Should I buy a negatively geared investment property?

Tuesday, 1st Aug 2017

negatively geared investment propertyA negatively geared investment property is commonly considered a tried-and-tested approach to property investing, however this strategy certainly isn’t suitable for everyone. Here’s why.

Although negative gearing can be beneficial as it allows property investors to reduce their taxable income, it shouldn’t be viewed as a standalone investment strategy.

If an investor buys a property purely for its negative gearing benefits, they’re likely to be left with an under-performing investment that doesn’t align to their wealth creation strategy.

Cash flow or capital growth?

Typically, the goals of any given property investor fall under two broad groups – that is they either want additional cash flow through rental income, or they want to increase their wealth via capital growth of the property.

Negative gearing is not suitable for investors who want additional cash flow. That’s because it actually costs money for investors to hold a negatively geared property because the rental income doesn’t fully cover the repayments for the loan (and therefore the investor has to use their own money to meet the balance of the repayments).

Investors who want additional cash flow need to target positively geared properties – these are typically newer residential properties but commercial properties generally make the best cash-flow positive assets because they offer higher rental yields than residential.

So what about investors who want capital growth – should these people seek a negatively geared property? In short, no.

Understanding your priorities

For investors who want to increase their wealth via capital growth, negative gearing should not be a priority.

Instead, the priority should be on finding investment properties that will record superior capital growth. By doing so, investors will be better positioned to grow their personal wealth.

Put simply, negative gearing should only be viewed as a by-product of properties that offer high capital growth prospects. So it’s important to stress that negative gearing should not be used as a standalone strategy.

In summary, for investors wanting to increase their personal wealth, choosing a property should always be based on its capital growth potential and not its negative or positive gearing benefits.

What about properties with high capital growth and high rental yields?

Typically, residential properties will either offer high capital growth prospects or high rental yields.

There can be rare instances when properties do offer both, but these are generally for only a short period of time. For example, take some rural towns in Western Australia and Queensland that experienced double-digit capital growth and yields of 10%+ during the resources boom.

Therefore, investors who want to increase their personal wealth should focus on properties that are set to achieve high capital growth over the long term.

Simply seeking properties with the best negative gearing benefits could lead investors to acquiring an under-performing asset that will fail to optimise their returns.