At a recent function, a friend strode in, and, surprising us, claimed loudly that she had the answer to the current housing problem. Abolish negative gearing, she said – it’s that simple. Hardly simple, I thought.
And then, what part of the housing problem was she referring to – affordability, or availability? Were they the same thing, or separate issues, but nonetheless a result of negative gearing?
Housing cost and availability continue to be a BBQ stopper, with negative gearing predictably polarising the discussion and prompting Joe Hockey as recently as last week to say the government had no plans to abolish negative gearing, while the Opposition cautiously said they ‘may’ wind it back.
It’s pretty obvious, though, that house prices are rising, and indeed in some lusted-after suburbs price rises are as near to perpendicular as the house walls – an apparent blow to affordability. Auction results and clearance rates are avidly read on Sunday mornings along with the footy scores. Australians have a passion for property, and seem to enjoy reading about house sales wildly exceeding expected reserve prices. For home owners, perhaps it’s no more than wishful dreaming, but if 17% annual growth rates in some suburbs are anything to go by, animal spirits are at work, particularly in the capital cities.
This indicates strong demand for certain housing types – generally established housing with good local amenities such as transport and schools, and reasonably handy to the CBD. Call it the middle-class heartland.
Pumping the demand for this class of property are historically low interest rates, a surging migrant influx of people and money, particularly from Asia. This combination of easy money and good feng shui has ignited house prices in middle-class suburbs of Melbourne and Sydney.
Australia is viewed as a safe deposit haven, and of course we welcome this foreign investment, until the foreigners routinely outbid us at auction when the Foreign Investment Review Board is then roused to rein in some of the rorting and disregard of its foreign investment rules.
Newsworthy they may be, but such price increases cannot be blamed on negative gearing, for the simple reason that the maths don’t add up. Inflated house prices produce a meagre rental yield, with vacancy rates at their customary 2-3%. Bank interest will pay you more, and to my knowledge, tenants have not been the recipients of any recent large wage increases to pay compatible rent hikes.
Current spectacular house sale prices cannot be expected to continue indefinitely. So, in spite of low interest rate inducements, it would be a game property investor punting in this market, conscious that a failed negative gearing arrangement would grandly magnify the losses.
Common sense suggests most property investors do want their investment to ‘break even’ and even to go ‘cash positive’ (and so too does the Australian Tax Office). This may explain RBA figures showing only 20% of property investors are geared. Presumably, the remaining 80% are paying tax on their property profits.
If many negative-gearers have been leveraged out of the high-end market and face competition in the desirable middle-class property market, they are all but absent from new housing estate developments. Only 5% of new properties are negatively geared, says the Grattan Institute. This suggests negative gearing neither encourages new building (with the exception perhaps of CBD apartments), nor impacts on new house prices.
The reason, once again, is that the maths don’t add up for investment in outer suburbs and country areas. Prices are unlikely to increase speculatively much above inflation, if at all, tenants numbers are reduced, as is their cash, and they probably bought the new house next door anyway.
Availability and the affordability of new housing actually depend on the amount of land released and its development costs. It’s expensive to buy and develop a block of land. There are lots of obvious costs in ‘greenfields’ projects, such as infrastructure levies, headworks charges, and public open space ‘contributions’ which perversely provide little or no infrastructure, such as new rail, improved roads, parks, schools, and the like. Land development construction costs, and then actually building a house, are expensive, the more so the closer to the city.
New housing affordability and availability are matters for government, and not resolved by tokenistic First Home Owner Grants, or Stamp Duty Exemptions, which inadvertently have the effect of inflating building costs. Building more houses on more available land is an answer to housing shortages, along with multi-unit development and infill housing closer to the city. Increased supply will stabilise if not lower new house and land prices; it’s a question of supply and demand.
And supply could be encouraged, especially rental housing for low-income groups, by tapping property investors with incentives for community housing, planning permit fast-tracking, permit fee waivers, and rent guarantees. The maths could just add up here, as it does for investors in Defence Force housing schemes. Realistically, incentives which really work are tax incentives (such as accelerated depreciation). But can you imagine, in the current debate, further tax advantages being looked-on favourably by property investors?
Yet 1.2 million Australians are property investors. That’s a lot of houses, but a lot more tenants. Given 70% of us own our own homes, you would expect tenants to be a scarce commodity, but our population is growing; Melbourne is annually adding 100,000 people. Additional roofs are needed, too, for new households. Then there are growing numbers of people who wish to live by themselves, families either up- or downsizing, while renting is still viewed as a preliminary step to home ownership.
Negative gearing has met some of this demand, but its essential popularity is due to its tax advantage of subtracting ‘losses’ on all personal income. By international standards, this is generous; other countries limit deductions to the revenue and profits made on property alone.
Initially, negative gearing was hugely attractive because of high marginal rates of tax cutting in at low-income levels, but with marginal tax levels progressively having risen, it means negative gearing is less attractive today at 30% than at the previous 47% threshold.
But, as a nation, we love real estate (and TV programs about it), and like being able to drive by or visit our tangible investment, something difficult to do with a negatively-geared share portfolio whose volatility is just too frightening for most of us.
Eventually, our negatively-geared tax deductions trickle back to the ATO. Income begins to exceed the tax deducible outgoings; the mortgage is repaid over time, helped by falling interest rates and rental rises. If the property is sold, Capital Gains Tax is payable on the ‘profit’ made. Taxed at 50%, some say the Capital Gains Tax is too concessionary, others that it is a belated tax transfer from the taxpayer to the government and in the event of death a not-so-disguised death duty. With taxes you can’t please everyone.
In the meantime, other taxes have been paid – stamp duty and land tax – which you might think would make a negatively-geared share portfolio financially attractive. But we love our real estate, and more importantly, we like how our house prices steadily increase. In much of Europe and the United States, prices remain static, or worse, fall.
Negative gearing has been around in its current form for over 30 years. There have been several property booms and busts, but none, as far as I know, attributable to negative gearing. In that time, negative gearing has achieved totemic status, so that any changes to it would now ‘hit the pockets of the average working Australian’, as protests the Property Council of Australia, suggesting it’s no longer a tax minimisation tool for the wealthy – an argument ‘for’: if all are doing it, then you can’t change it.
I suggest the real popularity of negative gearing derives from the average person trying to provide financially for family and retirement. If your retail super fund is still recovering from the GFC, and you view it as a poor financial performer anyway (apart from its ability to generate fees), and your combined contributions in the fund are insufficient to give you a half-decent income in retirement without full or part recourse to government benefits, you may well be motivated to consider other options.
You will have noticed real estate prices have continued by and large as they have since the Second World War, to be kind to Australians by increasing in value. Negative gearing is a DIY way to family financial security.
The baby boomers who possess a formidable chunk of the nation’s real estate wealth are considering, if they haven’t done so already, divesting their property investments to fund tree- or sea-change downsizings, even nursing home care, either for themselves or for their parents, or shoring up their own children’s property purchases. Then there is the inevitable and looming larger baby boomer demise – death as the great cashing-out event.
Existing housing availability could be accelerated by government incentives to baby boomers to divest earlier, downsize, or subdivide, and otherwise offload their properties during their lifetimes to the next generation.
But, again, that probably involves some unthinkable tax relief to the propertied class.
Whatever, too much attention is paid to the retention or removal of negative gearing, and not enough to actually building more houses. Supply and demand, remember.
Tony French is a Melbourne lawyer, and a member of the SPC Board. He declares an interest in owning a couple of now very ‘positively geared’ properties.