/2016-04-26/janda-morrison-on-negative-gearing/7359626

Not only does abolishment transfer wealth from the poor to the middle class, it transfers wealth from the middle class to the rich. For negative gearing only applies to small time investors in their first foray into a large investment as they try, in the short term, to build a tax-effective asset to save more of their income from personal exertion; and after paying off the investment mortgage, are looking long term at building a more financially independent life. Sinclair Davidson observes that the median Gross Total Income for all Landlords (all income before any business or personal deduction) was $78,618. They are predominantly nurses, teachers and child carers, managers, midwives and aged care workers, emergency service workers and clerical staff.

Meanwhile, the rich do not need negative gearing. The rich do not, relatively, derive their income from personal exertion but rather from multiple passive investments and businesses. They positively gear – no one gets really rich by negatively gearing (aka. making losses) forever. Quarantining income does not affect them as they invest through corporations and trust structures that do not pay the highest marginal tax rates. They have the best professional accountants and lawyers to advise them. Even if the government ‘successfully’ closes all ‘loopholes’, such investors simply move to other investments (say, the share market) or offshore (with further implications on the rental market). Thus, if one is concerned about the Gini coefficient, this is one of the worst proposals to suggest for the middle class will be unable to catch up to the rich.

Rather than playing off the rich against the middle class and then playing the middle class against the poor, we ought to be looking at the real causes of housing un-affordability. Firstly, the crisis is a result of factors beyond our control. Sydney is a city in a basin surround by sea, plateaus and mountain ranges. We are therefore constricted in our supply of land to build houses. This restriction has always been there since settlement but it probably took the baby boomers to finally discover our limits in the 1980’s.

Secondly, this crisis is a result of our own decisions. If we want a city surrounded by nature and pristine forests then this will cost. To the north and south, what land we can build on is covered by the great national parks leaving only specific corridors to build. We could solve this land shortage by building higher and create a Hong Kong style population density but most of us want a backyard. We want to live close to the city. We want bigger houses, air-conditioning and Caesarstone bench tops. We want better transportation and infrastructure to the tune of $20billion. Regrettably, we increasingly choose to live alone. These decisions all cost. And to pay for them we have to do what previous generation did – a combination of patience, increasing your income (e.g. by getting a good job), decreasing your expenses (don’t go on overseas trips and eat a modest breakfast) and being realistic. There are no simple answers here, suffice to say that life is a series of trade-offs that we choose, but at least they are a product of our own choices.

What is less justifiable is when the crisis is also the result of government decisions. As David Leyonhjelm recently pointed out, the NSW state government collects $8billion in stamp duty each year despite promising to abolish it in the advent of the GST back in 2000. To buy a Sydney house at the median price of $850,000, you need an additional $33,000 in stamp duty. Further, instead of releasing land to ‘make residential land available at the lowest price practicable’ as designed to in the 1970’s, the law now requires it to maximise net worth for the State Government. Naturally, Urbangrowth (formerly the Land Commission) which drew in revenues of $658 million, purposefully restricts the release of land in order to drive up the price. All this along with passing development costs to developers and land taxes ($3 billion) further creates a higher cost base that’s passed on to home buyers, investors and renters.

From http://www.abs.gov.au/ausstats/abs@.nsf/Latestproducts/3412.0Main%20Features52014-15?opendocument&tabname=Summary&prodno=3412.0&issue=2014-15&num=&view=

While the State government restricts supply, the Federal government stokes demand by continuing mass immigration even though many Australians are asking for a reprieve from the stresses of increasing congestion, competition and crime. In the last thirty years, we have had unprecedented migration, with most settling in Sydney. This, along with the Federal government’s dependence on foreign investment and the Federal Reserve’s artificially low interest rates create an insatiable demand for real estate.

This housing affordability crisis therefore is in some ways normal because of the nature of the city and because of our own choices. Sydney is expensive to live in because a lot of us want to live here and to a certain style we are accustomed. This is something we all have to tackle individually and together as we consider what sort of a nation, city and family we want to be. The State and Federal government however could help us by not interfering with the supply of land and housing; and not artificially boosting demand through immigration. The media should be aiding this conversation by going through the facts and the pros and cons of various proposals. The demonisation of negative gearing is a distraction from that conversation.

  • OneFatOzGuy

    You’re asking for the media to be rational and present all of the facts and outcomes for both sides of the argument?
    Which country do you live in and how do i get there?

  • Housing = Ponzi scheme. Wash/rinse/repeat……for the muggles.

  • entropy

    “Negative gearing has been part of the tax code since there was a federal tax code in the 1930’s. Therefore, it is false to claim that negative gearing is a cause of housing un-affordability over the last thirty years.”

    Non sequitur.

    Negative gearing is obviously a cause, albeit not the only one. Your claim that it’s not contributory because it’s not the sole factor is bizarre. And you led with that.

    We’ve already heard all these bullshit rationalisations for negative gearing. I don’t think you convinced anyone but I hope you made yourself feel better about ripping off your kids.

    • OneFatOzGuy

      I think what he’s trying to say is that it’s by far not the biggest cause. People think that removing negative gearing and everything will be right with the world, but it will probably just slow things down a little.

      Immigration is a far bigger cause because cities need to keep growing (adding houses) to house the population that is growing. Given that Australia’s birth rate isn’t even at replacement level, then the only reason that capital cities will keep growing is because either people are moving there from country towns or from other countries.

      The system is supposed to find an equilibrium when old people downsize or pass away, but they’re doing neither or, when they do, the house they vacate gets snapped up by a wealthy foreign buyer. That’s great for the old people, because they can walk away with heaps of money to aid in their retirement, but not so great for the young people who were supposed to be able to buy in an area they want to.

      One only has to look at the list of million dollar suburbs, which has grown significantly in the last couple of years, to know that these suburbs are NOT known for their high proportion of investor owned properties.

      A person doesn’t buy a house in Box Hill for $1 million, and get a 1.5% return when that person could buy two houses for $500k each and get a 3-4% return.

      The media is simply trying to keep the red flag of negative gear waving to distract from the high immigration levels that are driving up housing prices faster than negative gearing is.

      The difficulty in buying a house comes from two main factors:

      1. Getting a big enough deposit (not an issue for investors or wealthy foreigners)
      2. Having a big enough salary to allow to borrow 80% (investors have an advantage as this is offset by the rent they’re assumed to receive).

      Once a person has bought a house, it’s a waiting game (or renovation game) to wait until the value of the house and land has appreciated enough to afford the person to sell up and buy a house in a bigger/better area.

      This idea that everyone deserves the perfect house in the perfect location the first time around is a very interesting one, given that suburbs like Box Hill and Doncaster, all now in the million dollar suburb category now, were the outer suburbs of 40 years ago when people bought there (the eastern freeway didn’t even go there at the time!). The infrastructure has been rolled out slowly over 40 years and it’s now seen as very desirable and has the price tag that goes with it.

      Back on topic, an alternative to the full blown total scrapping of negative gearing, is another possibility which is used in the USA, which is allowing people to negatively gear their own home and one investment property. Anything more than that no longer allows negative gearing.

      The problem with that approach is that it promotes speculation on housing price rises and results in people upsizing their house just to get bigger tax deductions on the promise of bigger capital gains.

      No system is perfect, but I do believe that the media is pushing people to look in one direction (negative gearing) so people don’t consider another direction (immigration).

      How do I know this? Because mention immigration as a possible cause of housing price rise on a news forum about negative gearing and see the comment pulled by moderators. One definitely has to consider a point that the media goes out of their way to hide.

      • entropy

        You don’t have to twist my arm to convince me that immigration is one of the biggest drains on housing and other services, but one of the main drivers for immigration is to keep churning property for the benefit of the top heavy baby boomer voting bloc who are pandered to by the weak government and corrupt RBA.

        The author claiming negative gearing has no impact just demonstrates his bias. There are plenty of ways to invest your money without making our housing the least affordable in the world, but they don’t produce the same rivers of gold.

        If nothing else, curbing negative gearing is a no brain short term solution to ease housing affordability, but of course it is rejected out of hand by those who stand to benefit. We’ve heard all the excuses and they just don’t play. If you’re not making a profit on your investment, sell that shit.