Question about Negative Gearing

[Bangers]

Hi All,

Looking at my first PPOR (with FHOG) very soon. Infact I just put an offer down (stressful!)

I'm throwing some numbers around in my head for when I turn it into a IP. Because it's over 320k, I still have to pay Stamp Duty so I am only tied into living in it for 6 months to completely satify for FHOG.

The numbers I have are:
Yearly Repayment $28,800.00 ($2400*12)
Body Corp $1,600.00
Rates $1,400.00
Total $31,800.00

Total Rental Income: $15,600.00 ($300*52)
More losses here, rental management, possible maintenance, insurance etc.
Difference $16,200.00

From what I've read, Negative Gearing is to speculate the potential Capital Growth of a Property against the certain income loss? (obviously worded different throughout different books)

Does this mean, roughly, for me to make a profit in the long run on this properly, that the property needs to increase in value, at least $16k a year?

I'm kinda up in arms at the moment. The property is $335k (Taringa, Brisbane - High Rental area), which for me going at it myself 100% is a lot of money. What I'm not sure about I have a feeling I maybe negative gearing "too much". A lot of the examples I've read the end per annum loss figure is $3-$5000. Definitely not in the $15k+.

What I have on my side is the ability to live at home rent free (I'm 23).

My little brother is doing exactly this (already purchased his first PPOR and nows its an IP) BUT, his property is only $200k, and with rental of $220/wk the difference isn't the same as mine. My loss is a lot more.

I think what I'm trying to ask is, am I negative gearing "too much". Is ~$1400 a month in income loss, too much?

Thanks!
Matt

 

[kaf]

Hi Bangers

You've not considered your tax against your cost - are you a student ? Depending on your tax rate this should bring down your bill quite dramatically if you have an income.

The negative gearing question really depends on your long term plan, ability to service the repayment and if you think you could do something more productive short-term with the money instead of waiting for your place to improve in value. Being too negatively geared might also put you off property if it stints your lifestyle and property values stay relatively flat for a while.

For our first IP the purchase price was relatively similar to yours but the interest rate was lower and after tax the place cost us less than $100 a week. On two salaries that wasn't a problem and it taught us a number of things such as that "good" debt doesn't worry us and that we like property as an investment. If it had been much more negatively geared I'd probably been much less happy with it. In your example of $350 / week covering the shortfall would have impacted on our lifestyle and as values have been pretty flat over the last few years I might now have a different opinion on property investing.

The other thing to consider too is that especially in your early stage of investing this place is going to seriously affect your serviceability and with no equity to work with you might have little buffer to cope with problems. Just some thoughts.

Cheers

kaf

 

[alexlee]

Bangers, I think buying your first property is a big step, and much better than most people, but since you asked:

If you're talking negative gearing you also have to take tax into account. Assuming your tax rate is 30%:

Diff of 16,200 actually only means 11,340 AFTER tax. Add in depreciation of, say, 2% of your purchase price (say 8,000) and you get back another $2,400.

So really, your loss is 8,940.

Question: your repayments are 2,400pm. Are you doing interest only? Because that would imply a loan of $400k. Rent of 300pw seems low? Obviously the lower your yield the worse your cashflow.

That is why, personally, I would separate buying for yourself and buying for investment. Did you, for example, buy a place that you 'can live in yourself'? If you had been buying purely for investment, would you have thought the yield was adequate?

As you may know buying an IP purely as an IP (not claiming FHOG) means you can claim FHOG later. Would it make sense, then, to buy it purely as an IP, get all the deductions and buy your PPOR later?
Alex

 

[Les]

G'day Bangers,

Sounds like you are looking for a bit of "good news" - so let's see if this makes sense...

Does this mean, roughly, for me to make a profit in the long run on this properly, that the property needs to increase in value, at least $16k a year?

Well, yeah, that's the key. Delayed gratification and all that. So, how likely is this? Some say property doubles in value between 7 and 12 years. Of course, this range allows for the location and the demand. Taringa is at the "sought after" end of the spectrum (close to the city, good transport, near University, etc.) So let's say it is likely to double in 10 years, conservatively.

Given that, after 10 years you'll be holding a $670k asset that has cost you $16k per year to hold. It's growth has "averaged" over $32k per year. Not so bad perhaps. Of course, inflation has chipped away at those "dollar values" - but it has done the same with your COSTS as well (so the $16k per year will be getting EASIER to find each year.

As well as that, the rents are not likely to remain at this level. Allow at least the inflation rate as an increase year-by-year, and (even at just 3% CPI) the rent after 10 years is more likely to be $400 per week.

I noted too that your Interest (assuming 100% lend) is 8.6% if I/O - which sounds a bit high. So maybe this is a P&I loan. If (in a year or three) you reset this to I/O, this will save more $$ per week too.

Kaf has already made some really useful comments too. Chew through those, then let's see how they may have helped.

For us to be more specific, we'd need to know actual numbers.
e.g. You are paying $335k, but what is the mortgage amount you are paying Interest on? (Could be more, or less). What Interest rate, and is it P&I or I/O?

By the way, I just checked APM's link for Taringa
http://www.homepriceguide.com.au/snapshot/price/index.cfm?action=view&source=apm ... then type in Taringa.

It shows Houses doubling in ~SIX years, while Units take 12 years - which sounds pretty ordinary. BUT WAIT, I don't know Taringa, but I recall reading an API article late last year which talked of "areas of Brisbane where Units are way below houses in value" as areas where Units should be primed to go back to the "mean" (they considered Units values to be ~70% of house values normally).

Look carefully at that link, and you'll see Units are around 45% of house prices. Does this mean that Units in Taringa are set to boom? Could be - in which case you could be sitting on a Unit worth $400k or more very quickly. Of course, this is nothing more than conjecture, but it does SEEM to me that Units there are quite low-priced relative to houses. Are houses too high? Could be. Are Unit prices too low? Could be.

But I don't invest in Taringa so haven't done any checking (other than this quick link above).

Maybe others who DO invest there can supply more data to confirm or deny what the APM figures show.

Regards,

 

[phil]

G'day mate,

I was looking for similar information today. I found this negative gearing tax calculator which will give you an indication of how much an investment property will cost you taking into account your taxable income etc.

Hope this helps,

Cheers,
Phil

https://www.mybank.net.au/negative.asp

 

[Bangers]

Hi All,
My numbers were a bit ambiguous. The $2400 I was quoting was for P/I. I just reused the figure, but you're all correct, this is actually $2200 for just IO. I think I will start with P/I though, as it's a 100% loan. Actual Loan is P/I, 7.37% Variable, and being a 100% loan, I'm certain I need the FHOG Grant.

You've not considered your tax against your cost - are you a student ? Depending on your tax rate this should bring down your bill quite dramatically if you have an income.

Hi kaf,
No, I'm fulltime employed. Finished my degree and this is the last tax year I'll be paying HECS too. ($500+/month).

For our first IP the purchase price was relatively similar to yours but the interest rate was lower and after tax the place cost us less than $100 a week. On two salaries that wasn't a problem and it taught us a number of things such as that "good" debt doesn't worry us and that we like property as an investment. If it had been much more negatively geared I'd probably been much less happy with it. In your example of $350 / week covering the shortfall would have impacted on our lifestyle and as values have been pretty flat over the last few years I might now have a different opinion on property investing.

Good point. I think myself, a loss of $250 a week wouldn't effect me.

The other thing to consider too is that especially in your early stage of investing this place is going to seriously affect your serviceability and with no equity to work with you might have little buffer to cope with problems. Just some thoughts.

That only really effects me if I was going to purchase another IP immediately with the remainder of my serviceability -is that right?

Diff of 16,200 actually only means 11,340 AFTER tax. Add in depreciation of, say, 2% of your purchase price (say 8,000) and you get back another $2,400.

So really, your loss is 8,940.

Oh, looks like I forgot to pay tax on my Rental Income?

Question: your repayments are 2,400pm. Are you doing interest only? Because that would imply a loan of $400k. Rent of 300pw seems low? Obviously the lower your yield the worse your cashflow.
As above, actually loan will be P/I for PPOR and FHOG. $335k Unit, $300/wk Rental.

That is why, personally, I would separate buying for yourself and buying for investment. Did you, for example, buy a place that you 'can live in yourself'? If you had been buying purely for investment, would you have thought the yield was adequate?

It's actually against my personal tastes. Based on my research of living near Taringa, Uni Freinds in Taringa/Toowong/Indro the unit is a perfect student rental.

As you may know buying an IP purely as an IP (not claiming FHOG) means you can claim FHOG later. Would it make sense, then, to buy it purely as an IP, get all the deductions and buy your PPOR later?
Alex

I didn't know that. Everything I have read and been informed, for QLD says, if my first home is an Investment, I lose the FHOG?

I noted too that your Interest (assuming 100% lend) is 8.6% if I/O - which sounds a bit high. So maybe this is a P&I loan. If (in a year or three) you reset this to I/O, this will save more $$ per week too.

Hi Les,
Sorry, as I said above. My actual loan figures aren't exact. But, roughly the loan will be P/I 7.37%.

Thanks,
Matt

 

[Les]

G'day Bangers,

Oh, looks like I forgot to pay tax on my Rental Income?

No, mate - if you are making a loss, you actually get Tax back to you. This is what Alex was saying. So, you get a refund at the end of the Fiscal Year (a nice cheque from the ATO - or, you might want to get it back on a weekly basis - see ITWV on the ATO website).

Regards,

 

[alexlee]

My numbers were a bit ambiguous. The $2400 I was quoting was for P/I. I just reused the figure, but you're all correct, this is actually $2200 for just IO. I think I will start with P/I though, as it's a 100% loan. Actual Loan is P/I, 7.37% Variable, and being a 100% loan, I'm certain I need the FHOG Grant.

Usually you'd use IO and then put extra savings (often larger than the P component anyway) into an offset or into the loan itself. My question would be, can you save more than the $200pm that the loan demands? If so, it would be more flexible to have an offset. The P&I forces you to save an extra 200pm, which isn't much, and it locks the money away (you would have to refinance to get it). If you have the discipline to save more, there are better setups.

Oh, looks like I forgot to pay tax on my Rental Income?

No, actually you have. Your loss calc of 16,200 includes rent of 15,600 and losses of 31,800, so your NET loss is 16,200 BEFORE tax. After tax it's as per my calc.

I didn't know that. Everything I have read and been informed, for QLD says, if my first home is an Investment, I lose the FHOG?

Common misunderstanding. Specifically, from www.firsthome.gov.au:

To qualify for assistance, neither the applicant nor their spouse (or de facto) must have owned a home prior to 1 July 2000, either jointly, separately or with some other person.
Neither the applicant nor their spouse (or de facto) must have owned and occupied a home after 1 July 2000.

The FAQ section of the Qld OSR also has the same info:
http://www.osr.qld.gov.au/fhog/faq/faq_eligibility.shtml

Cut off point being 1 July 2000. After that, if you buy an IP, did NOT use FHOG, and NEVER live in it, then you can still claim FHOG for a future property that you do live in. If you bought ANY property including pure IPs before 1 July 2000, you're disqualified.
Alex

 

[kaf]

Hi kaf,
No, I'm fulltime employed. Finished my degree and this is the last tax year I'll be paying HECS too. ($500+/month).



Good point. I think myself, a loss of $250 a week wouldn't effect me.


That only really effects me if I was going to purchase another IP immediately with the remainder of my serviceability -is that right?

Hi Matt

Very good thinking - rather than getting used to the extra income once you've paid off HECS using the money for investment - good move!!

I've just mentioned the serviceability because I gathered from your post that you seem to be from a family of IP investors and with your brother already in the market you might want to move on to no 2 pretty soon (a good case of siblings rivalry I reckon!). If that's not your plan great, if it is, serviceability might be another issue you'd like to consider, but then I don't know your income etc.

Cheers

kaf

 

[alexlee]

You ARE borrowing 100%, Bangers, and using FHOG for stamp duty. Even if it affects your serviceability, that's not surprising. Other than making up the day to day cashflow you're getting the appreciation on this one FREE.
Alex

 

[Bangers]

No, mate - if you are making a loss, you actually get Tax back to you. This is what Alex was saying. So, you get a refund at the end of the Fiscal Year (a nice cheque from the ATO - or, you might want to get it back on a weekly basis - see ITWV on the ATO website).

Perfect, thanks. ITWV lets me modify PAYG throughout the year, or if I wanted (ie. wasn't tight on budget) I could just wait for the yearly check?

You ARE borrowing 100%, Bangers, and using FHOG for stamp duty. Even if it affects your serviceability, that's not surprising. Other than making up the day to day cashflow you're getting the appreciation on this one FREE.
Alex

Sorry I don't quite understand this. As in, I shouldn't be worrying? I'm in a good position? Get the FHOG and go for it?

 

[alexlee]

Sorry I don't quite understand this. As in, I shouldn't be worrying? I'm in a good position? Get the FHOG and go for it?

What I mean is, since you didn't put any money into this, it isn't surprising that it's might be a while before you can buy your second IP. I'd focus on saving more money. At your age, use the fact that you have time for the asset to grow and increasing income and few necessary expenses to save more.
Alex

 

[dcarr]

That holding cost seems to me on the high side for an IP but then again I'm used to figures at 80% LVR with an out of pocket cost of $60-100/wk. As others have said, you have to factor in depreciation and the eventual tax refund. Then what I like to do is work out the loss as a % of purchase price eg. $9k against $335k gives you the bottom line - your property only has to grow by 2.7% a year to break even (EXAMPLE only).

Just did similar sums for myself and got 1% holding cost plus 1% opportunity cost (for what I could otherwise do with the funds committed) for a total of 2% growth needed to break even - a figure I'm personally comfortable with and I'm VERY risk adverse.

A lender that will do 100% IO on a unit would be perfect but incredibly hard to find - and chances are they'd make you pay for it in fees or interest rate anyway. So don't stress overmuch about this.

Finally, make sure you have a contingency plan - would you be able to find the extra funds to weather 3 months of no rent should the need arise?

Hope this helps.

 

[Bangers]

Finally, make sure you have a contingency plan - would you be able to find the extra funds to weather 3 months of no rent should the need arise?

hi dcarr,

Yep, No problems for me. To start with, I'll be looking at this property as a owner/occupier even if there is tenants.

There is a current Tenant in the house for another few months, then I'll move in for my 6 months, and get it ready to be permanently rented.

To tell the truth, once it's rented permanently, the rental income will go straight into a Savings account for the deposit of my next IP. Which, as alexlee has said, will be a while away (maybe 18 months). I definitely won't be relying on the Rental Income, just yet.

Thanks,
Matt

 

[alexlee]

To tell the truth, once it's rented permanently, the rental income will go straight into a Savings account for the deposit of my next IP. Which, as alexlee has said, will be a while away (maybe 18 months). I definitely won't be relying on the Rental Income, just yet.

Uh, wouldn't all of the rent (and then some) be going to the bank as interest payments?
Alex

 

[Bangers]

Uh, wouldn't all of the rent (and then some) be going to the bank as interest payments?
Alex

Then redraw into the offset for the deposit on my next place?

 

[alexlee]

Then redraw into the offset for the deposit on my next place?

Uh, no. I mean, you get, say, $15k per year from the tenant in rent. You pay more than $15k in interest (based on your figures). You don't have anything left over to put into an offset account from day to day renting of the IP. The only way you'll have extra money is to save from another source (job, investments, etc).

In practice, I run at slightly negative cashflow. So my loans don't decrease at all, but I refinance and borrow more when the properties go up.
Alex