Tax Analysts Blog

Why Negative Gearing Could Decide Australia's Elections

Posted on May 24, 2016

Australia's 2016 election is underway. On July 2 voters will determine whether to change prime ministers for the fifth time since 2010 or to return Malcolm Turnbull's Liberal government to a full term. Because of a radical Labor proposal on negative gearing and the Liberals pushing for a major corporate tax cut, tax policy is likely to play a major (if not deciding) role in the race.

The Liberal government (which is technically called the Coalition and involves several right-of-center parties) made taxes a big part of its 10-year budget. Turnbull, who replaced the more conservative and abrasive Tony Abbott in an internal coup last year, wants to cut the company tax significantly to ward off concerns that the end of the mining boom will drag down Australia's economy. Turnbull's plan is to cut the company tax for small businesses to 27.5 percent this year, and to expand the definition of a small business to a firm with receipts less than AUD $10 million (which is five times higher than the current definition). The tax cut would phase in gradually for all businesses by 2024 and would continue to drop to 25 percent three years later.

For its part, the opposition Labor party likes the idea of a company tax cut for small business, but it doesn't like the idea of raising the threshold or expanding the cut to all companies. Labor touted the fact that by not going through with Turnbull's tax cut, it would save about $71 billion over 10 years (even though the tax cut itself was estimated to cost only $50 billion and Labor is in favor of at least a small part of it). The opposition also wants other tax increases, including capping student loan deductions and retaining a deficit-reduction levy of 2 percent on high earners.

But the biggest tax difference between the two parties is unquestionably over negative gearing. Negative gearing is a relatively unique feature of the Australian tax system that allows property investors who realize a loss to use that loss to offset other income. More than 60 percent of Australia's landlords claimed a loss in 2014, with an average deduction of around $10,000. Negative gearing costs the government about $10 billion a year.

Labor wants to change negative gearing, which is usually something of a third rail in Australian politics. The party would like to restrict its use to new houses after 2017 and cut the capital gains discount to 25 percent. Only current owners could continue to take advantage of negative gearing on old properties. Labor's argument is that investors buying old properties simply to use negative gear from them makes it hard for people to buy new homes because it inflates the value of property (much like the home mortgage interest deduction, but at least in the United States the incentive is not heavily slanted toward just investors with other income).

Many in Australia are outraged by the potential change, arguing that it would raise rents and hit the poor hardest. Turnbull's government has promised not to touch negative gearing or the capital gains discount, and the prime minister has taken every opportunity he can to call the Labor plan reckless and disruptive to the housing market. Others have said that property values wouldn't be overly affected.

The negative gearing debate is strikingly similar to what would happen in the United States if either party had the courage to campaign on a limitation to the home mortgage interest deduction. Virtually anyone connected to the housing market (realtors, home builders, wealthy homeowners) would oppose it and try to show that it would destroy the dream of homeownership.

In Australia, Labor is making the argument that pushing investors and landlords out of the existing homes market would lower prices and allow a greater number of average citizens to purchase housing. An elimination of the home mortgage interest deduction in the United States might have the same effect, but politically it would be almost impossible for either Republicans or Democrats to successfully make that argument over the cries of protest. And Australia's Labor Party might regret making such a radical proposal in the middle of an election campaign that could end up being much closer than expected.

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