Gearing doesn’t seem to have the buzz around it that it once did.
The government tried to play around with the deductibility of gearing in the last budget but ended up leaving it alone.
There has also been talk that the government would stop the ability of an SMSF to borrow to purchase real property for the last few years but at the moment this is still a legitimate strategy.
These constant threats of tinkering have caused many to be wary.
So why borrow money to invest? Sometimes people use it to purchase an asset they couldn’t afford to do with just their own funds or other times people are trying to increase their overall returns by the assets return outweighing the interest payable.
You have probably heard of negative gearing, but the situation may be positive geared or even neutrally geared. Negative gearing is when the income from the investment is less than the costs of borrowing. Positive gearing is when an investment pays for itself, in that the income from the asset is greater than the costs involved and neutral is when they are the same.
Negative gearing is a forced form of savings in that you have to utilize your own cash flow to assist in paying the loan repayments for the asset. So you have to have the cash flow available to do this.
You don’t see so much the borrowing to buy into shares anymore. Prior to the GFC it was quite popular. However at this time many margin calls were enacted and things became very hard for investors having to find funds to put money into a rapidly falling investment.
People usually use gearing to buy into an asset they otherwise wouldn’t be able to purchase. For example a large property; whether that be residential or commercial. How do you purchase some of these items without it? Save up the entire sum? Go into a syndicate and purchase the property jointly? Not all of these solutions would be suitable in some situations, you might want to maintain control, you need to do it quickly or it’s bigger than all of those methods combined.
I think all in all people have become more conservative since the GFC, gearing is seen as less appealing, as yes whilst is does increase your opportunity for returns it does amplify the losses in a downturn.
I believe gearing is always going to have a place when we are speaking about property. It is not utilised as much as it was once, which doesn’t have to be a bad thing. It means people are more conservative and thinking about the returns and costs to their future. Do they really need to borrow to get to where they want to be?
If you wish to obtain further information on the options available to you in regards to gearing or have any questions regarding this please give the staff at Ritchie Advice a call, we would be more than happy to help.
This advice may not be suitable to you because it contains general advice which does not take into consideration any of your personal circumstances. All strategies and information provided in this article is general advice only.
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