Property Investors Lose Tax Breaks

The Treasury has released its exposure draft for consultation on the plans announced in the budget to disallow travel expense deductions and limit depreciation for plant and equipment used in relation to residential investment property.

Closing date for submissions: Thursday, 10 August 201.

As part of the 2017-18 Budget, the Government announced it would disallow travel expense deductions relating to residential investment properties and limit depreciation deductions for plant and equipment used in relation to residential investment properties.

Travel deductions

From 1 July 2017, all travel expenditure relating to residential investment properties, including inspecting and maintaining residential investment properties will no longer be deductible.

This change will not prevent investors from engaging third parties such as real estate agents to provide property management services for investment properties. These expenses will remain deductible.

Plant and equipment depreciation deductions

From 1 July 2017, the Government will limit plant and equipment depreciation deductions for investors in residential investment properties to assets not previously used. Plant and equipment items are usually mechanical fixtures or those which can be ‘easily’ removed from a property such as dishwashers and ceiling fans.

Plant and equipment used or installed in residential investment properties as of 9 May 2017 (or acquired under contracts already entered into at 7:30PM (AEST) on 9 May 2017) will continue to give rise to deductions for depreciation until either the investor no longer owns the asset, or the asset reaches the end of its effective life.

The Government has released exposure draft legislation and explanatory material for amendments to give effect to the Budget announcements outlined above.

Public consultation on the exposure draft legislation and explanatory material will run for four weeks, closing on Thursday, 10 August 2017. The purpose of public consultation is to seek stakeholder views on the exposure draft legislation and explanatory material.

New $270 levy for WA investors

From The Real Estate Conversation.

The Real Estate Institute of Western Australia has called the government’s expected introduction of a $270 levy for property investors “short sighted” and “irresponsible”.

Details of the levy have not yet been formalised by the Government, but the REIWA understands the levy will be linked to water rates and will apply to properties with a gross rental value of $24,000 or more.

The levy is being considered as a means to raise cash for the troubled state budget.

REIWA Councillor Suzanne Brown said it was extremely disappointing the industry was not consulted about the speculated policy change, and said a levy will make property investment less attractive in Western Australia.

“The private rental market is crucial to the provision of rental accommodation in Western Australia,” she said. “This levy will only increase the cost of owning a rental property, and make it a less viable investment option.”

Brown said the property investment market in the state is already struggling in a weak economy.

“With vacancy rates sitting at an all-time high of 6.5 per cent, Western Australian investors are already doing it tough,” she said.

“Slapping them with an additional cost in an already soft market is a knee-jerk reaction that will do more harm than good,” said Brown.

“The government should be cautious of targeting property investors,” said Brown, as landlords may pass on the levy to tenants in the form of higher rents.

“Not only will it affect owners, but this has the potential to hit tenants if the cost of the levy is passed on,” she said.

“Housing affordability is already a significant concern in Western Australia. Applying additional costs to the property market is not the answer and will only exacerbate the issue,” Brown concluded.

Property Investor Appetite IS on the Slide

OK, I am calling it. Looking at the recent data from our household surveys, property investor appetite is indeed on the decline. Here is the trend chart showing responses in recent weeks.

There were a couple of wobbles, reflecting the heightened speculation about negative gearing and capital gains changes, but there is now a consistent drift lower.

Actually when you look at the root cause of this, it is not so much changes in future expectation of capital growth, it is all to do the availability and price of loans. More than 22% now say they cannot get funding (due to tighter underwriting standards and less access to interest only loans) plus some concerns about future interest rate rises.  Concerns about changes in regulation have reduced.

So we expect to see a slowing in the investor credit lending trends. In fact in our core modelling, we are think investor lending could slow to 1-2% p.a. growth ahead. Very different from the trends the RBA showed recently (see below). This would have a significant impact on lenders growth and profitability.

 

One in three Sydney landlords risk income shortfall

From The Australian Financial Review.

Falling rents or loss of tenants could seriously jeopardise the financial viability of nearly 36,000 property investment portfolios around the country.

Analysis by advisory group Digital Finance Analytics (DFA) highlights the danger of investors’ reliance on tenants to pay borrowing costs.

More than one in three portfolios with Sydney property would be at risk, says DFA, compared with Melbourne where one in four properties could be impacted.

“These are investors who would not have income or savings to pay for their investment property mortgages if rent were to stop,” says Martin North, principal of DFA.

His consultancy puts the number of property portfolios that may be affected at 36,000 based on analysis of household surveys, public and private data to model the nation’s property market.

Increasing supply of houses and apartments and falling rents are already creating pressures for many investors, North warns.

About 20 per cent of investors in Brisbane property could be at risk, compared with under 10 per cent in Adelaide, Perth and Canberra, according to the analysis.

Weak cash flows from investment properties, low equity, high gearing and large loan commitments are loud warning bells for investors to review, restructure and roll back debt, say investment advisers, mortgage brokers and analysts.

Reserve Bank of Australia governor Philip Lowe cautions that too many banks are giving owner occupier and investor loans to struggling investors, increasing the risk of defaults if even small shocks hit the economy.

Mario Borg, principal of Mario Borg Strategic Finance, says: “Not having the cash flow to maintain your repayment commitments is where you can run into trouble.”

Borg, who owns a mix of houses and apartments in a personal portfolio worth more than $10 million, adds: “There is no one-size-fits-all when it comes to an optimal portfolio size, as everyone’s financial situation and personal circumstances are different.”

He creates a buffer against potential financial stress caused by falling markets or rising rates via borrowing only 30-40 per cent on investment properties.

“Ask yourself whether you can still maintain your investment loan portfolio if interest rates were 2 per higher,” he recommends for stress testing a portfolio.

For example, a rate rise from 5 per cent to 7 per cent on a $1 million loan for a borrower with an 80 per cent loan to valuation (paying principal and interest) would mean a monthly repayment increase of $1222 to $7,068, according to research house Canstar.

“You should also ask whether there are adequate financial buffers in place should the unforeseen happen and you lose your job, or the business takes a turn and cash flow is reduced all of a sudden,” suggests Borg.

Christopher Foster-Ramsay, principal of Foster Ramsay Finance, says borrowers will need to face up to higher interest, bigger deposits and much closer scrutiny of their finances and ability to repay.

“There is going to be an upheaval for property investors,” he warns. “Obtaining interest-only loans is going to get very hard.”

Daren McDonald, head of property for property consultancy ShineWing Australia, urges investors to review their holdings to ensure they are maximising each property’s potential and investment returns.

“Property is generally an illiquid investment, so good planning is required, forecasting and risk assessment is required,” he says.

McDonald, who has advised on property for more than 20 years, recommends investors look at ways of improving their portfolio’s income and valuations, reconsider financing options to satisfy changing conditions and consider asset protection and taxation implications.

He offers detailed commentary on how to review a property portfolio in the accompanying checklist.

The nation’s trillion-dollar love affair with property has been cemented by historically low interest rates, generous negative gearing allowances and heady property price rises in Melbourne and Sydney.

The average Aussie property investor has two properties, says DFA’s North, with the bulk of the remainder having between three and five.

North says the “striking observation” about households with large numbers of investment properties is the size of their debt, preference for interest-only loans and smaller number of quality portfolios.

“That means they are the most vulnerable to a rapid interest rate increase or a downturn in property values, which is likely to impact lower-quality properties first,” says North.

Investors dumping property into the market will trigger bigger falls, analysts warn.

The property market’s outlook, values and returns vary widely between cities and sometimes postcodes.

For example, house prices in Perth and Darwin dropped by up to 7 per cent during the past 12 months. Falls were even bigger for apartments.

Melbourne is the nation’s top performer with houses up by more than 7 per cent and units 5 per cent. Melbourne and Sydney are regularly posting weekend auction clearance rates of 80 per cent or higher.

Since March more than 20 banks have increased the cost of nearly 300 mortgage products by between 5 basis points and 60 basis points, says Canstar,

Housing crash ‘unlikely’: AMP Capital

From InvestorDaily.

Investors should expect house prices to fall between 5 and 10 per cent when the RBA begins tightening interest rates in 2018-19, but a 20 per cent ‘crash’ is unlikely, says AMP Capital.

In a note on Australian residential property, AMP Capital chief economist Shane Oliver said house prices are overvalued on most measures – but a disorderly crash is unlikely to eventuate.

The median multiple of house prices to household incomes in Australia is 6.6 times, Mr Oliver said.

By comparison, the same multiple 3.9 in the US and 4.5 in the UK. The Sydney multiple of price to income is 12.2 times, and in Melbourne it is 9.5 times, he said.

Looking at the ratio of house prices to rents adjusted for inflation, Australian houses are 39 per cent overvalued and units are 13 per cent overvalued, Mr Oliver said.

The rise in house prices has been accompanied by a surge in household debt prompted by low interest rates, he said.

But a general property crash in the vicinity of a 20 per cent fall would require one or more of three events to occur, Mr Oliver said: a recession, a sharp increase in interest rates and an oversupply of property.

Assessing each of the three criteria, Mr Oliver said a recession appears “unlikely”; interest rate hikes are not likely until 2018 and the RBA will take account of households’ greater sensitivity to higher rates; and a property oversupply would require the current construction boom to continue for “several years” (although he acknowledged the looming oversupply in some apartment markets).

As far as investors are concerned, residential property is “expensive on all metrics” and offers a very low net rental yield of 2 per cent or less, leaving investors “highly dependent on capital growth”, Mr Oliver said.

“But it is dangerous to generalise. Apartments in parts of Sydney and Melbourne are probably least attractive. [It is] best to focus on areas that have lagged behind.”

“Finally, investors need to allow for the fact that they likely already have a high exposure to Australian housing. As a share of household wealth it’s nearly 60 per cent,” Mr Oliver said.

Property Investment and the Financialisation of Housing

An important report from the Special Rapporteur to the UN Human Rights Council highlights the “financialization of housing” and its impact on human rights. If you want to understand the rise in property investment in Australia, and the problem of housing affordability, read this! Sydney and Melbourne are “Hedge Cities”.  You cannot fix housing affordability without addressing the investment class.

The financialization of housing has its origins in neo-liberalism, the deregulation of housing markets, and structural adjustment programmes imposed by financial institutions and agreed to by States. It is also tied to the internationalization of trade and investment agreements which, as discussed below, make States’ housing policies accountable to investors rather than to human rights. The financialization of housing is also the result of significant changes in the way credit was provided for housing and more specifically, of the advent of “mortgage-backed securities”.

The amount of money involved in the purchase of housing and real estate is almost impossible to digest. Cushman and Wakefield, an American global real estate services firm engaging in $90 billion worth of real estate sales per year, publishes an annual report entitled “The Great Wall of Money” which includes a calculation of the amount of capital raised each year for trans-border real estate investments. The total in 2015 was a record $443 billion, with residential properties representing the largest single share. The report notes that “cross border flows will continue to transform real estate investment across the globe”

Housing prices in so-called “hedge cities” like Hong Kong, London, Munich, Stockholm, Sydney and Vancouver have all increased by over 50 per cent since 2011, creating vast amounts of increased assets for the wealthy while making housing unaffordable for most households not already invested in the market. Land prices in the 35 largest cities in China have increased almost five-fold in the past decade and prices for urban land in the top 100 cities in China have increased on average by 50 per cent in the past year.

The report examines structural changes that have occurred in recent years whereby massive amounts of global capital have been invested in housing as a commodity, as security for financial instruments that are traded on global markets, and as a means of accumulating wealth. The report assesses the effect of those historic changes on the enjoyment of the right to adequate housing and outlines an appropriate human rights framework for States to address them. The report reviews the role of domestic and international law in that sphere, and considers the application of principles of business and human rights.

The report concludes with a review of States’ policy responses to the financialization of housing and some recommendations for more coherent and effective strategies to ensure that the actions of global financial institutions and actors are consistent with ensuring access to housing for all by 2030. The Special Rapporteur suggests that, as a way forward, States must redefine their relationship with private investors and international financial institutions, and reform the governance of financial markets so that, rather than treating housing as a commodity valued primarily as an asset for the accumulation of wealth they reclaim housing as a social good, and thus ensure the human right to a place to live in security and dignity.

  1. The expanding role and unprecedented dominance of financial markets and corporations in the housing sector is now generally referred to as the “financialization of housing”. The term has a number of meanings. In the present report, the “financialization of housing” refers to structural changes in housing and financial markets and global investment whereby housing is treated as a commodity, a means of accumulating wealth and often as security for financial instruments that are traded and sold on global markets. It refers to the way capital investment in housing increasingly disconnects housing from its social function of providing a place to live in security and dignity and hence undermines the realization of housing as a human right. It refers to the way housing and financial markets are oblivious to people and communities, and the role housing plays in their well-being.
  2. Housing and real estate markets have been transformed by corporate finance, including banks, insurance and pension funds, hedge funds, private equity firms and other kinds of financial intermediaries with massive amounts of capital and excess liquidity. The global financial system has grown exponentially and now far outstrips the so-called real “productive” economy in terms of sheer volumes of wealth, with housing accounting for much of that growth.
  3. Housing and commercial real estate have become the “commodity of choice” for corporate finance and the pace at which financial corporations and funds are taking over housing and real estate in many cities is staggering. The value of global real estate is about US$ 217 trillion, nearly 60 per cent of the value of all global assets, with residential real estate comprising 75 per cent of the total.  In the course of one year, from mid-2013 to mid-2014, corporate buying of larger properties in the top 100 recipient global cities rose from US$ 600 billion to US$ 1 trillion.3 Housing is at the centre of an historic structural transformation in global investment and the economies of the industrialized world with profound consequences for those in need of adequate housing.
  4. In “hedge cities”, prime destinations for global capital seeking safe havens for investments, housing prices have increased to levels that most residents cannot afford, creating huge increases in wealth for property owners in prime locations while excluding moderate- and low-income households from access to homeownership or rentals due to unaffordability. Those households are pushed to peri-urban areas with scant employment and services.
  5. Elsewhere, financialization is linked to expanded credit and debt taken on by individual households made vulnerable to predatory lending practices and the volatility of markets, the result of which is unprecedented housing precarity. Financialized housing markets have caused displacement and evictions at an unparalleled scale: in the United States of America over the course of 5 years, over 13 million foreclosures resulted in more than 9 million households being evicted. In Spain, more than half a million foreclosures between 2008 and 2013 resulted in over 300,000 evictions. There were almost 1 million foreclosures between 2009 and 2012 in Hungary.
  6. In many countries in the global South, where the majority of households are unlikely to have access to formal credit, the impact of financialization is experienced differently, but with a common theme — the subversion of housing and land as social goods in favour of their value as commodities for the accumulation of wealth, resulting in widespread evictions and displacement. Informal settlements are frequently replaced by luxury residential and high-end commercial real estate.
  7. While much has been written about the financialization of housing, it has not often been considered from the standpoint of human rights. Decision-making and assessment of policies relating to housing and finance are devoid of reference to housing as a human right. Issues related to business and human rights have received some attention in recent years. However, the housing and real estate sector — the largest business sector with many of the most serious impacts on human rights — appears to have been mostly ignored.
  8. A report on the topic is timely as States embark on the implementation of the Sustainable Development Goals. If the commitment in target 11.1 to ensure access for all to adequate, safe and affordable housing and basic services is to be achieved by 2030, it is essential to consider the role of international finance and financial actors in housing systems. That will help to identify and address more effectively patterns of systemic exclusion, to ensure more meaningful human rights accountability for issues of displacement, evictions, demolitions and homelessness, and the engagement of all relevant actors in the realization of the right to adequate housing.
  9.  Constructing human rights accountability within a complex financial system to which Governments are themselves accountable, involving trillions of dollars in assets, may seem a daunting task. However, the global community cannot afford to be cowered by the complexity of financialization.8 The present report aims to cut through some of the complexity and opaqueness of finance in housing to expose the central relevance and necessity of the human rights paradigm at multiple levels, from the international to the local.
  10. The report builds on important work undertaken by the previous Special Rapporteur on the right to housing. In her 2012 report on the impact of finance policies on the right to housing of those living in poverty (A/67/286), she warned of emerging trends towards the financialization of housing encouraged by States’ abandonment of social housing programmes and increased reliance on private market solutions. She documented attempts by States to rely on the private market and homeownership, which increases inequality and fails to address the housing needs of low-income and marginalized groups. More fundamentally, she called for a paradigm shift through which housing would once again be recognized as a fundamental human right rather than as a commodity. The present report takes up that challenge.

Is Investor Property Appetite On The Turn?

Each week we receive updated data from our household surveys. One element in the survey looks at investor appetite – specifically whether households are intending to transact within the next 12 months. It is a leading indicator of future investment loan volumes.

However, in the past three weeks we have seen a change in intention. It has started to fall quite significantly (and actually represents the biggest move in the 10 years of the survey).

The chart plots the average intentions each week against the volume of new investor loans written each month. We see a significant downward movement in intention. This is being driven by a range of factors including concerns about future property values, falling rental returns, rising investment interest rates and most recently concerns about potential changes to the generous tax breaks which currently are enjoyed by property investors.

It is early days but it does appear investor property purchase intentions are on the turn. If this is the case, then auction clearances, investor lending momentum and property price rises may be be impacted. We will watch the next few weeks’ data with interest.

Yet Another Nail In The Investment Property Coffin

The AFR has reported the Turnbull government is planning a crackdown on capital gains tax concessions for property investors to seize the mantle on housing affordability and provide revenue to help replace soon-to-be dumped budget cuts.

Given most property investors are benefiting more from rising capital gains than offsetting costs from negative gearing, this is a significant change of tune.

The policy backflip, to be unveiled in the May budget, comes after more than a year of savaging Labor’s proposal to halve the capital gains discount as an assault on badly needed investment.

It is understood the policy being worked on within government would be confined to property investment, and not apply to all investments such as shares, as Labor’s plan would. Neither would the Coalition policy target negative gearing, as Labor is doing.

Options being worked on include following Labor in halving the 50 per cent discount on capital gains tax to 25 per cent, or reducing it by another amount. The other is adopting a phased model in which the discount would increase the longer the property was held. A property would have to be held for several years before the investor was eligible for the full 50 per cent discount.

However according to the Real Estate Conversation, such a move is unlikely.

This morning Malcolm Turnbull and finance minister Mathias Cormann dismissed the reports.

“We do not support the Labor Party’s plans to increase capital gains tax,” the Prime Minister said in a press conference.

Turnbull also said the government was not considering to “outlaw negative gearing.”

The Property Council of Australia urged caution amid the conflicting reports.

“Increasing capital gains tax runs the risk of reducing the incentive to invest at a time when Australia needs to build new housing to cater for our growing population,” said Ken Morrison, Chief Executive of the Property Council of Australia.

“While there are conflicting media reports this morning, we urge the government to be extremely cautious if it is considering changing the CGT discount,” he said.

Morrison pointed out that the capital gains tax discount is intended to compensate for natural growth in asset prices due to inflation.

“The CGT discount is recognition that you should not tax people for inflation – inflation-driven capital growth is not real growth and investors should not be taxed for it,” he said.

Morrison said the construction cycle is already past the peak, and any disincentive to build should be considered carefully.

“The industry has passed the top of the construction cycle,” he said.

“The risk for the government is that if it moves too far, it runs the risk of tightening housing supply and adding further pressures to housing prices.”

‘Speeding’ housing investors are pushing families too far

From The NewDaily.

Market watchers are expecting a bombshell to be dropped on the property market next week, with Commonwealth Bank reportedly about to close its doors to refinancing housing investors wishing to migrate from other banks.

Fairfax Media suggested this could send “shockwaves” through the property market – though whether it will cause a price correction is far from certain.

At present, the consensus view is that CBA is simply taking a breather from lending to investors so as not to breach the mortgage growth speed limit imposed by the regulator.

The Australian Prudential Regulatory Authority introduced the speed limit in late 2014, requiring banks to limit growth in their investment mortgage books to 10 per cent per annum.

But even if CBA does slam on the brakes on Monday, it won’t be nearly enough.

A broker’s view

One independent mortgage broker told The New Daily that the speed limit is a fairly weak measure for controlling the housing credit bubble because so many smaller lenders exist to pick up the overflow of demand from the big banks.

So an ANZ customer chasing a better deal at CBA may now find their broker raking up names they’ve never heard of.

AFG, for instance, offers what the broker calls a “white label” home loan built on funding from a number of other banks.

A confident investor should have no problem signing up with such a provider, although less savvy investors may baulk at moving away from the psychological safety of the big banks.

A second flaw

The net result of the speed limit is to slow lending to a degree, but it has likely helped smaller lenders take additional market share.

The latter is not a stated goal of the policy, and even the real goal – to reduce investor activity – really doesn’t go far enough.

To understand why, two factors need to be considered. The first is population growth and the second is inflation. Consumer price index inflation is currently running at 1.5 per cent per annum, and population growth is around 1.4 per cent.

Combining those two figures, the amount of money lent against the housing market would have to grow just under 3 per cent to stay ‘steady’ in relation to the rest of the economy.

In fact, although the value of mortgage debt in Australia has grown by an average of 8 per cent since the onset of the GFC, the last calendar year saw banks’ mortgage books grow by almost exactly the ‘steady’ amount – 2.9 per cent.

That’s partly due to lower volumes of homes changing hands, and partly due to a slow-down in house price growth.

Why 10 per cent is too much

What’s alarming about the 10 per cent speed limit, which CBA is apparently hitting and other banks are getting close to, is that it’s more than three times the ‘steady’ rate of growth.

That means the mortgage market continues to be rebalanced away from owner-occupiers and towards investors.

It is investors driving extraordinary price growth in Sydney – up more than 60 per cent since 2012 – and Melbourne, and it is first home buyers and young families being priced out of the market.

This has to change. One suggestion, from economist Leith van Onselen, is to halve the speed limit to 5 per cent. That would still see investment loans growing faster than the population and inflation, but it would at least be a start.

Let’s get the language right

It would also be useful if media commentators could start focusing on the younger, more vulnerable portion of the housing market rather than celebrating the windfall capital gains made by the older and wealthier portions.

To illustrate what I mean, I’ve prepared two charts from the same set of ABS numbers for Sydney – one with a happy upward slant, the other with a depressing downward slide.

The first, which many readers will be familiar with, shows the huge capital gains investors have made in the past few years –expressed as the house price to income ratio.

The second looks at this period of financial exuberance from the first home buyer’s perspective where the question is not “how many incomes is my asset worth?” but rather “how much of the asset is my income worth?”

From that perspective, the appropriate headline is not ‘House prices boom in Sydney’ or ‘Investor returns at record levels’ – it is ‘Purchasing power of wages plummets’ or ‘Housing affordability tumbles’.