The capital gains discount is incentivising over-borrowing and making investment properties profitable when they would otherwise make a loss, new research by the e61 Institute has found.
The study of 900,000 property investments held between 2008 and 2025 found that 46,000 had before-tax returns below mortgage rates, but became profitable after-tax because of the 50% CGT discount. This amounts to 5.1% of all investment properties and 13% of loss-making investment properties.
The study found the tax system rewards investors who borrow more. A typical investor in the highest tax bracket with no mortgage pays an effective tax rate of 31%, compared to just 19% with a 90% mortgage.
“The capital gains discount allows strategic tax minimisation where an investor can deduct their losses at 45% while only paying a tax rate of 22.5% on their gain,” said e61 Research Manager Dr Nick Garvin.
“By borrowing more and taking on higher interest costs, the investor can get a tax deduction that is larger than the discounted tax paid on the capital gains. Negative gearing is only an issue because of the CGT discount.
“When leverage lowers tax rates, and can change pre-tax losses into gains, individuals are incentivised to expand their holdings of capital gains-generating assets.
“This most likely increases the price of assets like housing, and pushes households into a less diversified and more highly leveraged portfolio than they would choose in the absence of the tax advantage.”
The two most prominent reform proposals, reducing the CGT discount and introducing ringfencing to limit negative gearing, would both reduce the incentive to over-borrow - but neither eliminate it.
“Instead of a fixed discount, capital gains should be adjusted for inflation so every investor pays tax on all of, and no more than, their real gain,” said e61 Research Manager Dr Matt Nolan.
“This would remove the tax incentive for investors to borrow excessively, while treating capital income consistently both between assets and with other forms of income.”
Contact details:
Anil Lambert 0416 426 722 / [email protected]
