The cost of negative gearing is set to blow out as interest rates rise and, with it, the capital gains tax discount is expected to cost the federal budget more than $20 billion a year within a decade.
Modelling by the independent Parliamentary Budget Office (PBO) — commissioned by Greens leader Adam Bandt — estimated that negative gearing would drain $12.7 billion from budget revenue in 2023-33 at the current cash rate of 2.85 per cent.
Should the cash rate rise to 3.35 per cent — fairly close to the Reserve Bank of Australia's estimate of what might be a longer-term "neutral" cash rate — that cost would blow out further, to $13.8 billion.
Last year, the PBO said the ability of loss-making property investors to write-off those losses against their other income cost the budget around $3.8 billion in forgone revenue.
However, that was with interest rates at record low levels. As rates have risen, so too have interest costs and, therefore, the income losses for indebted property investors, increasing the cost to the federal budget of mortgage debt deductions.
If the cash rate stays where it is, the PBO modelling suggests the cost of negative gearing to the federal budget will roughly double from current levels by 2023-24 — the first full financial year at the higher interest rates.
Under a scenario where it rises to 3.35 per cent, the revenue forgone through deductions by negatively geared property investors would hit $8.2 billion in 2023-24.
Many economists are tipping a cash rate peak of up to 3.85 per cent, which would further increase those losses beyond the scenarios modelled by the PBO.
"The higher interest rates go, the more negative gearing will cost the budget," said Greens MP and housing spokesperson Max Chandler-Mather.
"Right at the time when the government needs extra revenue to help alleviate the cost-of-living crisis, they are instead handing it over in the form of tax concessions to wealthy property investors."
The other key tax break for property investors, the capital gains tax (CGT) discount, cost the budget around $4.7 billion last financial year.
This is expected to decline very slightly with the fall in property prices since then, before gradually rising over time to reach $7.7 billion by 2032-33.
Combined, the two main property investor tax breaks are expected to cost the budget around $20.4 billion in revenue forgone in financial year 2032-33, up from about $8.5 billion last financial year.
Under the PBO's modelling, rising interest rates are not assumed to have any effect on property prices or rents charged.
If landlords managed to pass on some of their rising interest rate costs through higher rents, that would minimise their income losses and, therefore, the amount of tax deductions they could claim against any other income.
Likewise, if rising interest rates resulted in continued falls for property prices, that would reduce the amount of capital gains being made and, therefore, the budget cost of the 50 per cent CGT discount.
The PBO also pointed out that revenue forgone does not exactly equate to extra revenue that would be raised if the tax breaks were removed, as investors might change their behaviour in response to different tax policies.
'Deeply unfair' distribution of tax breaks
However, the modelling again highlighted who would get the most benefit from the two property investor tax breaks.
It showed that people who currently earn more than $129,200 a year — the top 10 per cent of income earners — currently account for 39 per cent of the revenue lost to negative gearing.
They account for 85 per cent of revenue lost to the capital gains tax discount, although it noted that this is skewed by the fact that capital gains push up people's income in the year that they are realised and taxed.
At the other end of the income spectrum, the bottom 50 per cent of income earners — those on less than $51,500 per year — accounted for less than 4 per cent of revenue lost to the CGT discount and less than 16 per cent of negative gearing benefits.
"Negative gearing and capital gains tax discounts work together to artificially inflate house prices, and turbo charge inequality, funnelling tens of billions of dollars into the pockets of the top 10 per cent of income earners in Australia," Mr Chandler-Mather argued.
"These tax concessions alone mean it is often easier for a property investor to buy their fifth house, rather than someone to buy their first home, and that's deeply unfair."
