How Negative Gearing Locks Young People Out of the Housing Market

Every year the Demographia International Housing Affordability survey tallies real estate prices in 87 metropolitan markets around the world to establish some comparative prices. This year, unsurprisingly, they discovered Australia is a really, really expensive place to buy a house. The third most expensive place in the world, apparently.

Reports like these tend to spark debate around negative gearing. But like a lot of financial terms, negative gearing is one of those things you might hear about, but not really understand. So what the hell is it?

Imagine you own a home, as well as an investment property that you rent out. If the amount you're paying on the second property's mortgage is greater than what you're earning from renters, then you can claim this loss—called the rental shortfall—back against your income tax. That's negative gearing.

The bad news is, as you might have deduced, you kind of need to be rich for negative gearing to be useful. According to research from the Grattan Institute, the richest ten percent of Australia's population claim almost 50 percent of the tax break. As Fairfax Media has reported, data published by the Australian Tax Office shows that "nearly 30 per cent of anaesthetists negatively gear their properties, compared to just 3.6 per cent of cleaners."

On the one hand this makes sense—if you were rich you'd probably buy a second property too. But that's only looking at the tax break from an individual perspective.

On the macro level, the net effect of negative gearing is to pump up housing prices. A 2011 study by The Economist revealed that housing in Australia was more than 40 percent overvalued, due in no small part to negative gearing, as well as capital gains concessions, and foreign investment.

WATCH: VICE's Julian Morgans breaks down the housing affordability crisis.

So imagine this time that you're not a surgeon. Let's say you're a medium income earner and you'd like to buy a house that isn't in some god-awful fringe suburb crammed with 24-hour pokies barns. And then let's assume that desire that will affect your vote on July 2. What are the two major parties' policies around negative gearing?

Well, the Labor Party has promised to get rid of negative gearing except on all new properties from July 2017, as well as reducing capital gains discounts from 50 to 25 percent. Only new properties will be unaffected, not ones that are currently negatively geared, which is what Bill Shorten means when he say they'll "grandfather" the policy.

"Labor will help level the playing field for first home buyers competing with investors," Shorten said, explaining the policy changes at a Labor conference earlier this year. "We will put the great Australian dream back within the reach of the working and middle-class."

University of Melbourne economics professor Neville Norman believes Labor's plan "is a step in the right direction, but a step will not be enough." As Norman explained, "the Australian dream of owning a home has been dead to more than half of the younger population for 10 years. None of the proposed changes are likely to fix that."

He backs this depressing prediction up with data from the Australian Bureau of Statistics, which highlights that prices rose by 11.4 percent in 2015 alone. Obviously, this is way out of step with average income increases. This gap between prices and incomes is one reason the Global Property Guide deemed that of all Australia's 51 housing markets—including the capital cities—only two were "affordable."

Unsurprisingly, Labor's policies have been met by backlash from Australian real estate agents, who've launched a multi-million dollar campaign claiming rents will increase and property values will fall, affecting 18 million people. However, Professor Norman dismisses the real estate sector's claims, putting them down to vested interests. "They don't have much of a point. It's an exaggeration and deserves to be rejected," he says.

The Liberal Party have gone the opposite direction to Labor, claiming there were factual errors in the Grattan Institute's influential housing affordability report. On that basis, Prime Minister Malcolm Turnbull has pledged to make no changes to negative gearing whatsoever.

"This is a battle between baby boomers and young people," says Swinburne University professor of economics, Abbas Valadkhani. "It's so easy to see that [negative gearing] only benefits the rich. At the moment it doesn't matter how hard you work, how hard you save—they are ignoring young people."

Professor Valadkhani also outlined what might happen to the housing market, should Labor win the election. "I don't think it will collapse or crash, it will adjust. Prices will no longer rise, but I don't think they'll go down by much. It will be a little easier for young people to purchase a home," he said.

Research from Grattan Institute supports Professor Valadkhani's claims. The report finds that changes to negative gearing and the capital gains tax would not cause a market crash, but save Australia close to $5.3 billion per year. The research also determined that reforms would make housing more slightly affordable, as prices would drop by two percent.

Both professors Norman and Valadkhani suggest that in order to make houses more affordable, local governments need to release more land and invest in transport to link new housing estates to the CBD, but neither have heard of any plans to do so.

Negative gearing will be on the minds of many voters when they go to the polls on July 2. As an issue that could affect the Australian economy and housing market for many years to come, stances held by each party could play a major role in the outcome of the Federal Election.

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