Owning property is the investment choice of many Australians. You may have heard of negative gearing - when the income generated from your property is less than its expenses - but this isn’t the only outcome you could have when investing in property.
According to the Australian Taxation Office (ATO), 40% of investment properties owned by Australians are either neutrally or positively geared - but how does it work?
Positive gearing means that the income being generated by the property is more than its expenses; this is commonly seen with rental properties.
Positively gearing is the opposite of negatively gearing property, meaning that your rental property has a positive cash flow - this is why a 'positively geared' property is also known as a ‘positive cash flow’ property.
You may find that your investment property is positively geared if you purchased a home with a large deposit - leaving less of the purchase price to be taken out via your mortgage - or if you purchased in a high-demand rental market.
Expenses of purchasing an investment property could include your investment home loan (including interest charges), property management fees, council rates, strata fees, and more.
Depending on how much rental income you receive, you may not have a positively geared property straight away. It may take time for your property to generate positive cash flow - like when you’ve paid down more of your mortgage or raised your weekly rental amount - but the alternative is neutrally or negatively gearing the property.
Calculating positive gearing is quite simple: if the income is more than the expenses - the property is positively geared. This can be illustrated with an example.
Let’s say you purchased an investment property worth $400,000 with a 30% deposit ($120,000), leaving you with a $280,000 mortgage. Assuming you take out a 30 year loan term using our Smart Investor Loan rate currently at 2.74%, you can expect to pay a monthly principal and interest mortgage repayment of $1,141.59. This would equate to a weekly mortgage repayment of $285.40. But you charge $400 per week to rent out the property.
Additional expenses may include property management fees ($20 per week); council rates ($1,000 per year); and strata fees ($50-100 per week). Given this example, over one year your rental income is $20,800 and your expenses equal $17,880 ($14,840 mortgage +$1000 rates + $1000 strata + $1040 property management ). So, your property is positively geared by $2,920 (before tax).
While it might all sound too good to be true, there are still things that should be considered before investing in a positive cash flow property.
Firstly, the income generated from the property is taxable. This will raise your taxable income from just your salary/wage to your salary/wage plus rental income. You could find this pushes you into another tax bracket, which could mean you’re getting taxed at a higher rate.
Investing in positive cash flow property likely means you’ve put down a hefty deposit. You should consider whether this is the right investment move for you, or whether you’d rather take on a bigger mortgage and neutrally/negatively gear the property. This decision will be completely up to you.
Another thing to consider is that investing in a positively geared property might mean it’s cheaper to purchase - which is often the case with properties located in areas where the rate of growth is inconsistent. This means that the future value of your investment can be hard to determine.
A sound positively geared investment property can be hard to come by in some areas. With the inflated prices of property in city centres in particular, it may not be possible to make a positive return even when any incoming rent is considered. Simply, location plays a big part in the success of a positively geared investment property.
At the end of the day, positive gearing may sound like the go as it makes the property seem profitable straight away. However, many experts argue that the real value of an investment property lies in its capital gains - which both types of property investment are likely to generate.
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