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Responding To Ring-Fencing

There are five strategies you can use to mitigate the impact of the ring-fencing regulations, writes Andrew Nicol.

By: Andrew Nicol

1 October 2019

The recently passed ring-fencing legislation will impact a large number of mum and dad investors. Surprisingly, for such a core piece of law-making, the media has been unusually quiet.

Before The Legislation Was Introduced

Up until this point, investors could claim an income tax credit on any losses their properties made. the tax credit made property investment less costly for regular mum and dad investors, making it easier for them to enter the market.

Let’s say your investment made a taxable loss of $12,000, and you were on the top tax rate of 33%. You could then claim approximately $4,000 back from the tax you’d already paid through your employment. This tax loophole has now closed.

Who The Legislation Will Impact Most

The contents of the new laws will primarily affect investors who hold negatively geared properties, decreasing their income and making it more costly to enter the market.

Mum and dad investors who have leveraged their own homes to secure the deposit for their investment will be among the most affected. That’s because they tend to have the highest interest costs and therefore, higher expenses.

‘Despite increased costs, don’t react and sell too quickly, especially if you can bear the extra $30 a week’

Five Strategies You Can Use To Respond

1. Review your mortgage to decrease your expenses. Interest rates have fallen sharply in recent times. You may be able to refinance your mortgage to take advantage of falling interest rates, thereby minimizing your expenses, and making up for some of the additional loss.
2. Invest in cashflow-positive properties. Let’s say you have two negatively geared properties that will now cost an extra $75 per week each ($4,000 a year). You might then invest in a positively geared property like an Airbnb, which might have an average weekly profit of $150. In this case, you could use the additional cash flow to pay for losses you incur as a result of the legislation.
3. Review your structures. The legislation takes a portfolio-based approach. Under the previous tax system, investors had an incentive to hold positively geared properties in a separate entity to negatively geared investments. That’s because a cash flow positive property would offset your losses and decrease the level of tax refund received. The opposite is now true. You are now incentivised to hold all properties in the same entity, so losses from negatively geared properties offset the tax liability on cash flow positive investments.
4. Increase rent. Lawmakers have inflicted additional costs on landlords over the last two years, from ring-fencing through to the Healthy Homes Act. Many landlords are considering passing some of this cost on to tenants. Because the new laws are a market-wide change, we expect to see a market-wide response. Talk to your property manager to see whether there is space to increase rent.
5. Don’t react too much. If you’re already topping up your property by $50 per week, you may need to increase this to perhaps $80 a week. Despite increased costs, don’t react and sell too quickly, especially if you can bear the extra $30 a week. That’s because any losses you make through depreciation are held within the company. These can be used to offset any tax liability you may incur in the future through positively geared properties or the sale of assets within the bright line. Many negatively geared investments do tend to become cashflow positive over time, so the losses made now can be used in the future. While ring-fencing will likely make it harder for mum and dad investors to hold a portfolio, it doesn’t change the
fundamental attraction of the asset class. The key is to implement strategies so you can stay invested in the market, rather than being forced to sell early.

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