A tax expert has warned property investors about the lure of solely prioritising tax deductions on rental property purchases through the use of an interest-only loan, especially in locations suffering from slow economies.
Cheryl Mallett, a fellow of the Institute of Public Accountants (IPA), a chartered tax adviser and partner at Darwin’s Vita Gustafson & Associates, has expressed her “very strong view” that “if you can only afford to pay interest-only on a loan, then you really have to start thinking about whether you can afford to buy that rental property”.
She said that the idea that “tax-deductible is king of everything” has led to a lot of issues in Darwin and Northern Queensland’s eastern seaboard towns including Townsville and Mackay.
The chartered tax adviser has explained that a lot of people were advised initially that they should just get their loan under an interest-only payment instead of principal and interest.
Noting the lure of paying less tax as “biting hard” in struggling economic areas, Ms Mallett said: “What’s happening now, particularly in Queensland, Northern Queensland in particular, and Darwin, our economies have slowed right down, so now we’ve got the situation where people have only paid interest because that means the whole payment is tax-deductible, as opposed to principal and interest where a portion of it is private because it is paying off the principal.”
In practical terms, the effect the tax adviser has seen stemming from such advice has been that investors have got, for example, “a $300,000 house with a $500,000 loan against it, and they are in a lot of financial difficulty”.
Arguing that “you shouldn’t be a slave to a tax deduction”, Ms Mallett said that people are now going to her and signifying a need to sell their rentals because the banks are now moving to make everybody shift to principal and interest loans.
“So then we’ve got the clients whose repayments are going up, their property is worth less, and they are saying, ‘Well, I need to sell it, but I can’t even get enough money to pay off the loan’.
“If they sell the property, they could find themselves in a position where they are still paying off the loan but they’ve got no property, no asset for one thing, and they’ve got no rent coming in to help pay it.
“They are in a very dire state.”
Offering up some encouragement for anyone in the position where their property value has gone down and they are in an interest-only mortgage situation where the loan value now outstrips the property’s value, Ms Mallett said: “If you can ride it out, ride it out.”
She urged: “Don’t crystallise the loss.
“The property market will come back, it’s come back forever in history, so if you can afford it, please ride it out.
“Don’t sell and crystallise your loss because that means you’ll never get it back, there’s no chance of you being able to ride on the wave of the property boom or increase in values.
“And it will happen in the future.”