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Understanding Positive & Negative Gearing

Understanding Positive & Negative Gearing
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When people borrow in order to invest, this is what is called ‘gearing’. If you have borrowed money to invest in property, here’s how you know if you are positively or negatively geared: if you are making a profit you’re positively geared, if you are losing money you’re negatively gearing. But, both are costing you money, here’s how…

What is negative gearing?

If you have invested borrowed money, and the income generated from that investment is less than its expenses, this is what is called negative gearing. Negative gearing is actually quite common among property investments, such as: a rental income that is less than interest repayments plus expenses. Essentially, negative gearing means you are losing money.

A property investment that is negatively geared is at times considered acceptable to the investor if they can offset the loss with future capital gain, such as when the value of that property investment increases. A negatively gearing property investment will also reduce your taxable income (reduce the amount of Australian tax you pay).

A negatively gearing property investment is only ever acceptable if you have another source of income, because in the short-term you are losing money for the potential of a larger long-term gain.

What is positive gearing?

The opposite of negative gearing is positive gearing. When the income generated by your investment purchased by borrowed funds is higher than your interest repayments plus expenses, this is what is called positive gearing. Essentially, your property is profitable and making you money.

The downside to the extra money: you will have to pay tax on the additional net income. The upside to a positively geared property investment: you have an ongoing source of income as well the potential capital gain from your property’s increase in value.

Positive vs negative gearing

In summary, negative gearing isn’t as negative a situation as the name suggests, but only if you have an additional income source and can manage the short-term loss. Negative gearing is a popular tax minimisation strategy among property investors, but a positively geared investment can increase your income and increase your return on investment.

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