Everything you need to know about positive gearing

Owning property is a popular investment choice for many Australians.

The latest tax office data shows 2.24 million taxpayers in Australia own investment properties with around half having 'negatively geared' properties. That is, they're making an overall loss on their investment.

It means the other half of investors own 'positively geared' properties - they're making an overall gain on their property investments.

So, what are the benefits of positive gearing and why don't we hear more about it?

What is positive gearing?

In simple terms, a property is positively geared when the rental income it generates is more than the costs associated with owning it. These costs may include:

• Advertising for tenants

• Accounting fees

• Interest on your investment home loan

• Council rates

• Body corporate fees

• Land tax

• Repairs, maintenance, pest control, cleaning, gardening

• Insurance

• Depreciation on the building and some fixtures and fittings

If a property returns a profit, even after accounting for these outgoings, it is regarded as positively geared.

Why would anyone have a negatively geared property?

It seems counterintuitive to want an investment that runs at a loss, but for some investors, having an investment property that loses money can provide tax and other benefits in the short term.

It can be a way for them to buy and hold a property now with the eventual goal of making a capital gain on their investment when they sell it. So, in the long term, tomorrow's gain might be expected to make up for today's losses.

Both negatively and positively geared properties have their benefits and drawbacks (we'll look at these soon). It just depends on what your investment goals are and your individual financial situation.

How can I buy a positively geared property?

There are several ways you can buy an investment property that will make you more money than it costs to own. Let's consider some strategies that could help get you there:

Buy with a bigger deposit

If you're taking out an investment home loan, putting down a bigger deposit can mean the mortgage repayments are lower.

That could mean the rent received is enough to cover the repayments, as well as any other expenses associated with the property.

It's wise to seek professional financial advice before you adopt this strategy, though.

A professional advisor can help determine whether this is the best use of your capital, considering your personal financial situation and longer-term investment goals. They can also outline the tax implications of having a positively geared investment.

Purchase a cheaper property

Another strategy is to look for an investment property in an area where the cost to buy is relatively low compared to the rental income a property could generate.

Dwellings that are comparatively cheaper to buy than they are to rent are often referred to as high yield properties.

Higher yields are often found in regional areas, where rental properties are not so abundant despite high demand for rental accommodation. High yield properties can sometimes be found in metropolitan areas too, so you'll need to do your research.

The trick with this method is to ensure the rental return and the capital value of the property is sustainable and stable over the long term. Many an Australian property investor has been lured to regional or rural areas undergoing a boom, where property values are relatively low compared to the rents they can demand.

Such booms have previously occurred in mining towns. It some cases, those booms have lost steam or economic conditions have changed, and investors have been left with properties worth less than they paid for them and no tenants to be seen.

Find a competitive investment home loan

The difference between a typical investment home loan rate and the lowest in the market can often be dozens of basis points, and finding a lower rate home loan could save you hundreds of dollars each month.

The lower the rate on an investment home loan, the lower the repayments. So, for an investor straddling the line between positively geared and negatively geared, a competitive mortgage could tip the balance.

If you're looking for an investment home loan, the table below features some of the lowest interest rates on the market.

What are the pros and cons of positive gearing?

Pros

• Money in your pocket

It's hard to go past the profit a positively geared property could generate over the long term. The extra income might be used to pay off other debts, fund lifestyle improvements, or to invest in other property.

• Greater borrowing power

Typically, the more income a borrower brings in, the more a lender is willing to lend them. Bolstering your income with rent from a positively geared property can be helpful if you're looking to purchase more investment properties or take out another loan product.

• Offset losses from other investments

A positively geared property can balance the losses you make on other properties or other investments generally, perhaps helping you hold onto them until they (hopefully) start making returns.

Cons

• More income means more tax

One of the biggest downsides of holding a positively geared property is that the income realised from it will bump up your taxable income. In simple terms, the rental income you receive is added to any other income you earn, such as a wage. If you're paying tax at a rate of 37%, you will also be taxed 37% on the income you receive from your rental property.

On the other hand, the losses realised from holding a negatively geared property can offset other income, thereby reducing the amount of tax a person has to pay (though, it will never save them as much in tax as they lose in owning the property).

• Properties may have slower capital growth

Many positively geared properties are located in areas that generally have slower capital growth. Capital growth in the property sector can be driven by general economic growth, increasing demand, and local development or infrastructure.

That said, factors such as the opening up of a new land release near your investment could negatively impact the capital growth of existing properties in the area by increasing supply.

• Dependent on rental market

While rents have climbed considerably in recent years, the rental market is not immune to downturns. If rental prices drop, the income from the property could fall below what it costs to own it. This may clash with your original agenda in purchasing it.

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