When looking to invest in property you may come across the word gearing and wonder what that means. Gearing means you are borrowing to invest but there are actually two kinds of gearing, negative & positive, which we have explained here for you.
What is negative gearing?
Negative gearing is when your investment property generates less cash flows than it costs to own the property. This may seem like a bad situation but if you understand the benefits and risks involved when you negatively gear your property it may be the right choice for you.
Negative gearing creates a taxable loss for the owner, this can normally be offset by reducing the tax payable from your salary. If you know in advance that your investment property will record a loss this financial year you can apply with the ATO for a PAYG Withholding Variation which will reduce the amount of tax you pay from your income or salary which would mean more money hits your bank account each pay cycle.
There are risks involved with negative gearing however due to the fact that you are recording a loss. Although the benefits may be worth it for you in your investment you cannot ignore the possible complications of having a loss. There is always a risk with this options that the investment could eat into your savings substantially, some examples of times this would incur are; if you property is untenanted for a while or need major repairs, a drop in property values occurs and you investment does not increase in value or if interest rates suddenly rise and you have just signed a 12 month contract for the current rent price.
There are ways to minimise these risks however.
Being smart about the location and type of property you buy is always crucial when it comes to investments. A simple yet well maintained property in a location that is safe and convenient will always attract good tenants and increase your chances of property values rising.
Look at your financial position carefully before diving into your investment. You need to ensure that you can both fund the loan and also support the property in times when costs can be quite high.
You should definitely look into protecting and insuring not only the property but yourself as well if unforeseen events arise through the life of your investment.
What is positive gearing?
Positive gearing is when your investment property generates more money than it cost to own it. This options comes with much less risk than negative gearing as the investment pays for itself and generates the owner extra income. The important thing to remember is that your income will be taxable so you will need to set aside funds to cover that when tax time comes around. It is also important to consider that the property may not also have a tenant or it may need major repairs which you will need to fund so you still need to ensure you have sufficient funds for this if and when the situation arises.
This video may help to further explain gearing: https://www.youtube.com/watch?v=os6nMRD03XE
Investing in property is not a decision that should be made lightly, we here at Mortgage Choice at Springwood would love to help you achieve your investment goals! Come and see us to discuss the best options for you and plan a way to both minimise risks and deal with any complications that may occur during your investment.