"An economy that is pumping its own housing up" ............ yep

But property prices double every 10 years, and you get to claim your loses every year against your tax. A mate did it 10 years ago and he did real good, how could you possibly loose. Went to one of those seminars and the speaker really knew his stuff, you can be comfortably retired by 40.

I currently don't and won't invest in property

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airsail said..
But property prices double every 10 years, and you get to claim your loses every year against your tax. A mate did it 10 years ago and he did real good, how could you possibly loose. Went to one of those seminars and the speaker really knew his stuff, you can be comfortably retired by 40.

I currently don't and won't invest in property

Yeah, those property spruikers talk about the last decade and a half as if its always the case.

Personally, I think its everyone's desire to get rich quick that keeps the train rolling along. If you get a house where the mortgage costs twice as much as the rental return, how long can you keep that loss making business going?

If interest rates go up to 8%, how long can these investors service a mortgage that it now 4 times as much as the rental returns?

I think we are coming to the point where people are finding that there are less and less people willing to buy at this price.

It seems the best strategy in this last boom was not to invest in housing, it was to buy a place, wait 12 months for the CGT discount, sell it, and keep doing it. In a rising market, that's all you needed to do.

One curious thing that I think we are seeing is that areas that are not normally high demand areas are seeing price increases. This is because investors are finding the bigger cities too expensive and then reaching out to other areas. The speculation of those areas then pushes up the prices, and then that area becomes 'the next growth area', so more investors clamber in.

For existing property, this is not really creating much extra for the economy.

One thing that I am seeing myself right now, is that the huge number of apartments that are becoming available in Sydney has now started pushing down the price of houses. It seems a lot of people are quite happy to live in apartments if there is a big difference in rent prices.

As far as an investment to make rental returns, there is nothing in it. If you want the quick speculative windfall, then it was a good time.

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Paddles B'mere said..
Hey evlpanda, the trick is to get rid of that part of your income...

It's an odd idea this, and it is so commonly believed. "You'll save so much money on tax!"

Why would you want to get rid of any of your income? You're only tricking yourself, out of your own money.

It's unbelievable the genuinely intelligent people that try to convince me of this. As someone illustrated on the previous page why not just reduce your rent, or your own salary? It's exactly the same. (that seems to make it clear).

Negative gearing reduces your loss. This is not a profit.

You can't make more money by making less. Of course.

To be fair a lot of property investors only make a loss until the rental returns go up enough to cover the mortage, and rates and mgmt. and on and on. Then, after a few years, it'll cover itself and generate a return each month.

Also, Sydney is a terrible place for returns. 0.8% on some places, says my own landlord. He makes a positive return 3 quarters and the 4th is a loss. No mortgage! The b/c fees are that high.

BTW. Can still get positively or almost positively geared property on Gold Coast. 1brm brick walk-ups. I'm spruiking them as an owner.

Hey evlpanda, the margin is very real, but it's exactly as you say and not without risk because the long game with negative gearing relies on the capital gain covering all the net losses plus tax. Personally, we won't do it, but there's investors who will invest purely to make sure their losses will reduce their taxable income enough to get it into the next bracket down because of the marginal gain of the difference between the two tax rates in the long run. They can also do it with voluntary super contributions.

There's also the gain from arbitraging the tax rate. Deductions today at your top marginal tax rate during the years in which you are earning your highest income. A one-off capital gain on your sale of the property in a year when your income is much lower (i.e. You've retired) and a 50% capital gains tax reduction on it, too.

So, build the investment at your top tax rate. Realise the capital return at half your tax rate.

Which all means, even if the CAGR on the property value is only as much as the costs of the investment (interest, running costs, etc.) then you're still ahead purely on the differential tax rates.

Of course, investors are hoping the capital gain will be much higher than the cost but you're not starting from a zero position even if that doesn't happen.

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Paddles B'mere said..
Hey evlpanda, the margin is very real, but it's exactly as you say and not without risk because the long game with negative gearing relies on the capital gain covering all the net losses plus tax.

Capital gain doesn't need to cover tax, because there isn't any tax without capital gain.

Agreed, people do it in the hope that profit from capital gains will outweigh the losses through negative gearing.

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Personally, we won't do it, but there's investors who will invest purely to make sure their losses will reduce their taxable income enough to get it into the next bracket down because of the marginal gain of the difference between the two tax rates in the long run. They can also do it with voluntary super contributions.

What does "marginal gain of the different between the two tax rates in the long run" mean?

I don't mean to come off as aggressive, this is just a pet peeve of mine

For illustrative purposes imagine there's a tax bracket at $50k of 50%. Below that is 30%. Let's say below 20K is 0%.

brackets are approximately:

0 - 20 = 0%
20 - 50 = 30%
50+ = 50%

Say Joe earns $55k, and loses $10k through negative gearing, pushing him down into the lower tax bracket.
Previously he paid (9K + 2.5K) 11.5K in tax, pocketing 43.5K.
Now he pays 7.5K in tax, saving $4K in tax, but only pocketing 37.5K
His pocket is 6K short. Each year.

There's no marginal gain, at all. Unsurprisingly Joe made less by negative gearing. Year after year.

Come time to sell the property Joe will be able to still deduct that 10K from his annual income, if he sells it in June, and that will come off the sum of his salary + (capital gains * 50% because CGT discount).

Let's say he made a cool $100K capital gains after 3 years, and sells. In June.

55K + (100K * 50%) - 10K = 95K taxable income
= 9K + 22.5K = 31.5K in tax
= 63.5K for the year
- 3 * 6K = - 18K = 45.5K profit for Joe and his real estate endeavour, overall.

If Joe didn't negative gear at all, say it breaks even, then:

55K + (100K * 50%) - 10K = 95K taxable income
= 9K + 22.5K = 31.5K in tax
= 63.5K for the year
= 63.5K profit for Joe and his real estate endeavour, overall.

Not surprisingly an 18K difference, what Joe lost in negative gearing over 3 years.

Now, perhaps that negative gearing enabled Joe to afford this endeavour. That's understandable. But it's not something to aim for. Negetive gearing is a "less bad" situation, never a "good situation". Never. Ever.

It's honestly as simple as "a loss is a loss is a loss".

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evlPanda said..

Now, perhaps that negative gearing enabled Joe to afford this endeavour. That's understandable. But it's not something to aim for. Negetive gearing is a "less bad" situation, never a "good situation". Never. Ever.

It's honestly as simple as "a loss is a loss is a loss".

Of course, the enabling bit is the most important bit. If people couldn't write off any of the cost of holding the property, speculation wouldn't have been anywhere near as common.

It still annoys me that in a lot of cases, this is an existing asset that is increasing in price and doing nothing for the supply of housing. I guess now, we are seeing the supply increasing and the subsequent drop in value.

Hi evlpanda, not taking it as aggressive at all, you're trying to figure out how it works.

First up, if you negative gear your operating losses you MUST get a capital gain to cover those operating losses so then you also have to pay tax on that gain.

A person has a taxable income of $200,000 per year. Their tax payable is $54,232 plus $20,000 x 0.45 which gives total tax payable of $63,232 for the year. If they make an investment that has a net operating cost (loss) of $20,000 then their taxable income is $180,000. Tax payable on $180,000 will be $54,232 which is a $9000 saving. The net operating cost (loss) of the investment is now $11,000 per year ($20,000 less $9000).

For the numbers above, at the end of the term of the investment, the investment is disposed of and it must make a profit that is greater than $11,000 times the number of years of the investment plus the tax payable on the capital gain.The concept suits highly geared (maxed out borrowing) real estate because the interest expense and other operating expenses are not covered by the rent income, so it operates at a net loss. You then must hope that you can sell the real estate at a high enough price to cover the losses plus CGT.

It suits high income earners, because if they are in the 45c in the dollar tax bracket, every dollar they can negative gear as an investment operating loss only actually costs them 55c. The MARGIN is the difference between the two tax rates of adjacent tax brackets. The MARGIN in economics is "what is the additional cost if I buy one more?". In this case it is "what is my additional tax benefit if I have one more dollar of loss?) If their negatively geared loss slides them into the $87k to $180k tax bracket, they will now only get back 37c for every dollar of loss below $180k and the tax offset on the loss is less so it is not as desirable. (ie every dollar of negatively geared loss actually costs 63c now instead of 55c which is 8c per dollar more)

The motivation for a high income earner is to just drop their taxable income into a lower tax bracket to get maximum benefit out of the negative gearing against the higher tax rate and hope like hell that they can flog off the investment for more than it all costs.Some numbers:A $500k investment loan at 8% will cost you $40k per year. Let's assume for argument's sake that this $40k is the net cost and the rent earned covers depreciation, maintenance, insurance and other costs. If you earn enough for this $40k to all be in the top tax bracket then this loss is worth $18k in tax saving, or to put it another way your money is now costing you 4.4% instead of 8% ((1-0.45) x 8%).

My take on the new tax brackets is that the margin from 32.5c to 45c in the dollar is huge so there's big incentive for guys who have a taxable income greater than $200k to get their income down below $200k using whatever means necessary. If you earn less than $200k then it's all the one tax rate down to $40k, so sure you can negative gear your operating losses but it's at a much lower rate now. I reckon the new tax brackets benefit everyone who just pays income tax, but for people who earn less than $200k and either negative gear or make voluntary contributions to super to derive a tax benefit, the benefits aren't as good. High income earners over $200k will both get a tax cut courtesy of the middle bracket rate dropping and still be motivated to negative gear their investments at 45c in the dollar to get their incomes below $200k.

The prize is a big fat capital gain at the end, where the capital gains tax is discounted 50%.

Negative gearing encourages you to leverage more than you might otherwise do, thus enabling a fatter prize at the end.

I dispute the idea you want to use negative gearing to get to the next tax bracket. If you are a surgeon earning 400K, you surely don't want to be making a 220K operating loss. You wouldn't be able to send your 3 kids to those exclusive private schools costing you 100K a year.

You get the most "benefit" from negative gearing in the higher tax bracket. But... if you can afford it, 32.5c in the dollar is still a benefit. If your surname is Packer, Murdoch or Rhineheart, for example, you probably have arrangements in place to "lose" millions of dollars a year.

If there is no prize at the end, this all looks very stupid, regardless of how smart you were with your tax arrangements.

Yep, you've got it in one nnnbrewery "Negative gearing encourages you to leverage more than you might otherwise do, thus enabling a fatter prize at the end" and "If there is no prize at the end, this all looks very stupid, regardless of how smart you were with your tax arrangements" sums it up nicely.

The real issue will show it's head within a couple of tax years for people who earn less than $200k and already have a negatively geared investment. They will now get a smaller tax return, and if it impacts on their lifestyle enough they will look at dumping their investment. Or if they're looking far enough ahead (and not many do) they may even crunch the numbers and forecast that the capital gain they need to cover their losses plus tax is unattainable or very risky and they will look at dumping their investment.

All these "bad thoughts" of dumping investments affects the market, and in particular the perception of the future market value so this "feedback" closes the loop and makes people even more likely to dump their investments because they get suss on future market values. So the RBA may not even have to raise the cash rate to potentially burst a housing bubble, ScoMo could potentially do it for them.

If you don't have at least a 15-year investment horizon you shouldn't be looking at property as the investment vehicle.

^^^ correct, ideally followed by you moving into it as your retirement home. You might choose to play the short game and get lucky, ie buy new homes in a new estate and flip it as soon as the fittings are depreciated (maximum operating costs are finished) hoping that it turns into a desirable estate and not a slum so prices go through the roof, but like always, with reward comes risk, and risk must be compensated

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Cambodge said..
If you don't have at least a 15-year investment horizon you shouldn't be looking at property as the investment vehicle.

Same principles apply whether its 1 year, 5, or 15. 15 years just gives you time to ride out cyclical falls (and rises). Can you guarantee the next 15 years will look the same as the last 15? If there is ever a future government that is serious about "housing affordability", things might just change very dramatically. Frankly, I doubt that any time soon... they would never get voted in.

If, at the end of 15 years, you look back at the life of your property investment, and see the profit is significantly lower than had you invested in some other mainstream investment choice, you might look back on it as a bad choice.

The thing that is going to bring it all crashing down is the crackdown on interest only loans.
Most, if not all, the banks have between 30 and 50 percent of their loans as interest only and they have to switch them to principle and interest after 5 years. They aren't allowed to extend the interest only period.
We recently had our investment loan go up by $600 a month on $200k. We were lucky to at least get 10 years out of it.
Imagine all those investors out there who have bought during the boom for big money or have multiple properties, coming off their interest only periods at the same time! It's going to be carnage.

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FormulaNova said.....What a mess. An economy that is pumping its own housing up.

Yep. The madness has to stop - but the brakes need to be applied slowly.

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stoff said..
Most, if not all, the banks have between 30 and 50 percent of their loans as interest only and they have to switch them to principle and interest after 5 years. They aren't allowed to extend the interest only period.

Presumably you just roll over into a new interest-only loan at the end of the interest-free period. And just continue doing that until you sell the property many years in the future.

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Cambodge said..

stoff said..
Most, if not all, the banks have between 30 and 50 percent of their loans as interest only and they have to switch them to principle and interest after 5 years. They aren't allowed to extend the interest only period.

Presumably you just roll over into a new interest-only loan at the end of the interest-free period. And just continue doing that until you sell the property many years in the future.

They used to allow this, but I think government rules to try and limit interest only loans is changing the behaviour. At the very least they are charging a higher interest rate.

I read/heard some time ago that you should never deduct company office rent against a property you own to avoid a CGT in the event of a sale.
Has anyone studied the benefit/detriment of purchasing property via a proprietary limited company?
Say company X buys a property without a mortgage, then rents it out to tenant Y for $1 a week?
What about if company X buys part of a property with an individual both with a mortgage?
What if the company buys a property and then sells it for a loss, or $1?
I can only see the detriment being no 50% CGT if sold after 12 months... assuming the above is all legal.

Found this when cleaning out a draw, was given it when we applied for a home loan some time ago. Presently unusable with current interest rates, but maybe soon.

Ouch, I was a teenager in the 80's and remember getting 15% interest on my savings account, 16% if I didn't take any cash out that month

The wording on two of the new build properties we are monitoring changed today. They sound pretty desperate now, so my wife phoned up and the agent said that the two properties are with the receivers and they don't know if they are allowed to show them. Asked us to fill in our details and they will let us know.

As per the Core Logic spokesman on ABC's Inside Business last night, prices are heading lower this year and next.

I'm not sure I understand your question though FlySurfer, a company and an individual are two completely different legal entities. I'm pretty sure that you'll find the company has to rent it out at the fair market value, not $1.

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Paddles B'mere said..
I'm not sure I understand your question though FlySurfer, a company and an individual are two completely different legal entities. I'm pretty sure that you'll find the company has to rent it out at the fair market value, not $1.

The company can rent it out for any amount they like. But the ATO will demand that company income tax is calculated on an assumed market value so the company can't make artificial losses.

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Paddles B'mere said..
Ouch, I was a teenager in the 80's and remember getting 15% interest on my savings account, 16% if I didn't take any cash out that month

Low unemployment, tax cuts, reduction in government spending. Even more so in the U.S.
Interest rates are more likely to go up than down *. Even more so in the U.S.

And everyone is leveraged to the hilt. Record levels. Again.

I've moved 65% of my super into "cash".

It won't happen overnight, but it will happen.

* I get a weekly email with a table for home loan rates. They appear to have gone down a little just recently.

It's a razor edge, I'd hate to be the governor of the RBA, everything you do could end in trouble. You want to promote investment but you want to slow down the mum and dad investors. If you put the cash rate up it signals a lack of confidence which not only devalues existing investments but also makes their cost increase, if you don't put the cash rate up more people borrow more money than can afford to service if/when the rates go up.

^ I think the RBA are off the hook, due to:

1. Significant tightening of lending conditions (APRA intervention then Royal Commission)

2. Interest only investment loans resetting to P&I

3. US bond yield curve --- our mortgage rates are going up regardless of the cash rate, because aussie bank cost of borrowing is going up.

If you are serious about reducing housing costs, negative gearing has to go. The logic is very simple. If you are getting half of your ongoing interest paid back to you, then for a certain future capital gain, you can afford to pay more the property up front, thus pushing up property prices.

It's a tough one to call I reckon. The government strategy from back in the day was to make housing purchases attractive to investors with negative gearing and to make new houses even more attractive with the depreciation of a new fitout. They hoped that all this buying would increase supply and the suppliers would simply make more houses for the market so everyone had a home (whether they owned it or rented it). Low interest rates for local investors, ease of access for foreign investors and first home buyer schemes have propped up pricing and created an artificially inflated market value that hasn't achieved what it set out to do in the first place. The government are locked in now, anything they or the RBA do could trigger a collapse and we will have our very own financial crisis so whatever they do needs to be softly softly. It's hard not to argue that less investors/buyers would drop the market values, but how do you do it without adversely affecting thousands of people? Maybe you're right Harrow, dump negative gearing and also dump CGT.