LOE taxation query

[want2bewealthy]

I'll use an example here.

Jerry, is living off equity to fund his investments and lifestyle on a negatively geared property, he is not taxed.

If Jerry's portfolio was cashflow positive and was living off equity, does he pay tax on his positive earnings?

Also, in either situation, what will happen with new, and recent depreciation schedules in the instance of LOE? will they become useless as soon as Jerry stops working and lives off equity?

Thank you.

 

[Propertunity]

Jerry, is living off equity to fund his investments and lifestyle on a negatively geared property, he is not taxed.

Correct

If Jerry's portfolio was cashflow positive and was living off equity, does he pay tax on his positive earnings?

Yes he pays tax on his positive earnings after all expenses associated with those earnings (including depreciation etc but not private expenses)

Also, in either situation, what will happen with new, and recent depreciation schedules in the instance of LOE?

Nothing, they are only ink on paper

will they become useless as soon as Jerry stops working and lives off equity?

They (the Depn Schedules) will continue to be useful to calculate an expense to deduct off any of Jerry's positive earnings. None of the LOE draw downs are taxed in Jerry's hands.

 

[want2bewealthy]

Thanks Prop

I should have figured that would be the case, just double checking.

If Jerry was looking to retire in 1 year lets say, is it possible he can present that to his accountant and depreciate the full amount in that year instead of 1 year at a time or no?

 

[Petal]

As someone who would one day like to LOE I keep thinking the ATO will suddenly realise that people are doing this and look for a way to tax them on the borrowings, but then I remember that people who LOE will more than likely represent a miniscule proportion of the public and they might just leave us alone!!

 

[Propertunity]

If Jerry was looking to retire in 1 year lets say, is it possible he can present that to his accountant and depreciate the full amount in that year instead of 1 year at a time or no?

In a word - No.

 

[keithj]

As someone who would one day like to LOE I keep thinking the ATO will suddenly realise that people are doing this and look for a way to tax them on the borrowings, but then I remember that people who LOE will more than likely represent a miniscule proportion of the public and they might just leave us alone!!

And I think most LOEers will find that the reality is that after a while living off equity is a fairly risky proposition. It's easy after a cycle to sell some off to reduce or eliminate debt & provide reasonable positive cash flow with significantly reduced risk & still have the benefits of a lower amount of LOE.

Risk profiles change over time. 95% LVRs are great when starting up, 80% normal in the accumulation phase, when first retired on LOE < 50%, and fully retired (with no prospect of ever being able to work again) a lot less than 25%.

 

[Propertunity]

W2BW,

Your friend Jerry, should delay his retirement for quite some time IMO.

If Jerry needs to bring fwd depn to get some tax benefit to fund his living expenses (which he can't do), then Jerry will have to wait for more equity to build up his his portfolio before retirement and / or start to bring other income streams online.

It sounds like this Jerry friend of yours has started on a journey, begun to do well, realised that this PI thing might actually work, and has seen others LOE and now Jerry wants to join their ranks prematurely.

Patience Jerry.

 

[want2bewealthy]

Lol, thanks for the wise words Prop

Jerry is starting his own Business and company to work less and actually enjoy what he does, he also has bigger tax advantages through his business.

W2BW,

Your friend Jerry, should delay his retirement for quite some time IMO.

If Jerry needs to bring fwd depn to get some tax benefit to fund his living expenses (which he can't do), then Jerry will have to wait for more equity to build up his his portfolio before retirement and / or start to bring other income streams online.

It sounds like this Jerry friend of yours has started on a journey, begun to do well, realised that this PI thing might actually work, and has seen others LOE and now Jerry wants to join their ranks prematurely.

Patience Jerry.

 

[Ajax]

The risk with living on equity is that the banks tighten their criteria for low doc loans even further and stop property investors drawing down up to 80% of their equity in property without evidence that they have the income to service the borrowings (without simply relying on further drawdowns of equity).

When I studied tax law the way the tax act diffentiates between income and capital gains and when capital gains are relaised for taxation purposes opened the way for many ways of minimising tax. To change the way income and capital gains are treated now woud mean overturning years of taxation case law.

Have seen tax returns for a South African who had to submit a personal balance sheet each year along with annual statement of income and expenses. The person was then taxed on the increase in his balance sheet position from year to year. Such as system could open the way for the taxation of unrealised capital gains on property.

 

[Rob G.]

States already levy rates and land tax based on value so indirectly we are assessed multiple times on unrealised gains by being forced to pay more than our fair share of state revenues.

Cheers,

Rob

 

[Old Dog]

The possibility of LOE has more to do with actual net worth than LVR.

If Jerry has only one property value say $800,000 and a loan of $400,000 then his equity (net worth) in this property is $400,000 with an LVR of 50%, but would be unwise to try to live off the gains .

However, if he has properties valued at $4,000,000 and owes the bank $2,000,000 then his LVR is still 50% but equity (net worth in property) is $2,000,000, and now is in a very nice position for LOE.

Old Dog

 

[want2bewealthy]

So you can tech an old dog...

 

[HiEquity]

However, if he has properties valued at $4,000,000 and owes the bank $2,000,000 then his LVR is still 50% but equity (net worth in property) is $2,000,000, and now is in a very nice position for LOE.

Still not enough IMO - as pointed out by keithj, it might be worth considering at 25% LVR with these assets assuming they also had a decent yield associated with them.

Maybe I'm just ultra conservative but I wouldn't feel comfortable relying on those numbers for my family's financial future. I don't want to retire poor via LOE. I want to be able to do stuff. The task is rather underestimated methinks. Mind you, the theory is that once you get to this level the power of compounding will kick in quickly to get you to the next level but for that to happen you need to keep leveraging, hence increasing your LVRs again...

No free lunch I'm afraid!

 

[want2bewealthy]

Yep, I'd quite comfortably call you the 'conservative' type HiEquity,

Ed chan would have a heart attack hearing you say that!

FWIW, I love Ed, I've found he is very similar to me in terms of the way he thinks, or the way I think, or, whatever....

 

[Rob Williams]

If lenders set a ceiling of, say, 60% LVR on low doc loans, then this could be problematic for LOE strategists.
In the example quoted by Old Dog, with a $4m portfolio and 50% LVR, increasing it to 60% still gives you $400k to play with.
A higher LVR or significantly lesser portfolio value changes the outcome dramatically.

 

[want2bewealthy]

True Rob, 'if' that ever happens.
Or perhaps in times like these lenders might tighten up, and then be willing to lend again when the world didn't blow up as expected.

Luckily the investor has the ability to change strategies, purchasing the Red Hotel, or selling off assets and pay down debt in a last resort.

I say last resort because you lose so much when you sell, think of all the acquisition costs, and then all your selling costs, not an ideal plan for me..

Absolute last resort, God forbid, one has to get a job . . !!!!

 

[Rob Williams]

Absolute last resort, God forbid, one has to get a job . . !!!!

No more dirty talk on the forum or you'll be banned !!!!

 

[keithj]

If lenders set a ceiling of, say, 60% LVR on low doc loans, then this could be problematic for LOE strategists.
In the example quoted by Old Dog, with a $4m portfolio and 50% LVR, increasing it to 60% still gives you $400k to play with.
A higher LVR or significantly lesser portfolio value changes the outcome dramatically.

To continue the example, Sydney property hasn't gone up for 6 yrs (& counting). After drawing down that $400K of equity to live on you'd be forced to sell something to be able to keep eating.

Here's a looong thread from 4 years ago that highlights some of the dangers of LOE.

 

[want2bewealthy]

Good point Keith.

And thanks for posting the link.

 

[DebtEquity]

So how do people here propose to leave their jobs, when they have enough passive income if they don't use equity. What else would you use for income if you were not working.

Shares/Trading or selling properties to gain cash......