When it comes to property investing, you’ll hear a lot of talk about negative gearing versus positive gearing. It’s a very important distinction, but one that many people don’t fully understand. We’re going to break the concepts down and compare them for you, so you can better understand your options when buying property in Australia.
Positively Geared Properties
Positive gearing means you receive more in rental income from your tenants than what you lose to loan repayments, interest, property maintenance, management fees, rates, and so on. These are also known as ‘cash flow properties’ because they are putting additional money in your pockets right now.
So, let’s say you pay $410 a week in total for your property, but you receive $500 a week in rent from your tenants – voila, your property is positively geared to the tune of $90 per week.
Pros and Cons of Positive Gearing
The advantages of positive gearing are:
- increased income – extra money in your pocket is never a bad thing
- low risk – because your income from the property covers its associated costs, you are at much lower risk of defaulting, even if your life circumstances change
- balanced portfolio – it’s possible to use a positively geared property to balance the shortfall from negatively geared investments
- lender attractiveness – if you seek additional loans, the extra income can make you an attractive prospect
There are disadvantages as well, though, including:
- taxability – you’ll have to pay tax on income from a positively geared property
- slower long-term growth – if your property is in a low growth area, you may be getting your income at the cost of slow capital growth
- being more volatile – if conditions in the area change and make it a less desirable rental location, your income may very quickly be threatened
Negatively Geared Properties
As you might expect, negative gearing is the exact inverse of what we described above: if you make less income from your property than it costs you to keep it, then it is negatively geared. The value in negatively geared properties is their expected capital growth in the future, which will hopefully negate short-term losses in the present.
That’s why negatively geared houses are often called ‘capital growth properties’. They are usually bought by savvy investors who can see that a particular area is ripe for development and growth, typically in areas close to capital cities where prices are still relatively low but can reasonably be predicted to rise in the near future.
Pros and Cons of Negative Gearing
The big benefits of negative gearing are:
- tax deductions – costs associated with negatively geared properties can be claimed as tax deductions
- capital growth – so long as the expected growth occurs, the capital gains on the property will eventually dwarf the initial losses on rent
- more affordable housing for tenants – this can make it easier to secure long-term, stable tenants
The disadvantages of negative gearing include:
- necessary budgeting – you need enough reserves to get through the inevitable shortfalls for this investment strategy to work
- a long-term strategy – this is not a way to make quick cash, so you need the financial stability to stay in for the long-haul
- higher financial risk – if your financial circumstances change for the worse, you will still need to pay the costs associated with this property.
You may also lose out in the long run if the area you have invested in never experiences the anticipated growth.
Wanting to Invest? Talk to the Experts
If you are considering property investment and want to know whether negative or positive gearing is best for you, talk to a mortgage broker. A mortgage broker will be able to assess your situation fully and give you some options on the best way forward. Call Kaboodle Finance on 1800 KABOODLE