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Cutting through the negative gearing reform debate

Posted by on April 30th, 2019 · Affordability, Government, Housing, Housing supply, Tax

By Hal Pawson, City Futures Research Centre.

Since our last comment on the subject and, of course, boosted by another election campaign, the debate on negative gearing reform has hotted up still further. And, especially because so many highly questionable claims are made on the subject, we felt the time was right for another quick foray into this territory to re-ground the discussion triggered by Labor’s reiteration of 2016 reform proposals.

The point of principle

The point of principle about the negative gearing rules as these apply in Australia is that revenue losses on rental property can be used as a tax shelter for other earned income – an internationally unusual (although not unheard of) practice. It is that aspect of the existing rules that is controversial – partly because it means that higher salary investors in higher tax bands inevitably corner greater benefits.

Also, as a tax provision supposed to encourage risk-taking business investment the current rules are arguably much too generous for rental investors compared with those who invest in more productive forms of business that are also far more risky – and therefore have to stomach much higher borrowing rates than banks are willing to allow on housing lending (because this is considered a relatively low risk kind of enterprise).

What is Labor proposing?

As in its 2016 election pitch, Labor proposes restricting the NG concession to newly-built property to encourage aspiring rental investors to preference acquisition of new, instead of existing, housing. This is consistent with the politically uncontroversial idea that maximising new housing supply is an important component of any sensible strategy to ease housing unaffordability. It’s also consistent with the longstanding rules on Australian residential property acquisition by foreign investors – again, a policy accepted across the political spectrum, and recently copied by New Zealand.

Labor also pledges to halve the Capital Gains Tax discount (from 50% to 25%) for investors acquiring rental properties after the new system start date.

All existing rental investments would be grandfathered – these would continue to be subject to the current rules.

Who gains the most from the existing system?

The Grattan Institute’s Danielle Wood says: ‘despite all the talk about negatively geared nurses and property baron police officers, 90 per cent of taxpayers do not use it’. The professions who do use it most are those at the top end of the income scale. This is reflected in the fact that half of the value of NG concessions goes to the top 20% of income earners, while for the CGT discount 80% goes to the top 10%.

Because they disproportionately benefit higher income earners these tax subsidies are regressive and fuel inequality – already a growing problem in Australia, and one that government policy should be seeking to moderate, not exacerbate.

What will be the housing market and budgetary effects of Labor’s plan?

Under the reformed tax rules pitched by Labor, property values will run 1-2% below the level at which they would otherwise have sat (says Grattan). This will be a situation where – in effect – investors lose some of the advantage they have enjoyed in bidding at auction against aspiring First Home Buyers for existing properties.

The Federal Government’s budget bottom line is expected to be enhanced by $32 billion over a decade under the proposed changes (Parliamentary Budget Office), although only by relatively small amounts in early years because of grandfathering.

Apart from costing an estimated $11.7 billion p.a., current NG and CGT discount subsidies do nothing to encourage investment in rental properties that will help to ease housing unaffordability by being made available at rents affordable to low income earners.

Over time, the proposed plan would enable the Federal Government to redirect support to genuine good quality affordable rental housing through Labor’s plan to incentivise the construction of 250,000 discounted rent units by 2030 (at a cost of $6.6 billion over the period covered by the forward estimates).

The 2016 election campaign seemed to give the lie to the previous conventional wisdom that any suggested alteration of existing landlord tax concessions was politically taboo. Whether that revised assessment was right is now being tested once more.

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