Once again the idea of changing the tax benefits afforded to investors via negative gearing has been floated in the context of wider tax reform.

Australia is a market economy and, in a perfect world, freely operating markets are efficient and deliver maximum satisfaction for all.

But it isn’t a perfect world.

Sometimes market solutions are inadequate, inequitable and lacking in social responsibility- you only have to look at the US sub prime crisis to see a classic example!!

There is a role for government to redistribute income and resources in ways that enhance market solutions and compensate for market failure.

Tax benefits for negatively geared investment property are a perfect example of government policy designed to achieve a desirable market outcome.

Australia is facing the biggest housing shortage in history but rather than ‘crowd out’ more efficient private sector activity, the government provides tax incentives for individuals to invest in property, especially new property, thereby increasing the stock of available housing.

The stimulus to private sector property investment through tax concessions helps to redress the housing imbalance and reduces pressure in the rental market. The attempt in 1985 to scale back negative gearing tax concessions resulted in rents rising nationally by 37%.

It also importantly promotes entrepreneurial spirit, the building block of the market system, and is an incentive for individuals to create wealth for their retirements thereby reducing the burden on future generations.

Shifting the goal posts to be eligible for the age pension to 67 after 2023 is in direct response to the looming crisis in the economy’s ability to support an ageing population that no longer contributes to the public purse. We all need to become proactive now so that we don’t end up reliant on the overstretched welfare system in the future.

It is also important to understand why tax benefits are maximized on new property through depreciation. Depreciation means that you are allowed to claim a proportion of your property’s value, the building and its fixtures and fittings, for wear and tear over time as another cost of ownership.

This claim is largest in the early years of a property’s life and so building a new property is the best way to take advantage of the ATO’s concessions.

A healthy building industry is important for economic growth and employment.  The multiplier effect of construction means not only work for tradesmen and suppliers but it has a ripple effect on the retail industry, fencers, landscapers, moving companies, and the list goes on. No wonder the government considers ‘housing starts’ an important economic indicator.

Policy changes involve tradeoffs and disincentive effects, both intended and unintended. Removing tax advantages for property investment would reduce the supply of housing and put the onus back on the public sector to provide more public housing.