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Why removing negative gearing might be a good thing for some...

Discussion in 'Property Market Economics' started by keithj, 16th Feb, 2016.

  1. keithj

    keithj Moderator Staff Member

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    Rental yields have been in long term decline. This is due to a combination of lower interest rates, higher capital growth rates, and in part negative gearing. An IP investor has three monetary benefits - rent, cap growth & tax benefits - the risks he takes are compensated by the sum total of these benefits. If any one is changed then the others must also change to compensate. If one is removed or reduced it will either cause investors to leave the market (or potential investors to refuse to enter), or the others must increase to make up the required return for risk taken.


    [​IMG]

    The ALP is proposing to grandfather existing NG arrangements, and in 2017 only allow it on new builds (or maybe those that increase supply?). Grandfathering will keep the 90% of voters (approx 1.6 million) who own 1 or 2 IPs happy, so there is likely to be little political fallout.

    Before the details were released, my initial though was YASP (Yet Another Stupid Policy). But for existing investors it may be a particularly beneficial. We get to keep our tax benefits on our well located property, while the supply of new well located rental property is being restricted. Natural attrition will reduce the supply of these well located rental properties, and potential investors are being discouraged from purchasing those properties - this can only lead to an increase in rents for the existing stock in the medium term.

    Investors will be encouraged to purchase in the outer ring where the new builds are, or in new high rise. Consequently, renters will be either forced to live there or pay dearly for a place in the restricted pool of well-located IPs.

    And if ALP reneges on the grandfathering & abolishes NG altogether, then those investors that do choose to hold until they achieve +ve c/f, will benefit similarly with higher rents due to restricted supply. The current generation of FHB may be able to purchase at a slightly better price today, but at the expense of future generations.

    The next generation of renters are likely to be paying higher rents. They will be the ones that will be complaining how much easier it was to save a deposit back in the 2016 & how lucky FHB were back then.
    Yields 1985-2024.png

    This policy will have the desired effect of encouraging more housing supply, but the serendipitous side effect for existing investors will be an unbalanced rental supply.

    The bottom line is that any well-located IP is likely to experience relatively more growth and higher rents in the medium/long term because of these changes... so if you think it's likely to happen then make a move before 2017.
     
  2. oracle

    oracle Well-Known Member

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    I agree mostly with your analysis except I believe out of the 3 factors (CG, Rental Yield and Tax benefits) if the Tax benefits factor is reduced/removed the way the other two factors will play out on existing properties will most likely be

    - Lower CG
    - Increased Rental Growth

    This will continue until equilibrium is achieved. Once equilibrium is achieved the CG in future will be slower than past as it would only increase in line with rental growth which usually is tied to inflation/wage growth within economy. Obviously, there will be exceptions to the rule (due to zoning changes, renovations etc )

    Interesting times ahead indeed. But I still believe property investing will continue to be an attractive investment vehicle and wealth builder.

    Cheers,
    Oracle.
     
  3. Simon Hampel

    Simon Hampel Founder Staff Member

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  4. RetireRich101

    RetireRich101 Well-Known Member

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    TOL ( Thinking Out Loud) if the NG retains with new build, wouldn't build a granny flat in your IP backyard in NSW WA and some QLD suburbs become popular? You get benefit on new build + rental increase
     
  5. mcarthur

    mcarthur Well-Known Member

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    I like the rest and agree with the points about rent, but I don't understand why it will get more growth (in red above)?

    I would have thought that investors will not be willing to go into the market in the well-located IP areas as the yields are typically less and no NG benefit to carry them through to positive gearing years and higher CG. I'm talking anything above $500k+ value where - usually - yield is 3-5% rather than 6-8%. There's also way less depreciation to assist than new areas too. The only interest for those suburbs for some investors could be to buy to develop - buy the larger blocks, knock down and redevelop multiple properties and sell some/all. There are only a limited number of investors with the experience and money to do such developments.

    Without the wide range of investors in that market, it's going to lose upto 20% of the purchasers; this must drive down the CG over the longer term (note it won't drive down prices, just the increase in prices over time). FHB's won't come in and make up the difference as there's no way they can afford the area now and the prices won't be dropping.

    That's why I see less CG in the med-long term for well located IPs. I agree with the higher rents for those investors already in that market.

    @keithj ?

    Also, if the CGT exemption is also abolished like the current government is flagging could occur (or go to 25% like Labor is stating), then buying IPs for CG is also a problem as part of wider portfolio creation since the APRA-lead serviceability tests generally mean a smaller portfolio. A smaller portfolio means more likelihood of needing to sell down 1-2 IPs later to be able to LOR (if that's the endpoint, which I think it is for many investors). If the CGT exemption goes, then selling 1-2 IPs no longer pays down the debt enough on the remaining IPs. The smaller portfolio is thus a really limiting problem in combination with the CGT removal and NG.
    The three together would make for a real triple whammy of effect in the mid-high priced suburbs of $500k+ value or <6% yield.
     
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  6. mcarthur

    mcarthur Well-Known Member

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    Yes, but the recent interest by many in Brisbane is a problem since BCC and surrounding councils don't (currently) like and support granny flats. I can see them suddenly becoming very important to yield elsewhere, but that will skew the rental market in those areas as well.
     
  7. RetireRich101

    RetireRich101 Well-Known Member

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    NSW and WA is state specific. QLD is council specific. MBRC, LCC, Ipswich is regulated to have GF. I would think other council such as BCC will follow in future planning.... But that's another discussion to this post.
     
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  8. propernewb

    propernewb Well-Known Member

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    Eh, this sounds like what you want to happen rather than what will happen. But I guess I'm being too harsh given that no one can really tell the future :p

    Why would rents increase if, as you say, housing supply is also increasing?
    Where is the extra income coming from?

    I don't see why the rate of rent increases will be different compared to what it has been in the past.

    I think property will continue to be a lucrative investment vehicle. But we need to bear in mind that there have been a heap of changes in the past year. Restrictions on foreign investors, new regulations for the housing market, tightening of finance, massive numbers of building approvals and now tax incentives being direct towards increased housing supply (via NG for new builds only).
    All of these changes are frankly negative and make declines more likely.

    Even if yields double from ~3.5% (in Sydney) to 7% (frankly a pipe dream given we're starting so low and income growth isn't going anywhere), that wouldn't outweigh the ~10%-20% loss that is being predicted. The only people holding property in that environment would be those who were CF+ve to start with.
     
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  9. Natedog

    Natedog Well-Known Member

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    I think that in inner city/ high popularity areas rents will likely increase as the demand for those locations will still be high especially with a growing population....If less investors are willing to add to the rental pool in those areas as the yields are crap and can't negative gear it may lead to less supply in an area in demand and the rent will increase.
     
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  10. gman65

    gman65 Well-Known Member

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    Yes, I just can't see in-demand areas suddenly not being so desirable, simply with with less investors around. There still are/have been the majority of owner occupiers bidding up the prices. The demand remains the same, or very close to the same, sans investor demand.

    Where you have a quite high percentage of investors in an area *then* you may see some effect, but it will be quite limited suburbs only.
     
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  11. Rolf Latham

    Rolf Latham Inciteful (sic) Staff Member Business Plus Member

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    Im not up on this.

    Who recalls Keatings 1985 attempt and why would the result be any different this time ? What is structurally different here ?

    ta
    rolf
     
  12. propernewb

    propernewb Well-Known Member

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    So then why aren't yields rising now? Inner city rental supply is probably driven by new dwelling construction rather than established dwellings. If is going to be kept for new construction then yield wouldn't rise faster than it is at the moment.
    problem is that those areas are already receiving increased supply with new builds
     
  13. propernewb

    propernewb Well-Known Member

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    "Sydney" has grown larger - the city includes more suburbs than in 1985. People no longer have to live near the city to work there - access via roads and public transport is better. Paramatta has been improving with some businesses moving operations out west. I'm not sure what construction was like in '85 but new builds are going up everywhere in 2015/16 with government poised torestrict NG to the very activity that would increase supply.
     
  14. propernewb

    propernewb Well-Known Member

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    yes will be interesting to watch investor-heavy suburbs e.g. mt druitt
     
  15. Natedog

    Natedog Well-Known Member

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    i don't mean inner city high rise, I should have said 10-20ks out from a city like Melbourne, the inner/middle suburbs where families live....these are the"popular" areas that I am referring to....where the supply is limited.
     
  16. DowntownBlock

    DowntownBlock Member

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    Going back to basic economic theory - you really need sustained increases in wages and employment to justify increased rents. I don't see this happening anytime soon unless someone knows of a pocket of growth / productivity in Australia that is poised to kick off? Most people agree that as China shifts from infrastructure phase (buying materials) to consumption phase (buying stuff), Australia will be long term loser so even that cash cow is drying up...
     
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  17. DowntownBlock

    DowntownBlock Member

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  18. mcarthur

    mcarthur Well-Known Member

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    Hmm - I'm trying to understand. Are there any figures showing a direct correlation between wages and rent? I'm not interested in theory, but actual figures from Australia...
     
  19. DowntownBlock

    DowntownBlock Member

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    Short answer - yes. Graph below from ABS presented by HIA.

    Rental costs and incomes: Household incomes are a key determinant of demand in the economy and the rental market will tend to reflect changes in income. The chart below illustrates the relationship between rental costs and incomes (as approximated by Average Weekly Earnings) over the past two decades. It is interesting to note that the balance between the two has remained within a relatively narrow band over this period, indicating that the proportion of income absorbed by rental costs tends to remain quite stable over time.

    upload_2016-2-17_17-56-52.png
     
  20. DowntownBlock

    DowntownBlock Member

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    Per above, short answer yes.

    upload_2016-2-17_17-58-5.png