Positive vs Negative Gearing: What It Is & Why It Matters

Name: RealEstateAgent
Brand: Now Living Realty
Rating: 5 (11 reviews)

11 November 2020

Negative gearing is a term that’s often in the media, but you don’t hear about positive gearing as much. Both are popular investment property strategies and it’s important to understand the difference between the two.

What is positive gearing?

Gearing in the investment property context means taking out a loan to buy a property that you rent out to tenants. Positive gearing means that the tenant income from the property exceeds all of its associated expenses (excluding the initial amount to buy the property). In other words, you make ongoing profitable income from the property.

Examples of investment property expenses include:

council rates.
body corporate fees (if you buy a unit or townhouse).
insurance.
repair and maintenance costs.
the cost of advertising for tenants.
land tax.
borrowing expenses (loan interest and fees).
property manager fees.

How does positive gearing work?

When you buy a positively geared investment property, you can use the surplus income you generate to help you make your loan repayments. This can also help you to afford a higher value property.

Tenant income that you earn from an investment property is taxable, so it must be included in your annual income tax return. However, you can deduct investment property expenses from your tenant income to reduce the amount of tax you need to pay. This is a key difference between investment properties and owner-occupied properties. You can’t deduct any property expenses on your tax return for owner occupied properties.

The pros of positive gearing

The major benefits of positive gearing include:

providing you with more income.
being a less risky investment strategy than negative gearing because you will have more tenant income available to help you make your loan repayments.

The cons of positive gearing

With any investment property, there is always a degree of risk. For example:

the market rental value may not be enough to cover your loan repayments.
you will pay more tax with a positive gearing strategy than you will if you use a negative gearing strategy.
there is always a risk that the value of an investment property could fall over time.

What is negative gearing?

Negative gearing is the opposite of positive gearing. It means that the expenses associated with your investment property exceed your tenant income. Many Australians have used negative gearing to build investment portfolios containing multiple properties to secure their financial future.

How does negative gearing work?

If you use negative gearing as an investment property strategy, it’s important that you have enough cash flow to be able to make your loan repayments. While you will be able to use some of your tenant income to help you with your loan repayments, you will also need to use income from other sources.

The pros of negative gearing

While on the surface negative gearing may appear to be a counterintuitive investment strategy (because you are technically making a loss), it can provide you with benefits, including:

lowering your tax bill (because you’re making a loss on the investment property).
your loss being offset by the increase in the investment property’s value over time. Australian property prices have a long-term record of growth, even if there are periods when prices stagnate or even decline. You should take a long-term view of property investment to ride out any market downturns.

The cons of negative gearing

Negative gearing is a more risky strategy than positive gearing.
Your tenant income will be less than your property expenses, so you’ll need to have other income sources to ensure you can make your loan repayments.

The importance of investment property location

There’s an old saying that the three most important factors in real estate are ‘location, location and location’. It’s especially true for investment properties. Buying an investment property in a good location can be a great way to build your long-term wealth. You’ll be more likely to attract good tenants who will pay their rent on time and look after your property. Properties in good locations are also more likely to grow in value over time.

Good investment property locations tend to have the following characteristics:

relatively close to the city.
good shopping, school, entertainment and public transport facilities.
a good reputation (e.g. low crime and unemployment levels).

All of these factors tend to increase tenant demand.

How We Can Help

At Now Living Realty, we can help you to find an investment property in a good location. We have properties available all over the Perth metropolitan area, and we’ll take the time to understand your needs.