From: yar@cs.su.oz.au (Ray Loyzaga)
Subject: Re: Negative Gearing
Reply-To: yar@cluster.cs.su.oz (Ray Loyzaga)
Organization: Basser Dept of Computer Science, University of Sydney, Australia
Date: Fri, 20 Nov 1992 05:52:53 GMT

In article <1992Nov19.084457.23632@trl.oz.au> c.oneill@trl.oz.au (Chris O'Neill) writes:
>In article <1992Nov19.033826.19190@cs.su.oz.au> yar@cs.su.oz.au (Ray Loyzaga)
>writes:
>>In article <1992Nov18.005443.8650@trl.oz.au> c.oneill@trl.oz.au (Chris
>O'Neill) writes:
>>>In article <BxusMp.29n@bunyip.cc.uq.oz.au> kerry@citr.uq.oz.au (Kerry
>Raymond)
>>>writes:
>>>>Negative gearing and making a gain are not possible simultaneously!
>>>
>>>They are!!
>>
>>What the guy actually meant to say was that "negative gearing"
>>is a term used to describe the situation where the costs of funding
>>a project outweigh the returns, 
>
>when you don't consider capital gain (inflationary or otherwise)

Yes, exactly that is the definition, so if you don't like the
definition why not write an earth shatterring economics text
and revolutionise the terminolgy.

>>since the most popular example is
>>property it means that the sum of (mortgage interest, rates, insurance,
>>utilities, legal and agents fees and various other duties) is more than
>>the rental income of the property. This property is said to be
>>negatively geared.  A property is positively geared if the reverse is true.
>
>Thank you for reminding us what negative gearing is.  My point was about more
>than just the definition of negative gearing.

Your point is a mish-mash of ideas, you at some point raise the bogey
of "negative gearing" when in effect it is the fact that interest costs
are tax deductable that is making these effects. Negative gearing has
nothing to do with it, GEARING does, both positive and negative.

>>>Negative gearing does not view the inflationary part of capital gain as
>taxable
>>>whereas it does view the inflationary part of interest on borrowings as tax
>>>deductable.  This is how you make a gain while fobbing the loss on to the tax
>>>office:
>>
>>Under the present capital gains tax legislation, nothing views the
>>infaltionary part of the capital gain, it is the same whether the
>>asset is negatively geared, positively geared or purchased outright.
>
>That was part of my point.

No it wasn't, you only talk about negative gearing. I guess
it is because it is a nice emotive term like multinationals and
refugees.

>>>If the real interest rate on borrowings is 10%, the rate of inflation is 8%
>>>(thus the nominal interest rate is 18%), the real rate of return on the
>>>investment is 6% and the tax rate is 48.5%, then the negatively gearable loss
>>>is
>>
>>What you really mean to say is, you pay an interest rate of 18%,
>>inflation is 8%, therefor the "real" interest rate is 10%. 
>
>Thanks for the re-iteration.

No, I happen to state it according to how most people will understand
it, after all the term "real interest rate" has also been used to refer
to the difference between the average cost of funds and the interest
charged on bank loans, I an remember many instances of people
complaining that Australia has very high "real interest rates" because
you could typically get 3-6% on your savings but you pay 10-16% on
your loans.

>>(obviously
>>you did your calculations in the late 80's).
>
>That's what we were talking about.

So can you explain (after all it is your thesis that the cause of all
our problems is negative gearing) why in the last 100 years, barring
the short period 1987 to current, when there was ZERO capital gains tax
and full tax deductability on interest we didn't have a late eighties
style mess? Yet only in the late eighties (Sept 1987 onwards) we end
up in a mess and the only change is the addition of inflation indexed
capital gains tax. You would have thought this change would dampen
the enthusiasm of this type of investment.
Maybe there is something wrong with your theory ... I'll tell you what
it is if you send me some money ...

>I have made calculations of the loss the tax office makes in two other
>articles.  Make sure you read at least the second one (which includes a lot of
>the first one anyway).

Sadly I must report that I have read all your articles, why not be more
succinct, just post your theory, most of us understand the numbers but
can't work out what you are trying to say, one minute it is
"negative gearing is evil", "negative gearing caused the late eighties
nightmare", "interest should be tax deductable", "interest shouldn't be
tax deductable". Just come out and say what your amendments to the
current laws relating to investment are, and then we can see how they stand.

>>>>Negative gearing is where the cost of borrowing exceeds the income
>>>>produced. When there is a gain (i.e. when the income exceeds the
>>>>interest payments), then it is *not* negative gearing.
>>>>
>>>>Suppose I borrow $100K at 10% 
>>>
>>>I presume you mean 10% nominal.  It is not clear that you understand the
>>>difference between nominal and real.  The real interest rate is:
>>
>>Very few people talk about real interest rates, name one bank that
>>quotes "real interest rates", 
>
>Their economists do, but not to plebeians like you.  It would be worthwhile if
>more people were familiar with the concept.

As I have stated above, real interest has more than one meaning.

>>I note that the real interest rate
>>was completely irrelevant to your calculations, so why did you mention it?
>
>Well if you had been following the thread from earlier on you would have
>noticed where I said:
>
>The fundamental point is that if I borrow money at say 10% real and use it to
>finance an investment returning say 6% real then I am making a real loss which
>has to be abosrbed by someone somewhere or other.  If the tax system makes it
>possible for an individual to profit in this situation then the tax system is
>absorbing that loss.  It means that overall, our community is incurring a net
>loss even though the individuals doing the negative gearing are making a gain
>for themselves.

And thats where we disagree, if you borrow money at 0% real, (lets say
10% nominal 10% inflation) and make 6% real, then you are still making
a tax loss, and it has ZERO to do with the "real" interest rate.
So maybe now you will agree that "real" interest rates have NOTHING
to do with what you are talking about other than an attempt to show that
you might know one more psuedo-economic term that most on the net,
I thought you could have thrown in "due diligence" it has been in the
press quite a bit lately.

>The real interest rate has fundamental importance.

I agree, ZERO is a fundementally important concept, but sadly
the "real" interest rate has nothing to do with this.

>>For a large part of the eighties, there was no capital gains tax, this
>>came in in late '85. Before that there was a speculative gains tax.
>>Capital gain is available no matter what the gearing is, the real
>>benefit to the investor of all this is that they can basically
>>use capital gains to grow someone elses money, and reduce the cost
>>of using that money.
>
>Thanks for this way of thinking about the situation.  This doesn't mean that
>what I've said is wrong.

Well actually it kind of does....

>>Like I said, show me how much money the tax office makes in a zero
>>investment climate. 
>
>As I mentioned, I have calculated how much the tax office loses in another
>article.  And contrary to your implication, it is not necessary for the tax
>office to indiscriminately subsidize loss making investment for there to be any
>investment.

It isn't indisriminant, it is quite explicit, the deduction is only
permissible if the investment is made with the intent of producing a
profit (even over time), I believe that the Adelaide Steamship company
had a ruling go against it last year because they had made investments
purely to reduce their tax liability (they bought companies with large
carried forward tax losses), they had to pay up a few hundred million.
Removing negative gearing will slow down the investment cycle, simple as that.

>>Or if you disallow interest payments as a deduction,
>
>I didn't say disallow interest payments as a deduction.  I just said disallow
>negative gearing against unrelated income.

Gosh, what a quaint idea, i guess you really mean removing the ability
to write off loss making businesses against an unrelated area, negative
gearing is not something that should be disallowed, if I want to invest
in something that will make a loss for a few years it shouldn't be disallowed,
what you are trying to say (but can't because you want to keep raising the
negative gearing monster) is that I should not be able to use those losses
against my other income. Of course, contrary to what you say, this means
that you must disallow interest payment deductions, since by definition
when negative gearing is happening, you only have other income.

>>how much effect will the increased effective cost of funds have on
>>investment.
>
>It won't have any effect on productive investment.

Wrong.
Many negatively geared investments are productive, they just don't make
a profit to the owners YET.

>>>>Renting
>>>>houses is a business! 
>>>
>>>but independent of earning a salary.
>>
>>who cares.
>
>Yes, I know you don't care about getting my point.

You don't have a point.

>>>>The shop keeper can deduct expenses like rent of the
>>>>shop and interest on the loan to pay for the fit-out. The landlord can
>deduct
>>>>expenses like rent of the purchase price (i.e. interest repayments) in
>exactly
>>>>the same way. 
>>>
>>>Sure, but why is he entitled to deduct them against some independent source
>of
>>>income?
>>
>>Ok, would you then allow the $5k tax free threshold on each independent
>>business activity? Or will you treat income in one lump sum? Doesn't
>>this lead to a bit of a problem???
>
>You'd better explain what the problem is.

Well on the one hand you treat income as a lump some to levy taxes upon,
but when it comes to losses incurred you treat it differently on some
arbitrary division of types of business activity. Who makes these
arbitrary delineations? Is a green grocer able to write off a loss
on green beans against the profit he made with avocados?

>>But you are arguing that they should be, you are arguing that
>>the costs of the capital base (interest) should not be deductable,
>
>no, just that negative gearing of any cost against unrelated income should not
>be allowed.

Like I said, with negatively geared investments, there is no related
income.

>>whereas I would be arguing that the inflation component of earning
>>interest income should be deducted from the interest to bring it
>>into line with the capital gains tax rules.
>
>Ah yes, inflation adjustment of taxation, that would also solve the problem
>(seriously).  But as we know from bitter experience, there's a snowflake's
>chance in hell that the government would implement inflation adjustment of
>taxation.  I have tried to determine if there is another fundamental defect in
>the tax system that causes the problems with negative gearing and I have found
>that it is negative gearing against unrelated income.

No, not tax indexation, sheesh, you should only be taxed on the
non-inflation component on any investment which for most people
is restricted to bank accounts.

>The problem with negative gearing would not exist if inflation adjustment of
>taxation occurred.  This is because the inflation adjustment would remove a lot
>of the tax deductability of interest and hence make unproductive investments
>unprofitable to their owners.

Que? I think someone turned the power off .... is any one home...

>However since there is no hope of inflation adjustment, I have studied the
>fundamental defect in negative gearing.

certainly fundemental defects have been revealed ....

>>>>so do people who buy investment property.
>>>>Both are risking their current income or savings because they believe that
>>>>in the long term, they will make a profit -- a profit that will then be
>taxed.
>>>
>>>After the tax office has lost vast amounts in lost interest.
>>They haven't lost a thing, thats the law, 
>
>They lose, read my examples.

They also lose because they give an tax free threshold to individuals,
maybe you should argue against this to.

>>>>Negative gearing makes it possible to start-up small businesses, 
>>>
>>>with the tax office as a loss-making shareholder
>>
>>Lets call it a "subsidy".
>
>Yes it's a subsidy of loss making enterprises.

Lets call it a subsidy for starting an investment which by law
requires you to be attempting to become profitable.

>>>I don't believe that it's evil to try to do better than bank interest but
>that
>>>doesn't mean that I think negative gearing is not evil.
>>
>>Funny, I think that in many circumstances, capital gains tax is evil.
>
>perhaps because you can avoid it so often.

No, because I think that any realised capital gain should be untaxed
if it is re-invested within a small period of time, as an example
if a green-grocer decides to sell his shop to move to a better
area, he should be able to re-invest the whole amount, no tax.
If he decides to buy a boat instead, he should pay tax.
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