As promised, here are my thoughts on the Budget, specifically a reflection on my personal property journey and what I would be doing differently now if starting over today under the new rules…
Elise and I were rentvestors for the best part of eight years before finally moving into our current home. We rented in various parts of Melbourne (where we wanted to live), while we accumulated investments elsewhere (Brisbane, Adelaide and other parts of Melbourne) which were more affordable at the time and offered prospects for higher capital growth. One good example was covered in this case study.
The strategy worked well for us and it inspired the first part of my model ‘25 year property strategy’ described in the Long Property book (I’ll need to update the book now, but link is here anyway).
After benefiting from capital growth, the theory was rentvestors could then sell one or more investment properties, then use the net sale proceeds to purchase their principal place of residence, with less non-tax deductible debt.
However after the tax changes announced in last week’s Federal Budget, the economics of rentvesting have changed dramatically.
For anyone who has already purchased a negatively geared residential investment property prior to Budget night, then the previous tax arrangements still hold.
Unless you are buying brand new properties now (where negative gearing still applies, but which is much higher risk), the rentvesting strategy will no longer be viable for most younger Australians.
In the absence of negative gearing higher leveraged investors purchasing lower-yielding residential properties face a much more difficult cashflow position.
This matters enormously for first homebuyers as they are usually the least financially resilient. They typically have limited savings, smaller cash buffers, they tend to borrow at higher leverage ratios and they tend to have less capacity to absorb prolonged cashflow losses.
Under the previous set of rules, many could justify holding a property that was negatively geared because part of the annual loss would be recovered (nearly half for high earners) through an annual tax refund.
This could keep rentvestors in the game, and the hope was that capital growth would more than offset the ongoing running costs.
But without negative gearing, most first homebuyers wouldn’t have the cashflow capacity or financial buffers required to hold these residential property investments for any meaningful length of time. And if you can’t hold the property long enough to benefit from the growth then the entire strategy breaks down.
This doesn’t mean residential property as a broader asset class is dead, but going forward investors will likely need stronger household incomes, larger cash reserves and lower leverage. This is older/ wealthier Australians. Not your typical first homebuyer.
It’s worth pointing out that despite newly established houses, townhouses and apartments still being eligible for negative gearing, these assets are inherently risky; think limited scarcity, high concentration of investors, inflated developer margins, construction and valuation risk.
There will always be quality new builds with genuine prospects for growth, however in my experience buyers face a real uphill battle. If the growth doesn’t eventuate, when you consider the holding costs over and above the transaction costs of buying and then selling, then the owner-occupier dream could easily get further out of reach.
Tying it all together, I can see a number of future first homebuyers starting to delay their first property purchases. Albeit rental costs are likely to rise now (less investors in the market means less rental stock being available, which will put upwards pressure on rents), making it harder for renters to meaningfully save up a deposit.
There will be another cohort of future first homebuyers who look beyond residential property to build up wealth in other ways before buying their first home. Commercial property or shares/ managed funds or even new business ventures may become the better option in many circumstances.
For others, they may decide to purchase the principal place of residence sooner, although this may require lowering expectations around property size/ location and compromising their purchase decisions in various ways.
These purchases may then not have the same longevity for buyers (they will outgrow or need to sell/ move sooner), but there are still practical and lifestyle benefits associated with owning your own home and any capital growth at least remains capital gains tax free. At least for now!!
In my mind residential property investment will likely skew from here towards older/ wealthier participants in the market. Those who are better capitalised and not as reliant on leverage.
There doesn’t seem to be much talk around this yet and hopefully it doesn’t (unintentionally) worsen inequalities in the housing market even further.
Thanks as always for reading.
Regards,
Daniel Gold
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