Hi euro, would you mind explaining the concept of NRAS (what/how/etc.) and why you choose that route rather than just choosing to rent it out yourself?
Also if you also care to share how you manage to reduce your income tax to zero? Is it one of the advantages of NRAS?
Hi. I've written extensively on the concept on the forums, so you can read through those posts if you prefer, but I'll take you back through it here.
The concept is this; take dormant equity that is laying around doing nothing - neither costing you money, or making you money. Invest that equity as a 10% deposit + stamp duty + costs, into an NRAS property. Generate an after tax , CF+ outcome of 7-10K. Then reinvest that surplus money into aggressive debt reduction.
Let me give you an example using a 400K property that would normally rent for $400 per week.
1. Draw down 60-65K from equity. The 60-65K covers your 10% deposit ( 40K) your stamp duty( 12-15K depending on the state) your legals, building inspection and depreciation report (2K) and a cash flow buffer (10K )
2. Borrow the other 90% + LMI ( approx 365K) to complete the purchase.
3. You will have total debt of @ 430K, give or take. ( Might be a little more in one state vs another stae, depending on stamp duty and whatnot)
Assuming a 5% interest rate ( lock in 4.99% for 5 years ) your interest expenses will total around 21.5K per annum. Add 5-6K for other costs - property management, rates, water, strata and NRAS compliance fee. Again, varies from property to property- a house and land package for example where stamp duty is payable on land only, and no strata is payable, would have fewer annual costs- but lets assume this example is a unit with strata fees. Your total expenses for the year will equate to 26.5-27.5K, give or take.
The property receives $320 per week, instead of $400 per week under NRAS, so you have income of just over 16.5K. So in this example, you are running a pre tax loss of approx 10-11K. This is a deductible loss
In addition, you can also claim depreciation. Because NRAS properties must be brand new, the depreciation will be pretty chunky. Could be as much as 13-14K, but lets use a conservative figure of 10K for this exercise, so that I cant be accused of inflating the estimates
Bottom line - there's a 20K + deduction from this property.
I lodge a tax return. receive a refund + the NRAS credit, and ultimately end up @ 8-10K CF+ , depending on my Marginal Tax Rate.
So there are two parts to this. The negative gearing and then the NRAS tax credit.
First, the negative gearing ; as outlined above, broadly speaking , because of the reduced rental income received, an NRAS property will produce a pre tax cash loss of approx 10K , rather than the 5-6K cash loss a typical non NRAS property might produce. Of course, this depends on the property and it's normal market rent, as well as other holding costs, such as property management, council rates, insurances, strata fees ( if applicable) etc.... 10K is pretty common though, as the example above demonstrates.
Because you are also able to claim depreciation, and because the properties must be brand new for NRAS eligibility, that will typically equate to an additional 10K ( conservatively speaking)
So what this all means is that you'll typically generate a combined total of @ 20K of deductions per NRAS property. Sometimes it might work out to be a little more, but 20K is about the typical result.
For a person earning 100K taxable income, 4 x NRAS properties should therefore produce about 80K of deductions. It might be a little more, or a little less- again, this depends on the variables I outlined above. But using 20K per property as a pretty common example, 4 x NRAS properties would therefore produce sufficient deductions (@80K) to reduce a 100K taxable income to a 20K assessable income.
In this example ( and again I should stress, this is a generic example) because the tax free threshold in Australia is $18,200, reducing your assessable taxable income to 20K would result in tax being payable on just $1800. The $1800 would attract a Marginal tax rate of 19%, so you'd end up paying approx $342 tax on your 100K salary , using this example. So you'd effectively have all the tax , or very close to all the tax , you had paid on your 100K throughout the year, refunded to you.
The second part is the NRAS tax credit. This year the NRAS credit is worth $10,661 - but it increases annually, based on rental CPI indexing, so will be worth more next year, more the following year and so on...
The NRAS tax credit is paid
in addition to whatever ATO refund you receive for negative gearing. Again, the amount received depends on a number of variables, such as interest rate, property management costs, rates, strata ( if applicable) etc etc, but here's how it looks for the majority of NRAS properties.
For the 1st property , where the investor earns 100K, his neg gearing refund ( based on a 20K deduction) is calculated at 37% Marginal tax rate, so after the NRAS credit is added on to that, the after tax result is usually around 8-9K CF+
For the 2nd and 3rd property, the neg gearing refund ( based on 40K combined deductions) is calculated at 32. 5%, so this results in around 7-8K CF+ per property.
For the 4th property, the neg gearing is refunded ( based on a 20K deduction) is calculated at 19% , so the result is around $4500 CF+
To review; each property produces approximately 20K of deductions, and property 1 also produces @ 8-9K CF+ , properties 2 and 3 each produce @ 7-8K CF+ and property 4 produces @ 4.5K CF+
So the 100K taxable income has become an almost tax free income, but you've also earned an additional 26.5 - 29.5K tax free.
Net result = @ 126.5-129.5K after tax income, with little or no tax to pay.
Then you take that money, create a multiplier/compound effect by redeploying it towards aggressive debt reduction, which in turn saves you bundles of interest, creates accelerated equity ( even when the market is producing no capital growth, as happens at times) and allows you to continue to grow your portfolio over time. The medium term benefit is also a significant boost to your borrowing capacity as you remove non deductible debt, which is a huge drag on borrowing capacity, and replace it with deductible debt and additional rental income , which is a boost to your borrowing capacity. Borrowing $1 million of investment debt from a bank requires less salary income than borrowing $1million for non investment debt.
The aim of the game is to use NRAS to create the lowest possible taxable income, the highest possible after tax income, and use the surplus money to reinvest for a compounding benefit. For most people, the best use of the money is aggressive non deductible debt reduction, because that alone makes you a small fortune in saved interest. For those without any non deductible debt, they may elect to use the additional cash flow to boost super contributions, or supplement non NRAS properties that they are holding, or invest in other assets.
However you look at it, you have taken 60-65K of dormant equity and turned it into 8-10k of tax free money. That's a 13-15% tax free return. Ask yourself whether you'd put your money into a bank account paying 13-15% tax free. Ask yourself whether you'd put your money into a term deposit paying 13-15% tax free.
Think of it like this. What could you do with 125K+ of annual tax free cash flow over 10 years? Could you turn it into a lot more money??? I think so.
As long as you can get your 60-65K back in 10 ,11, 12 years time, you've effectively paid ZERO for the property, but used the massive tax free income the properties have produced, to transform your financial situation.
So for a person earning 100K, with 240-260K of equity at their disposal, 4 x NRAS properties will do precisely what I have just outlined. For a person earning 80K who has 180K or equity at their disposal , 3 x NRAS properties maximise their particular situation. Or for a person earning 180K with @ 500K of equity at their disposal - same thing.
As I said in a previous post - in 2 years I have paid down a 440K non deductible mortgage, added 10 new NRAS properties to my portfolio and if I simply got my 10% deposit and stamp duty back out of each property at the end of 10 years, I'm still way ahead of where I would have been in 10 years if I had the 440K mortgage to deal with, because I have 2.5K per month that was previously directed towards that mortgage, in my pocket . I also have over 400K of equity I didnt have a year ago, because the debt is gone. That allows me to invest in multiple additional properties that I would never have been able to invest in, otherwise. Compound /multiplier effect at work.
NRAS is not the be all and end all - it's simply a tool. I will continue purchasing properties long after NRAS is finished, but it is such a potent accelerant that it will position to me to have 2 or 3 times the number of properties I would have otherwise owned, had I not used it this way. very very few investors get past 4 or 5 properties. It is amazing to me how few investors grasp how much it could transform their position , and quickly.
