What is negative gearing? How Labor policy change could spectacularly backfire on mum and dad investors – and renters could be worse off too

A potential Labor plan to phase out tax breaks for investors who act as landlords could also hurt the very people they are supposed to help: renters.

Anthony Albanese, an opposition party member, abandoned the policies of his predecessor Bill Shorten (Labor) in 2019 after the party lost its second election in a row.

The Labour Party lost the 2016 and 2019 elections over plans to abolish negative gearing for future purchases of existing homes and limit it to new properties only.

But Nine Newspapers now reports that Labor wants to review the current negative gearing and capital gains tax break and that the Treasury has commissioned modelling into possible changes.

Treasurer Jim Chalmers confirmed Wednesday that his department is exploring possible policy changes.

“The Treasury Department is constantly looking at all kinds of policy options,” he told reporters.

‘It is not unusual for the public service, and in my case my department, to investigate issues that are the subject of public or parliamentary speculation. That is how a good public service works.’

What is negative gearing?

Under the current negative gearing policy, investors can declare rental losses on their annual tax return.

This means that a landlord can also deduct mortgage interest payments, cleaning costs, repair costs, Homeowners’ Association costs, municipal taxes, lawn mowing, landlord insurance, property management costs and water bills from his taxable income.

If rental income is less than the maintenance and repayment costs of the property, a landlord has negative gearing and can declare that loss on their tax return for that tax year.

The difference between rental income and the costs of renting out a home is deducted as an expense from a person’s income for that year.

The Labour Party wants to review this policy, as negative gearing has led to speculators buying up multiple investment properties, which they can later sell for a large capital gain.

Along the way, these investors can have a negative gearing effect on any number of properties.

Traditionally, affordable housing markets such as Brisbane, Perth and Adelaide have seen double-digit increases in property values ​​this year, despite the Reserve Bank’s 13 rate hikes in 2022 and 2023.

This happened because investors who could borrow money against other investment properties were able to get financing from the bank and buy another home to rent out during a rental housing hiatus.

Dr Mustapha Bangura, an expert in property economics at the University of Technology Sydney, and Chyi Lin Lee, a professor of real estate, published a paper last year that found that investors historically bought properties despite low rental yields because of negative gearing.

But scaling back negative gearing could also be detrimental to ordinary investors, who would be forced to sell because they would no longer be able to deduct their losses from tax.

Younger home buyers, who no longer have access to the Sydney housing market, are also losing the opportunity to purchase a first home that they can rent out, as they continue to rent closer to their work.

This would mean that there would be fewer rental properties available on the private market, which would lead to even higher rents as a result of the reduced supply.

This comes as Australia struggles with a rental crisis, with SQM Research showing that Australian capital cities have an extremely low vacancy rate of 1.3 percent.

In 1985, Bob Hawke’s Labor government removed negative gearing tax breaks for investors, but in 1987 the tax break was reintroduced amid concerns that the absence of negative gearing would lead to large rent increases.

Rents only rose in Sydney and Perth during that two-year period.

The Greens, who could face Labor in a minority government in 2025 if opinion polls are correct, have commissioned the Parliamentary Budget Office to assess the cost of negative gearing in the budget.

It found that the tax breaks for landlords would result in a loss of $6.9 billion in tax revenue in 2024-25, rising to $13.5 billion in 2033-34.

Capital gains tax reduction

The 50 per cent cut in residential capital gains tax is expected to cost $5.4 billion in 2024-25, rising to $7.94 billion in 2033-34.

The Labour Party promised in the 2019 elections to halve the capital gains tax cut to 25 percent for future purchases of investment properties. However, the Ministry of Finance is now reportedly investigating the possibility of restricting this policy.

The family home or a person’s principal residence has been exempt since the introduction of capital gains tax in 1985, but John Howard’s coalition government introduced a 50 per cent cut in capital gains tax in 1999.

This means that if the value of a home increases by $100,000 since an investor purchased it, only $50,000 of income needs to be reported on the investor’s tax return for that tax year, provided the investor owned the home for at least 12 months.

This policy was accompanied by a tripling of net foreign immigration in the 2000s.

In the 1980s, when Australia had negative gearing and a capital gains tax, a house in Sydney cost four times the average full-time salary.

But by the late 2000s, the debt-to-income ratio had doubled to eight and is now approaching 15, while the average house price in Sydney is almost $1.5 million.

Someone with a mortgage interest rate of 20 percent cannot borrow more than 5.2 times their salary.

This means that someone with an average full-time salary of $100,017 is limited to a house priced at $650,109. For a house at this average price, you cannot buy a house in any metropolitan market other than Darwin.

Tax policy

Under the leadership of Bill Hayden, the Labor Party lost the 1980 election, when Malcolm Fraser’s coalition government waged a scare campaign claiming it would introduce a capital gains tax.

But Hawke was re-elected in 1984 on a promise to organize a tax summit, which led to a capital gains tax in 1985.

The Coalition lost the ‘unlosable’ election of 1993 when Liberal Party leader John Hewson proposed a 15 per cent goods and services tax.

John Howard, Leader of the Opposition, ruled out a VAT rate prior to the 1996 election – using the phrase “never, ever” – but he was narrowly re-elected in 1998 on a platform of 10 percent VAT.

Labor’s exploration of changes to negative gearing and capital gains tax – despite losing two elections on these policies – shows that political parties don’t necessarily give up when voters say no.