While expenses can be claimed for a wide array of income-producing assets, property is where most of the activity is centred.
Investment-related expenses can include management fees for an investment, account-keeping fees, insurance, land tax, depreciation, maintenance expenses, and interest on borrowings used to purchase an income-producing asset. $41.7 billion in rental expenses were claimed in 2012-13 against $36.5 billion of rental income.
Two-thirds of taxpayers with rental income in this same period made a loss (totalling net rental losses of $12 billion). Negative gearing is popular. As an investment strategy, negative gearing makes sense if the expected capital gain when the property is sold exceeds the rental losses over the life of the investment. However, there is little doubt that the ability to reduce personal income tax using investment property losses is an attractive and viable strategy for high-income earners.
The Grattan Institute’s submission to the Inquiry flags two potential scenarios.
First is quarantining losses against investment income only. That is, you would lose the ability to offset investment losses against salary and wages and instead could only offset these against capital profits or gains. Or, an alternative strategy is that taxes on gains and losses could be aligned so that if you were entitled to a 50% reduction on a capital gain, you would only be entitled to an equivalent deduction for expenses.
When it comes to convincing voters that cutting back on deductions is a good thing, investment-related deductions are generally targeted as they are not as transparent and are generally attributed to more affluent members of the community (although this is not an accurate picture as many self-funded retirees and Mum & Dad property investors will tell you).
With the next election just around the corner, it’s unlikely we will see a major overhaul in the very near future. The path of least resistance is to reduce the discount on capital gains available to individuals, trusts, and superannuation funds.
It’s more likely however that the regulators will continue to whittle away deductions rather than making wholesale changes – as we have already seen with the recent changes impacting residential investment property – while relying on the ATO to reign in excessive claims.