A negative gearing strategy (also called capital growth strategy) is one of the most common property investment strategies. In this blog, we explain what it is, and talk about its benefits and potential risks.
What is negative gearing?
A property is negatively geared when your rental return is less than your interest repayments and other property-related expenses. This creates a taxable loss, which can normally be offset against your income, to provide tax savings.
While making a loss on an investment property might initially seem counterintuitive, some people are willing to do this in the expectation that the capital gain (sale price minus the cost of the property) when they sell the property will more than offset that loss.
This is more of a medium to long term strategy where it is recommended to buy and hold the property to fully take advantage of the capital growth over time.
The advantage of being negatively geared is that you can offset your losses of holding the property to reduce your taxable income. Depending on your circumstances and level of income, you could end up with substantial savings in your annual tax return, but it is important to do your research and seek advice on this from a financial advisor or accountant.
Negative gearing works if the property's capital growth in the long term outweighs the loss you incur from the rental shortfall.
So the focus is to buy a property in a suburb where the house values are likely to keep appreciating. Whilst holding the property, you can also leverage off the equity growth and use it to purchase another investment property or build a portfolio as the equity compounds.
And at the time of sale, you want to ideally sell whilst property values are rising or holding steady, not falling - to ensure you make the highest possible capital gain. When selling, also keep in mind the capital gains tax as this will affect your profit margin.
Investors considering this strategy need to have the financial stability to fund the loss of holding the property until it is sold and the full profit can be reached. Some investors might also find themselves unexpectedly in a loss position if they incur higher expenses or lower returns than anticipated.
When holding an investment property unexpected expenses also arise. Investors choosing this strategy need to have sufficient income or financial buffer to cover these expenses which might include the tenants being late with their rental payments, the property being vacant for a period of time, unplanned property repairs or upgrades, and increased cost in interest payments due to interest rates rise, just to name a few.
We advise getting professional advice from your financial advisor or accountant to ensure this strategy is right for you as it can be highly risky if not executed correctly.
The right investment strategy for you will be the one that takes into account your goals, personal circumstances and risk profile. We recommend seeking advice from professionals to help you manage risk, save time and money.
If you're not sure where to start when it comes to selecting the best team of professionals, that is where we can step in to assist.
EKR Property is a property investment advisory company that assists first-time investors and astute investors in sourcing, negotiating and securing their next investment property.
We have an A grade team of professionals that we can put you in touch with (such as accountants, financial advisors, mortgage brokers, solicitors etc). We align ourselves with only the best providers who have been tried and tested, to ensure your investment journey is memorable and hassle-free.