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If you are looking to invest in property, you will have come across the term ‘positive and negative gearing’.

Before building or selecting a property to invest in, it is important to determine what your investment ‘gearing’ strategy is. This is where an understanding of whether your home is positively geared (a cash-flow property strategy) or negatively geared (a capital growth property strategy) becomes significant.

For a better understanding of what these terms actually mean, we have compared the two strategies and outlined the benefits and drawbacks of each. Consider both carefully before purchasing your investment property!

Positive Gearing (a cash-flow property)

gearing

Generally considered the safer, more conservative method, positive gearing occurs when the rental income on your investment property exceeds the cost of maintaining it, including loan repayments, interest, rates and maintenance fees. Positive gearing allows for short-term profit, as the extra cashflow works as an additional income stream. Positive gearing works in areas where rental demand is high (so investors can charge higher rent) and when interest rates are low.

Advantages

Disadvantages

Negative Gearing (a capital growth property)

gearing

Negative gearing occurs when the property runs at a loss – that is, the rental income is less than the costs of maintaining the home. Investors will need to use their own funds to make up the shortfall. Ideally, a negatively geared investment will grow in value over time, and the increased profit from selling it is expected to outweigh the initial financial losses. Negatively geared homes are often located near capital cities, which generally perform better and increase in value over a longer period.

Advantages

Disadvantages

 

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*Hotondo Homes is not an authorised financial adviser so please seek professional advice for your investing enquiries

In Australia, interest rates are determined by the Reserve Bank of Australia (RBA).  They are decided by a number of factors, including the state of the economy and the rate at which people are saving and borrowing money. 

The majority of home sales in Australia are supported through the borrowing of money from banks or mortgage lenders.  This close relationship means that the domestic building industry is often affected by changes to interest rates.

What are interest rates?

Interest rates are basically taxes designed by the lender in order for the borrower to get a home loan.  This is usually determined through a percentage on the total amount loaned.  The higher the rate, the more money a borrower must pay in the form of interest on the loan.  The RBA sets a rate at which it lends money to the bank and then they determine if they will pass it down to individual borrowers.  They can be fixed or variable.  Variable Interest Rates may go up and down over the time you have the loan, whereas Fixed Interest Rates remain the same.

interest rate symbol

Interest rates are basically taxes designed by the lender in order for the borrower to get a home loan.

Why are they significant?

When interest rates are low, people are more likely to borrow money, because the money they have to pay back is significantly less.  In contrast, when interest rates are higher, borrowing becomes more expensive and it lags as a result.

Why is property such a good investment?

According to Michael Yardley, the director of Metropole Property Strategists, investing in residential property is a more stable investment than stocks and shares, because of their greater capacity for future capital growth.  A recent report released by Russell Investments recorded that over the last 20 years Australia’s residential real estate grew by 9.95 percent on average.

Need help?

For more information regarding what you can afford given your income and current interest rate, contact Mortgage Search.

References

The Australian Property Investor: http://www.apimagazine.com.au/
Michael Yardley’s Property Update: http://propertyupdate.com.au/author/myardney/

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