Submission to the Inquiry into Home Ownership Impact of Taxation
House of Representatives Standing Committee on Economics
The Bank has previously discussed the tax treatment of housing in Australia at length (RBA 2003b). Australia's treatment of property investors is at the more generous end of the range of practice in other industrialised economies, but not overwhelmingly so. In particular, a wider range of expenses, including some non-cash expenses, may be deducted against non-property income than is possible in some other jurisdictions. Capital gains tax (CGT) is also calculated at a concessional rate, although unlike in countries such as New Zealand, it applies to all sales of investment properties, not just those sold relatively soon after purchase.
The tax system also advantages owner-occupiers, particularly those with little or no debt: although they cannot deduct mortgage interest repayments from tax as in some other countries such as the United States, neither are they subject to taxation on imputed rent. Countries that tax imputed rent (e.g. Switzerland) tend to have lower home ownership rates than in Australia. In addition, unlike investment properties, capital gains from the sale of the principal place of residence are not subject to CGT.
A major tax change since 2003 is that the threshold for the top marginal rate has increased significantly relative to the overall income distribution. This has reduced the proportion of taxpayers with the strongest incentive to minimise tax through negative gearing. With mortgage interest rates also having fallen over this period, some properties might no longer be negatively geared.
The Bank believes that there is a case for reviewing negative gearing, but not in isolation. Its interaction with other aspects of the tax system should be taken into account. The ability to deduct legitimate expenses incurred in the course of earning income is an important principle in Australia's taxation system, and interest payments are no exception to this. To the extent that negative gearing induces landlords to accept a lower rental yield than otherwise (at least while continued capital gains are expected), it may be helpful for housing affordability for tenants. It is worth noting, however, that the interaction of negative gearing with other parts of the taxation system may have the effect of encouraging leveraged investment in property. In particular, the switch in 1999 from calculating CGT at the full marginal rate on the real gain to calculating it as half the taxpayer's marginal rate on the nominal gain resulted in capital gain-producing assets being more attractive than income-producing assets for some combinations of tax rates, gross returns and inflation. This effect is amplified if the asset can be purchased with leverage, because the interest deductions are calculated at the full marginal rate while the subsequent capital gains are taxed at half the marginal rate. Since property can usually be purchased using higher leverage than other assets that produce capital gains, property is especially affected by this feature of the tax system.
Another change in the landscape since 2003 is that superannuation funds are now able to borrow. Some self-managed superannuation funds have taken advantage of this by adding geared property into the fund portfolio, both residential and, in particular, commercial property. At the margin, this has increased the population of potential investors. Although the share of the housing stock owned by these funds is small, it has grown quickly (RBA 2013). The Bank has previously observed that leverage in superannuation funds may increase vulnerabilities in the financial system and therefore supports limiting the scope for leverage in these funds (RBA 2014c).
Properties acquired before 20 September 1985 are also not subject to CGT. Gains on properties sold within one year are subject to income tax rather than CGT.