Is reforming negative gearing the solution to housing affordability?

Scott Kuru September 26, 2024 5 min read

Image from Sky News Australia

KEY POINTS

Labor is considering changes to negative gearing and capital gains tax to address the housing crisis
The Greens and some MPs are pushing for action, but experts say it may not significantly lower house prices
The proposed changes could result in higher rents and increased taxpayer costs

The Albanese government is again mulling changes to the rules governing property investment, according to reports in Nine newspapers.

While the Prime Minister has tried to publicly distance himself from any changes, saying, “I have no plans to do it” and “It’s not our policy,” it’s been reported that Treasury officials are modelling tweaks to negative gearing and the capital gains tax discount to present to the government.

Any changes to the existing tax regime for property investment could have disastrous consequences for Australia’s already strained housing supply, pushing up rental prices and seeing the Federal government have to spend more on welfare to support low-income earners.

Why now?

The Nine newspapers say the federal government has asked Treasury officials for expert advice on possible changes to negative gearing and the capital gains tax discount.

The recent failure of the government to get support from the Greens for one of its signature housing policies through the Senate may have prompted the request.

The Greens recently delayed a vote on one of the Albanese government’s Help to Buy schemes, which would see the government take a shared equity stake to allow 40,000 people to buy their first home.

The minor party has tapped into discontent among younger Australians about the cost of housing.

It is demanding rent caps, phasing out tax breaks for property investors and more public housing, in return for its support.

Labor has previously backed lowering the capital gains tax discounts and winding back negative gearing, taking policies to limit the tax break to new properties to the 2016 and 2019 elections (which the party both lost).

However, it is now under pressure to revisit those policies from some of its own MPs, who want the governing party to be seen as actively tackling the housing crisis and making homes more affordable, particularly for first-home buyers.

What is negative gearing and the CGT discount?

Negative gearing comes into effect when the costs of owning a rental property (including mortgage interest) are greater than the rental income the property generates.

So if you find yourself “negatively geared” (making a loss on your investment, not a profit), you can deduct that loss against your total taxable income, therefore paying less tax.

People who sell an asset (like an investment property) at a profit need to pay capital gains tax (CGT).

However, Australian residents who have held an asset for at least a year are currently entitled to a 50% discount on the CGT they will be asked to pay.

There’s no question that these rental property deductions do make property investment attractive and that they do have a big impact on the federal budget.

Earlier this year, the Treasury revealed that rental property deductions would jump by an estimated 58% in 2023-24 from $17.1 billion to $27.1 billion, largely because of much higher interest rates on investment property mortgages in that financial year.

Official interest rates have been at a 13-year high since last November, forcing up retail mortgage rates.

However, high interest rates seem to have temporarily disrupted a longer term trend (see above) where more and more property investors are arranging their affairs so that rental properties they own are positively geared (providing them with extra cash flow) or neutral (where they have no or minimal losses).

Consequences

The Real Estate Institute of Australia (REIA) says renewed speculation about the future of negative gearing and the CGT discount is unhelpful and won’t help ease the housing crisis.

President Leanne Pilkington says renters would be much worse off.

“Current speculation regarding the abolition of negative gearing would put a halt to this just as we are seeing a pick up in the proportion of housing loans going to investors back to the levels of a decade ago”, she says.

“Numerous studies have shown that such action would lead to additional rent increases of between 7 and 12%.”

The Chief Executive of the Property Council, Mike Zorbas, says the federal government should be focusing on housing supply, not tax changes..

“We have a huge housing gap across Australia, and when modelled, negative gearing changes widen that gap,” he says.

“Previous Deloitte modelling shows negative gearing changes shrink the number of new homes by about 4% and, according to previous work by the Grattan Institute, only reduce house prices by 2%.”

“Even if negative gearing changes didn’t model as poorly as they do for housing supply, why would you change now?”

“We are already only building 160,000 homes against the 240,000 homes we need each year,” he says.

The view from economists is also mixed.

Former central banker Peter Tulip is now the Chief Economist at the Centre for Independent Studies and has reviewed several detailed studies that model the effects of removing negative gearing.

“There are repeated claims that negative gearing makes housing expensive,” he says.

“These claims are refuted by well-known research.”

In fact, he says, “several studies using different approaches estimate that the effect (of removing negative gearing on Australian house prices) would be trivial.”

Of these studies, Peter Tulip says the most detailed study is by Cho, Li, and Uren (2021), who find that removing negative gearing would increase home ownership by 4.3% but reduce house prices by only 1.5%.

However, it would also raise rents by 3.6% and, in an alarming finding, the Federal government would have to increase the welfare budget by 1.7% to offset costs like higher rents for low-income earners.

Don’t upset the apple cart

Recent research by Ray White’s Chief Economist Nerida Consibee looked at the contribution so-called “Mum and Dad” investors or private landlords make to the Australian rental market.

“Between 1996 and 2021, there were an additional 1.1 million rental properties provided by investors (private landlords),” Ms. Conisbee says.

“Compare this to an increase of 41,000 homes provided by community groups and a LOSS of 53,000 rental properties provided by the government.”

Despite much talk of “big public housing builds,” governments have actually been increasingly happy to leave the heavy lifting of providing rental accommodation to the private market.

“Although they are frequently criticised, incentives available to property investors in Australia have been successful in providing a steady stream of rental properties and keeping the proportion of households under rental stress at globally low levels,” Ray White’s Nerida Conisbee says.

“If tax policy is changed that makes owning a rental property less attractive, there will immediately be far fewer rental properties available.”

And that would have disastrous consequences at a time of already strained and expensive housing supply.