How Do You Calculate Negative Gearing

Negative gearing is a real estate investment strategy where an investor's interest expenses exceed their rental income. This creates a tax deduction that can reduce the investor's taxable income, potentially leading to a tax refund. Calculating negative gearing involves understanding the relationship between interest payments, rental income, and tax implications.

What is Negative Gearing?

Negative gearing occurs when the interest paid on a property's mortgage exceeds the rental income generated by that property. In Australia and New Zealand, negative gearing is a tax incentive that allows investors to deduct their interest expenses from their taxable income, potentially resulting in a tax refund.

The concept is based on the idea that the government is effectively subsidizing property investment by providing a tax benefit for those who borrow to invest in real estate. This strategy is popular among investors who believe they can achieve positive cash flow in the future by increasing rental income or selling the property at a profit.

Negative Gearing Formula

The negative gearing ratio is calculated by comparing the annual interest expense to the annual rental income. The formula is:

Negative Gearing Ratio = (Annual Interest Expense / Annual Rental Income) × 100

A negative gearing ratio greater than 100% indicates that the interest expense exceeds the rental income, qualifying for the tax deduction. The actual tax benefit depends on the investor's marginal tax rate and the specific tax laws of their country.

How to Calculate Negative Gearing

Calculating negative gearing involves several steps:

Determine Annual Interest Expense: Calculate the total interest paid on the property's mortgage over a 12-month period.
Calculate Annual Rental Income: Sum the total rental income received from the property over a 12-month period.
Compute Negative Gearing Ratio: Divide the annual interest expense by the annual rental income and multiply by 100.
Assess Tax Implications: Determine the potential tax savings based on your marginal tax rate and the negative gearing ratio.

Use our calculator to quickly compute the negative gearing ratio and estimate your potential tax savings.

Negative Gearing Example

Consider a property with the following details:

Annual interest expense: $12,000
Annual rental income: $8,000

Using the negative gearing formula:

Negative Gearing Ratio = ($12,000 / $8,000) × 100 = 150%

This 150% negative gearing ratio means the investor's interest expense exceeds rental income by 50%. If the investor's marginal tax rate is 30%, they could potentially save $3,600 per year in tax.

Negative Gearing vs Positive Gearing

Negative gearing and positive gearing are two different approaches to real estate investment:

Aspect	Negative Gearing	Positive Gearing
Definition	Interest expense exceeds rental income	Rental income exceeds interest expense
Tax Benefit	Tax deduction on interest expense	No tax benefit (but potential capital gains)
Risk	Higher risk due to potential tax refunds	Lower risk with stable cash flow
Investment Strategy	Long-term holding with tax benefits	Short-term rental or buy-and-sell strategy

Investors should choose between negative and positive gearing based on their financial goals, risk tolerance, and market conditions.

FAQ

What is the difference between negative gearing and positive gearing?

Negative gearing occurs when interest expense exceeds rental income, allowing for tax deductions. Positive gearing happens when rental income exceeds interest expense, providing stable cash flow.

Can I negative gear a property with no rental income?

Yes, you can negative gear a property even if it has no rental income, as long as you have interest expense on a mortgage for that property.

How does negative gearing affect my tax return?

Negative gearing reduces your taxable income by the amount of your interest expense, potentially leading to a tax refund if your deductions exceed your taxable income.

Is negative gearing available in all countries?

Negative gearing is primarily available in Australia and New Zealand. Other countries may have different tax incentives for property investors.