4. Adaptability

Negative Gearing

Briefly, an investment is said to be negatively geared when the income it generates is less than the borrowing costs and outgoings.

For example, if you take out an investment loan to purchase a rental property, and the interest on the loan (together with the associated costs) is greater than the gross rental income you receive from it - in other words, you make a loss - then the property is said to be "negatively geared".

Usually, such a "loss" can be used to offset your tax liability from other sources, such as income derived from salary, wages, a business operation, and income you may have made from other investments.

To illustrate the point, let's look at a hypothetical situation. We'll assume you have a taxable salary for the year of $55,000. For the purposes of the illustration, we'll also assume that in addition to your salary you receive an extra $8,000 in rental income from an investment property, bringing your taxable income to a total of $63,000. However, to purchase your investment property, you have taken out a Suncorp loan of $120,000 at 7% p.a. interest.

In this situation, your taxable income at the end of the first year may be calculated as follows:

Basic illustration only. This does not include other income items such as interest or other deductions which are dependent upon individual circumstances. Subject to current tax laws.

From this example, you can see, that while investing in a rental property which could make capital gains for you in the medium to long term, you have reduced your annual taxable income by $2,400.

It should be noted however, that when you eventually sell your investment property, there may be a capital gains tax liability if you make a profit on the sale, or a capital loss (able to be carried forward and / or offset against other capital gains that you may make) if the sale proceeds are less than the purchase costs. The amount of any capital gains tax payable may be subject to a 50% discount for individual investors.

A word of caution

You should never make an investment simply because of the seemingly attractive taxation benefits to be gained through negative gearing. Your investment should ideally offer positive benefits and the opportunity to gain in its own right.

Although the concept of negative gearing may appeal to some investors, it is wise to take into account the support that is required from your existing income and not to rely totally on the expected cash flow from the property itself. You should also seek advice from your accountant or other professional adviser on the taxation and financial implications as any benefits will depend on your personal circumstances.