With the terms ‘positive gearing’ and ‘negative gearing’ getting bandied about with impunity these days much of the property development conversation is lost on those without a sound understanding of these in relation to property. Let’s take a look at both these phrases and try to demystify what they mean.
In simple terms an investment property that is positively geared is one that has a ‘positive’ return financially where as a negatively geared investment will return a before tax loss.
The question as to which type of investment is ‘better’ is largely answered on a case-by-case basis and is dependent on the circumstances of the holding entity (in this case the owner of this property). Both situations have benefits and risks involved, as do all investments, which we will examine below.
- Cash Flow – A property that is positively geared provides a positive return after all expenses related to the investment have been paid (repayments, interest, insurance, strata fees etc.), and goodness knows we could all do with a little extra pocket money each month. It is important to take into account the other expenses that come with managing a property, such as agent fees and insurance, when modelling if an investment will be positively geared as often these can change the tide of your balance sheets.
- Improved Investment Portfolio – As you make your way to becoming a financial mogul there may be several hurdles along your journey and one bad investment can severely damage your financial outlook. A positively geared property can aid in balancing out your portfolio against your other underperforming investments.
- Liquidity – Should you need expedient access to funds for your next major investment or unexpected life event a positively geared property can be a great avenue to access cash fast. Not only does it present an attractive proposition for on-sale but a bank is also more likely to provide finance on an asset that is positively geared than one that is not.
- Tax – Like almost every other income source profits derived from property investment is taxable and will contribute to your end of year return, risking the possibility of pushing you up the tax scale.
- Slower Value Appreciation – It is common place for positively geared properties to be located in regional areas that are experiencing some sort of boom (agricultural, resources, energy etc.) where there is a high demand and low supply for housing. These properties often do not increase their value as well as properties in metropolitan regions do.
- Instability – As explained above positively geared properties are often as a result of a boom economy, one extreme example of this is what Perth has been experiencing in the last 10 years due to the mining activity in the state. Of course this return is solely reliant on that boom and as most economic bubbles of this nature ‘pop’ at some point one can be left with a property that they are unable to find occupants for and unable to sell as there is no longer an interest in the area.
- Asset Growth – Negatively geared properties are often found in metropolitan regions, close to the city centre and popular amenities. As such though they do not present an initial positive return they can be viewed as a long-term investment as their value often increases significantly over time.
- Tenancy – As explained above the desirable location of these properties typically makes it easier to find tenants, ensuring a consistent and reliable revenue stream.
- Safe – Unlike a positively geared property which is often dependent on uncontrollable and often volatile external factors such as a resources boom, a negatively geared property secures its value against the success of a major city or town, which is much less likely to experience economic downturns than regional areas.
- Tax – As profits from investment properties are considered in your tax so too are losses. A loss as a result of a negatively geared property can offset payments required from other income streams such as your salary and actually reduce your end of year tax bill.
- Drain on Cashflow – The simple fact that one must face when considering a negatively geared investment is that you will be recording a loss that you will have to pay out of your income, at least in the short-term. One should closely examine their revenue streams when exploring this option to ensure that they are secure and that they will be able to make the necessary payments to meet their obligations.
- Market Forces – While typically a negatively geared property presented a more secure investment than a positively geared asset it is still subject to market forces and those market forces could cause the value could drop just like any other investment. All property investment plans should be well considered and thought out before being entered to and ideally one should make sure that they are able to recover should their investment’s value drop dramatically.
Considering entering into the property market? The expert team at Infinite Wealth are on hand to provide advice on how to make the best decisions for your financial future. Get in touch with us today on 08 9438 6333 or click here to contact us.