We need to take a long-term view of negative gearing

According to the Greens, negative gearing increases the demand for property and therefore drives up prices, making it harder for young people to get their feet on the property ladder. They also claim that people who borrow for investment housing are getting massive tax breaks. Their goal is to limit negative gearing to one property within five years.

Let's take a long-term view on this. The average residential property investor understands that any welfare that may be available to them when they retire in 20 years or more is likely to be sparse indeed. They are also wary of shares, which they regard as "a bit of a punt", and don't trust superannuation because of the continual changes we are subjected to. They are also probably smart enough to know that non-residential real estate is extremely high risk, with vacancies of two or more years not unusual. In their eyes, the only option left is good old residential real estate.

So let's think about a hypothetical couple, Jack and Jill, both aged 40, each earning $100,000 a year. They buy a $600,000 investment property today with a mortgage of $500,000. The net income from the property - after rates, insurance, etc - will be around $23,000 a year, and they pay interest of around $30,000 a year. In the first year they incur a loss of $7000. Depending on the property, there will be deductions for depreciation - these are called on-paper deductions because they don't require an outlay of cash.

Let's assume building depreciation is $8000. Their total tax deduction is $15,000 which after June 30 when the rates change will give them a tax refund of $4800.

In summary, their negative gearing strategy is costing the taxpayer about $4800 in year one. Fast forward five years - with rent increases and reduced debt the house should be positively geared, with Jack and Jill enjoying a small profit, on which they will pay tax.

Now think 25 years ahead, when they are about to celebrate their 65th birthdays. By now the investment property should be paid off, having been positively geared for years, and if capital gain averaged 3 per cent per annum, the property should now be worth just over $1.25 million.

By then, courtesy of their employers, they may have accumulated a hefty chunk of money in super, but this depends on an uninterrupted work history and their ability to get a good return on their money. In any event, who knows what restrictions might be placed on withdrawals from super in 25 years?

What we can say with certainty is that ownership of an unencumbered investment property will wipe out any chances they may have of receiving even a part-aged pension. Also, if they decide to sell the property to use the money elsewhere, they will be liable for over $150,000 in capital gains tax, which will include the clawback of all those depreciation allowances.

The cost to the taxpayer to provide a pension to a couple aged 65 who live to the average ages, and who have no significant assets apart from the family home, would be at least $900,000.

Let's put this all together: investors negative-gearing a property now are costing the taxpayer a few thousand dollars over the first few years. The long-term benefit to the taxpayer is that these people are giving up any chance of welfare, and will eventually contribute a huge sum to the public purse by way of capital gains taxes.

As well as providing much-needed rental accommodation, a few thousand dollars in tax deductions today are saving the government hundreds of thousands of dollars in welfare down the track.

Who in their right mind would try to stop that strategy?

Question

Can you please explain how a holiday house worth $600,000 would be assessed for the age pension. We own our home, have shares worth about $30,000 and have $610,000 in super.

Answer

The market value of the holiday home, less any loans outstanding via a mortgage against that home, will be the value used. It's regularly updated by Centrelink to the current valuation. Your current assessable assets are about $250,000 in excess of the cut-off point for a couple which means you would not be eligible for an age pension. My advice is just to spend normally, and if your assets reduce below the cut-off point you could then apply for the age pension. Don't forget you're now eligible for the Commonwealth Seniors Health Card.

Question

I am intrigued by the mandatory withdrawals from super increasing as I get older. As a part pensioner this means that the regulation is simply pushing me more quickly to when I will be receiving a full pension and thus being more reliant on Government support. Could you explain the rationale.

Answer

The purpose of super is to provide you with a retirement income, so you won't be reliant on welfare. Once your fund starts to pay you a pension, it becomes a tax-free fund while you are drawing a tax-free pension. No government wants to see retirees hold money in a tax-free environment indefinitely which is why mandatory drawings are required and which is why they increase with age. All financial investments, including superannuation are assessed once you reach pensionable age.

Question

I ask about Reversionary Pensions. If the deceased is over the age of 60 and the beneficiary is under the age of 60, I believe the income stream will flow to the beneficiary as per the age of the deceased.

One of the advantages of a Reversionary Pension is that the benefits should flow quickly. But I recently approached my super fund (an industry fund), and was told that once the correct paperwork has been submitted (Death certificate, identification etc), and all the forms have been filled out, it would still take two months for my partner to receive any money. This seems a long time - Is this a normal time period?

Answer

Superannuation Meg Heffron expert says the age of the deceased and beneficiary is highly relevant for tax but shouldn't affect the speed with which the pension continues. If either the beneficiary or deceased are over 60, the pension is tax free. If they're both under 60, it won't become tax free until the beneficiary is 60.

A reversionary pension should make the process quicker but exactly how quick will depend on the processes of the paying fund.

A death certificate and proof of identity of the beneficiary is needed because they need to confirm a few things : the original pensioner has definitely died, the person now asking for the money is definitely the person named on the reversionary pension application and finally they are eligible to receive the money (not everyone is allowed to have a deceased person's super as a pension). Two months does seem like a long time to make that happen if all the information is provided promptly. Perhaps that time frame includes a buffer for administrative delays?

Interestingly, if the pension is genuinely reversionary by law the same pension continues seamlessly after a member has died. That means the trustee is obliged to make sure enough is drawn from the pension each financial year to meet the minimum payment rules. For someone who dies in May, it would seem that two months might be too long - if the trustee doesn't make any further payments until the following financial year they might breach their obligations.