There's no doubt that property is one of the best investments around at the moment and many of you may be searching for an addition to your portfolio. If you've done it before, you probably already understand the ins and outs of property investment, negative gearing, tenancies etc. But if it's your first time, it can be a bit tricky to get your head around.
Negative gearing occurs when the cost of owning a rental property outweighs the income it generates each year. This creates a taxable loss, which can normally be offset against other income, such as your wage or salary, to provide tax savings.
For example, let's say your investment property is generating $30,000 a year in rent but the costs of holding the property - mortgage interest etc - are $35,000. That gives you a taxable loss of $5000 and you can use that to reduce the tax payable on your salary.
This can even be done in advance if you know your investment will record a loss over the financial year. Through PAYG Withholding Variation, you can apply to the Tax Office to reduce the amount of tax taken out of your salary.
Risks involved in negative gearing
While there are some benefits to negative gearing, there are also risks involved. When you negatively gear your property, you are still recording a loss. But things can change in a flash. What happens if you can't get a tenant and the property stands empty for a period of time? What if there's a downturn in property values? What if you've already agreed a set rent amount with your tenants and then the interest rate starts rising?
There's a lot more to property investment than you think and mistakes can cost you a lot of money. Done right, however, property investment can be a very wise move.
And a key factor in ensuring your investment pays off, is choosing the right property in the right location. Most tenants - especially families - want a rental in or close to a major centre, with shops, services, schools and hospitals within easy reach. Especially if they are relying on public transport.
So that's the first point to consider when buying. But the type of property is important, too. Some properties simply suit rentals better. For example, a common mistake is to buy the house YOU want to live in, rather than the best property 'for the job'. If you are buying as an investment, it doesn't really matter if it's to your taste or not. So a heritage-listed Queenslander that you spent months restoring probably isn't the best choice! Imagine how you will feel if you're unlucky enough to get bad tenants who wreck the place!
Right house, wrong location?
Three to four-bedroom family homes, or two to three-bedroom apartments are ideal. Keep them plain and simple, so cleaning and re-decorating is easy, should the need arise.
It's also a wise move to protect yourself and your investment. Insurance is a must and generally plan it around the worst case scenario.
Positive gearing occurs when your investment property earns you more than it costs to hold. That difference is classed as additional income and you will be taxed on it. So you will actually need to put aside extra cash throughout the year to pay for that tax.
Before we go, a quick look at Capital Gains Tax - another area that can be confusing to the first time property investor. CGT will invariably form a part of every investor's journey.
CGT is the tax paid on the profit you make from the sale of the property. A capital gain is the difference between what you paid for the property, and what you sold it for. When you sell an investment property the tax calculation is based on the sale price of the property minus your expenses.
Capital loss or capital gain
A capital loss then, is when you sell the property for less than your reduced cost price. This loss can be carried forward to offset any future capital gains.
You can, however, avoid CGT if the property is considered your principle place of residence. But, you can only claim one principle place of residence at a time, unless you are selling an old residence to buy a new one, in which case you are entitled to a six month overlap period - so long as you lived in the old property for three consecutive months during the 12 months prior to sale, and were not receiving rent in the same 12-month period.
As we said - it's confusing! Your best approach, once you find the perfect investment property, is to seek advice from a financial expert. Done correctly, investing in property really can be your ticket to financial freedom!