Negative gearing has long been seen as a popular strategy in Australia’s property investment landscape, but is it really the best path to long-term success? At first glance, the tax benefits of negative gearing may appear attractive. After all, who doesn’t want to minimise their tax liabilities?
However, this strategy carries hidden costs and risks that can impact your financial wellbeing and long term investment success. For investors considering property investments, understanding the pitfalls of negative gearing can be key to building a robust, growth-oriented portfolio.
Understanding Negative Gearing: The Basics
In simple terms, negative gearing is when the costs associated with owning the investment property—mortgage interest, maintenance expenses, council rates, land taxes and other outgoings—exceed the rental income generated. With the right ownership structure, this shortfall is often used to reduce the investor's taxable income, theoretically making it a financially advantageous strategy. For this approach to be truly effective, the property’s value must grow enough over time to offset these ongoing losses.
So, here’s the catch: if the property’s value doesn’t grow as expected or if interest rates increase, the costs can quickly outweigh the benefits.
The Risks of Negative Gearing: Cash Flow Crunch and Market Volatility
One of the main concerns with negative gearing is its reliance on two assumptions:
that property price will grow; and
the investor will have sufficient income from other sources to sustain this loss.
Both are things which are outside the investor's control. Negative gearing ties your financial success to capital growth—essentially relying on the hope that property prices will rise in the future. If property values remain stagnant, or worse, decline, the negative cash flow usually quickly turns into a financial burden, leaving investors with a very poorly performing asset.
Negative gearing also puts constant pressure on cash flow, requiring investors to cover the ongoing shortfall with income from other sources, such as their day jobs from employment. This dependency can limit your financial flexibility, making it harder to reinvest or handle unexpected expenses, or shortfalls in income. Additionally, with rising interest rates, the cost of servicing negatively geared properties is now higher, meaning the actual savings gained from tax benefits is far less attractive than anticipated. The value of the property needs to grow a lot higher and faster to make this strategy worthwhile.
Risks of Negative Gearing: When You Lost Your Other Income
In a typical investment structure, negative gearing can be a beneficial strategy when you have other steady income, as it allows you to offset losses on an investment property against other sources of income, thus reducing your overall tax liability. However, it’s critical to remember that negative gearing is a loss-generating strategy: you’re losing money to save on taxes. For every dollar you lose, you’ll typically save only 30 to 50 cents in tax, depending on your tax bracket. But what happens when the income supporting this strategy suddenly disappears? What happens if you lose your job, or if the value of the property does not rise as fast as you hope for? Or, if, after years of servicing the loss, the value of the property does not rise. This is happening in some areas and for some property types.
When income loss occurs—whether due to job loss, health issues, or other factors—the financial strain of a negatively geared property becomes clear. Mortgage payments, property maintenance, and associated costs continue, and without reliable income, the tax benefits of negative gearing disappear, leaving only the out-of-pocket expenses. This is a critical consideration, as it could quickly turn an initially manageable investment into a financial liability nightmare.
If you’re unable to maintain payments, your bank or lender may step in to repossess the property, adding further risk to your financial situation. For investors considering negative gearing, it’s essential to assess not only the potential tax savings but also to plan for contingencies, such as an emergency fund or income protection, to manage periods of unexpected income loss.
If you are reading this and are finding yourself in this situation, read about strategies to avoid your property from being repossessed here.
Negative gearing can be effective under the right circumstances, but a reliable income source is vital to ensure the strategy remains sustainable. Or negative gearing will backfire badly.
How Does Negative Gearing Affect Capital Gains Tax (CGT)?
Negative gearing can impact Capital Gains Tax (CGT) when you sell a property, primarily through its effect on the total capital gain or loss. Here’s a breakdown of how these two factors—negative gearing and CGT—interact:
1. Lowered Taxable Income but No Direct CGT Benefit
When you use negative gearing, the losses incurred on the property (such as the difference between the rental income and the mortgage interest and expenses) can be offset against other taxable income each year, reducing your overall taxable income. However, these annual deductions from negative gearing don’t directly reduce the CGT you’ll owe upon selling the property. They only affect your taxable income for the years you hold the property.
2. Reduced Capital Gains through Property Holding Period
The main way negative gearing indirectly impacts CGT is through the growth in property value over time. Investors typically hope that capital gains will offset their yearly losses incurred through negative gearing when they eventually sell. If the property’s value rises substantially, the gain may compensate for these losses and result in a positive return, albeit taxed at the CGT rate.
If you’ve held the property for more than 12 months, you may be eligible for a 50% CGT discount as an individual taxpayer in Australia. However, the capital gain you’ll be taxed on is unaffected by the negative gearing losses you’ve accumulated; those annual losses don’t reduce your CGT liability directly.
3. Impact of Capital Growth and Loss Accumulation
If you’ve consistently used negative gearing and property values don’t increase as hoped, the property may yield a capital gain that’s less than expected, meaning the losses from negative gearing could outweigh the capital growth. In this case, you’ll still pay CGT on any nominal capital gain if it’s sold above the purchase price, but your net return may be lower than anticipated.
4. Some deductions can increase your CGT liabilities
It should also be noted that you will benefit from reduced taxes. Some deductions, such as depreciation, may in fact increase your Capital Gains Tax (CGT) liabilities when you eventually sell your property. And if not managed correctly, you will be liable for higher income taxes when CGT is added into your taxable income.
Depreciation and CGT Implications: A Closer Look
Depreciation has long been a popular tool used by the property sales agents and property investment spruikers to sell new properties, highlighting its tax-saving benefits. New properties are marketed as having higher depreciation, thereby increasing the initial expenses and reducing taxable income for investors. However, that is only half the truth. Here's why:
Depreciation deductions are often a core part of a negatively geared strategy, allowing property owners to claim wear and tear on assets such as fixtures, fittings, and the building itself. This deduction reduces taxable income each year but brings a twist at the time of sale. These deductions must be "recaptured"—added back into the property’s cost base when calculating CGT. This recapture can lead to a larger capital gain on paper and, consequently, a higher CGT liability, potentially offsetting the short-term tax benefits depreciation provided.
If you’re on a lower taxable income when you sell, this may be manageable. But as your income generally increases over time, so does your tax rate, meaning the CGT impact could be greater than expected by the time you sell.
This is a key consideration that’s often overlooked in discussions on the tax benefits of negative gearing. While depreciation can indeed reduce taxes in the short term, the long-term implications for CGT can be substantial. So, for investors weighing up property options, it's essential to keep in mind how depreciation will factor into CGT and evaluate whether the short-term tax relief aligns with long-term financial goals.
Buyers Advocates and Smart Property Investment Strategies
Working with a qualified Melbourne buyers advocate can help investors understand property market cycles and choose properties that align with smarter, more sustainable investment strategies. Buyers advocates focus on locating properties that provide reliable returns, whether through positive cash flow, high growth potential, or a balanced combination of both. They help you avoid “following the crowd” into popular yet potentially risky investments by using a research-backed approach tailored to your financial goals.
The Real Cost of Negative Gearing: Long-Term Wealth Erosion
It’s worth considering that while negative gearing may seem advantageous in the short term, it can erode wealth over the long run. Let’s say you hold a negatively geared property for a decade without significant capital gains—over time, the ongoing losses, interest expenses, and maintenance costs add up. Meanwhile, the property may not perform as expected, leaving you to bear the financial brunt. Selection of the types of property and location is utmost in property investment. A popular area may not always be the best location for growth, while a less popular area could stealthily exceeds your growth expectations.
By focusing on neutral or cash flow-positive properties, investors can protect themselves from this wealth erosion. Buyers advocates in Melbourne and across Australia increasingly recommend looking beyond short-term tax benefits and concentrating on assets that will support a sustainable, balanced portfolio.
Why Property Investors Should Seek Independent, Research-Driven Advice
Today’s market requires a fresh approach to property investment, one that is supported by careful analysis, ongoing market insight, and a deep understanding of property value drivers. Our Buyers Advocates bring their expertise in market trends, negotiation, and local insight to help you uncover property investments that align with your objectives. At Melbourne’s Concierge Buyers Advocates, we are passionate about empowering our clients to make property decisions that lead to long-term financial freedom rather than short-lived tax breaks.
Negative gearing, while popular, may not suit every investor’s needs and could end up costing more than it saves. Our Melbourne buyers advocate can be a vital partner in helping you identify properties that provide consistent returns, strong growth potential, and the peace of mind that comes with financial stability.
Alternative Strategies to Negative Gearing: Cash Flow-Positive Investments
For those looking to maximise returns without unnecessary risk, cash flow-positive investments offer an effective alternative. Cash flow-positive properties generate more rental income than their outgoings, which allows investors to enjoy a steady income from day one. This approach avoids the reliance on market speculation and ensures that you’re not merely holding a property in the hope of future gains. Instead, your property actively contributes to your financial wellbeing, regardless of market cycles.
Yes, with cash flow-positive, you tend to have higher tax bills, as the property is generating income, but as the investment can support itself and potentially provide additional income, you are putting you in a better position to grow your portfolio, and making yourself more resilient to weather economic downturns, and secure future wealth.
The Path Forward: Building a Resilient Property Portfolio
As a property investor, you have the power to shape a portfolio that’s resilient, profitable, and future-focused. Avoid the pitfalls of negative gearing by seeking properties that add immediate value to your financial picture. Consider properties with cash flow potential, and seek out buyers advocates who can guide you towards smarter investments. A balanced approach—one that considers both capital growth and cash flow—will help you achieve sustainable wealth and the freedom to pursue your financial dreams.
Ready to make smarter property choices?
Connect with Melbourne’s leading buyers advocates at Concierge Buyers Advocates. Our team specialises in finding the right properties at the right prices, empowering you to take control of your financial future. Whether you’re a first-time investor or a seasoned buyer, let us guide you in building a portfolio that truly supports your wealth-building journey.
Contact us today to start investing smarter and create a foundation for lasting success.
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