There goes the neighbourhood - Renters in the Census 2016

This week saw the publication of new research from the ANU showing that the problems of housing affordability in Australia don't stem from an undersupply of housing. This is something we've been saying for years - it is not the overall supply that matters, but the kind of supply. Specifically, supply of housing for lower income people.

A few days earlier, the Urban Displacement project in the US updated their San Francisco maps. That project is looking at where people with lower incomes are going when they become priced out of the area they are living in. That updated prompted the crew at #WeLiveHere2017 to ask if anyone was doing similar work here.

@DallasRogers101 @jennacondie is anyone in Australia mapping displacement of low income households? https://t.co/1qDpiIsaSc

— #WeLiveHere2017 (@WeLiveHere2017) November 17, 2017

We thought this was definitely something worth looking into ourselves and we intend to devote a few posts to exploring this issue through crunching some Census data. This first post explores the very lowest income households. The following pictures are here for our mobile readers - they come from an interactive map available here where you can zoom in to any location in NSW and get more details.

We calculated the range of weekly household income for all households in NSW and found the first quintile, or lowest 20% of household incomes, in local areas (for the nerds, 2016 Statistical Area 2) across the state in both 2011 and in 2016.

Then we started looking at how many rental properties in local areas were reporting paying rents that would be affordable to that income level. This includes all forms of public and community housing, as well as private rentals. Using the 30% rule, in 2011 the lowest quintile could afford a property being rented at $155 per week. By 2016 this had risen to $198.30. The following two maps show the raw numbers of properties meeting that number across Sydney. About two thirds of these properties across the state are public or community housing.

Unlike all other rent price sources, such as bonds data and advertisements, the census exclusively measures sitting rents. This is significant in that it explains why some areas may have a higher number of these affordable premises than might be expected if you are used to looking at articles talking about rent movements.

Click the image for a larger picture or the interactive version here

Click the image for a larger picture or the interactive version here

The change is only slight when looking at these raw numbers, but the story becomes much more clear when we look at the change between the Censuses. Across Sydney the proportion of housing available for people on the lowest incomes is dropping - except in a few areas potentially indicating a concentration of this affordable housing.

Click the image for a larger picture or the interactive version here

However, we reckon there's a bit of a difference between an area with very few properties affordable to the lowest income quintile dropping and an area with quite a few affordable properties losing them (or gaining them). To explore that a bit more we've created a final map, which categorises the local areas into 12 groups depending on their placement on a scatter plot. This scatter plot measures on one axis the proportion of housing in the area which on Census night in 2011 was being rented at a rate that was affordable to households in the lowest income quintile and on the other the movement in the proportion of that affordable housing between 2011 and 2016 censuses.

The colour scheme divides those areas losing affordable housing into three equal sets and those areas gaining affordable housing into three equal sets. They are then further divided based on whether they have more or less than the median amount of affordable housing at the 2011 Census.

Once that scatter plot has been mapped we get the following map - zoomed in on Sydney here but the interactive version covers all of New South Wales.
Some of the areas that may seem surprising to appear in the affordable column are there because whilst they are generally affluent areas they do have concentration of public and community housing - or at least did. As one example the Hunters Hill - Woolwich statistical area comes up as affordable due to approximately 167 of the 683 total rental properties in the area being public or community housing - nearly 25%. This is a high proportion considering that across the state only a little over 15% of properties fall into this category.

Click the image for a larger picture or the interactive version here

So what do we learn?

In Sydney it is essentially a bad news story everywhere we turn - either there are unaffordable places getting worse or there are nominally affordable places getting worse. All that bright blue is areas with affordable housing disappearing. The orange is areas with unaffordable rentals that are disappearing. Across the state there appears to be a concentration of affordable housing occurring with most areas falling in the proportion of affordable housing but increases in pockets.

That these rents are sitting rents raises another concern - what happens when people are forced to move? Fortunately a high proportion of these properties are public or community housing but a significant number are in the private market. As such these are households who are in very vulnerable positions. If they do need to move, especially in the private rental sector, they are likely moving on to much higher rents as the market continues to rise.

This is an early version of this data - we haven't adjusted rents and income for household size for instance. It is clear that a single person on the same income as a household of five is more able to fit in a smaller dwelling more comfortably and likely in more affluent areas.

In the next version of these maps we'll be making these adjustments and drawing out the changes in public and community housing as well as looking at slightly higher income groups.

Rental affordability deteriorates, again

Hot on the heels of the Anglicare Rental Affordability Snapshot for 2017, the SGS Economics and Planning, Community Sector Banking and National Shelter Rental Affordability Index for December 2016 reveals what most Sydney-siders and New South Welsh-folk already know: the squeeze on rents is getting tighter.

Picture by thepurpah

The headline finding is that Sydney's rental affordability is as bad as ever, having plunged to a record low towards the end of last year. The average household now pays around 29% of their income on rent - meaning that renters with even reasonable wages are heading towards a form of housing stress, if they're not already there.

Unsurprisingly, the least affordable suburbs are harbour-side. They include Elizabeth Bay, Rushcutters Bay, Potts Point, Woolloomooloo, Double Bay, Milsons Point, Kirribilli, Darling Point, Point Piper, Edgecliff and Woollahra. For a dual income household with kids, bringing in $140,000 a year, a three bedroom home in any of these iconic suburbs would be unaffordable (30%-38% of income) or severely unaffordable (38%-60% of income), according to the index. For a single working parent earning around $70,000 per year, a 2 bedroom home in most of these suburbs would come in at the unaffordable range. Rent for an unemployed person looking for a single bedroom unit would be extremely unaffordable (60% or more of income) in all of these suburbs.

There's still some hope for working families. The dual income couple with kids might find a three bedroom home with an acceptable rent (20%-25% of income) around places like Hornsby, Epping, Lidcombe, Lakemba, Earlwood, Kogarah or Miranda. A single working parent might pay an acceptable rent for a two-bedder around Liverpool or Penrith.

But there's no such hope for the single unemployed person. Rents for one bedroom homes remain in the extremely unaffordable range for this cohort, throughout the entire Greater Sydney area. Even if three or four unemployed folk decided to pool resources and go in together for a sharehouse, rents for suitable properties remain extremely unaffordable until about Blacktown, Liverpool or Engadine. Further out they become severely unaffordable, but that's as far is it goes across the remaining suburbs.

Things improve for dual income households with kids once you get past the limits of Sydney, with the rest of New South Wales showing rents for three bedroom homes as generally acceptable, affordable (20%-25% of income), or very affordable (less than 20% of income). Of course, that's based on an annual household income of $140,000, which might be harder to come by in some of the further flung parts of the state, so take that with a grain of salt.

Single working parents will also do better outside of Sydney, subject to the same caveat: two bedroom homes for a household with an income of $70,000 per year will be acceptable, affordable or very affordable in most parts of New South Wales. Wollongong, central Newcastle and Byron Bay are the exceptions.

Where available, single bedroom homes remain severely unaffordable or extremely unaffordable to an unemployed person receiving an income support payment, right across the state. For those prepared to share, a two bedroom place might be moderately unaffordable for anyone on an unemployment benefit (25%-30% of income) around Wellington, Parkes or Cobar. If you can find a third person, rent for a three bedroom home might be acceptable in Cobar. Of course, your income payments might take a bit of a hit if you leave Sydney for one of these towns, as your chances of finding paid work will be somewhat diminished. You'll probably have your payments cut for up to 26 weeks after moving to an area with lower work prospects so don't forget to factor that in...

Why is this happening?
Conventional wisdom is that prices go up when supply doesn't keep up with demand, but there are a number of indicators telling us things are a little more complicated when it comes to rents. For a start, contemporary discussion around housing affordability tends to focus on the supply and demand of housing as a financial asset, rather than for its purpose of providing shelter. "Housing demand" has become something of a proxy for "mortgage demand", and "housing supply" is geared towards meeting the needs of mortgagors rather than home-makers - even if at the micro level these are often the same thing.

A quick look at where the current demand for residential property finance is coming from reveals a whole lot of it is going to investors.

Aust. property lending monthly ('000), investment (red) v owner occupation (blue), Jun 2001 - Feb 2017. Source: ABS

Evidently there's been more money pulled into the rental market than for owner-occupation over the last little while. In other words, the rental market is currently enjoying the lion's share of supply. But we can't assume this puts us on a path to affordability because the vast majority of supply into the rental market is coming from investors purchasing established dwellings rather than new builds.

NSW property investment lending monthly ('000), June 2001 - Feb 2017, established (red) v new (blue) dwellings. Source: ABS

Much of the increase in rental market supply comes at the expense of supply for owner-occupiers. Potential first home-buyers are particularly impacted by this, and they're remaining in the rental market for longer. Increasing rental market supply is absorbed by a more-or-less corresponding increase in demand for rental housing. But as we can see from the blue line above, investors have been putting larger amounts of mortgage finance towards new construction over the last little while. New construction delivers supply to meet "mortgage demand" - not just the demand for shelter - which should be putting downward pressure on rents. But, as the index shows, it's not.

Our latest Rent Tracker report shows this as well, indicating that rents have gone up in Sydney even where large amounts of new supply has been brought into the rental market. Based on the number of new rental bonds lodged, Rent Tracker doesn't distinguish between new rental supply coming from construction compared to that which comes from increased investment in established dwellings. But checking this against data from the NSW Department of Planning & Environment we can see that a great many new dwelling completions across Sydney are in the form of new apartments. These are most likely being purchased by investors.

New dwelling completions, Sydney. Source: NSW Dept L&E

With a high proportion of one and two bedroom units turning up for rent over the last few months, despite families with children making up the highest chunk of demand for rental housing, it's evident that this kind of investment is not being driven by what households really need. Rental supply is not being driven by renter demand, because housing supply is being driven by mortgage demand.

That's the story with new construction, but it's also the story with increased rental market supply in general. Investors aren't pulling established dwellings away from owner-occupiers because they want to provide housing for people who can't afford to buy, but because they hope to grow their wealth. The allure of wealth, after all, is what is driving demand for mortgages. Aided by tax settings that expedite the debt-to-wealth strategy - negative gearing and capital gains tax discounts - investors are encouraged to buy property based on prospects for profit rather than any measured demand from renter households. They're buying more expensive property as higher price tags come with faster and bigger gains. They're leaving the cheap stuff to developers who can turn it into more expensive property in order to meet investor demand...

Over time, this has changed the shape of the rental market. Affordable rents are a thing of the past.

Volume and rents ($/2011) of Australian rental properties over time. Source: AHURI

For that matter, we don't measure demand for rental housing like we used to. Back in the olden days the National Housing Supply Council - now defunct - used to report on the affordability and availability of rental housing. Then, as now, there was a shortage of properties available for rent to households on the very lowest incomes, for much the same reasons that we can see today. But it's easy to imagine that if this work had continued with appropriate levels of government support, we'd have a much clearer understanding of our rental affordability challenges and how to tackle them once and for all. Instead we've allowed things to get much worse.

Last week's Federal Budget has pinned a lot of hope on measures to increase supply. This includes the renewal of the National Affordable Housing Agreement, to be renamed the National Housing and Homelessness Agreement (NHHA). Under the NHHA the Australian Government will work with the states and territories to increase the supply of (mortgage driven) private rental housing through measures such as planning and zoning reforms. With the latest Rental Affordability Index in mind, we'll take a closer look at these Budget measures in a later post. In the meantime, parties to a new National Housing and Homelessness Agreement would do well to consider monitoring both rents and demand for private rental housing across the income spectrum, to ensure this Budget's impacts are being properly accounted for down the track.

The wrong kind of supply

When it comes to housing affordability, we have a bit of a mantra here at the Brown Couch: it's not supply and demand, but the type of supply and demand that matters.

Jennifer Duke's recent article in the Sun Herald shines another light on this. Drawing on data provided by Don't Rent Me's Anthony Ziebell, Duke writes:

The vast majority of apartments in NSW are two-bedrooms – with 2298 – followed by 1322 one-bedroom apartments. And in many suburbs, one-bedroom apartments aren’t substantially cheaper than two-bedroom apartments, forcing some tenants to change their wishlist.

Ziebell is a friend of the Brown Couch, and he's run his data by us as well. He points out that more than half of new rental listings across the eastern states of Australia are 1 and 2 bedroom units. In New South Wales it was at 56 per cent the last time he pulled this data, which he obtains by regularly scanning online rental advertisements. This data comes hot on the trail of our own Rent Tracker report, which last week showed how rents have climbed even in parts of Sydney where thousands of new rental bonds have recently been lodged, indicating growth in rental supply.

So what's going on?

Ziebell suggests activity in Australian housing markets places too high a focus on investors' interests, rather than housing need. From Duke's article:

Don’t Rent Me founder Anthony Ziebell warned too much of a focus on investors, rather than those who will actually be living in the properties, is leaving Sydney filled with “inappropriate” homes.  

“Sydney’s rentals are the smallest in the country,” he said.

“If you’re building an apartment block, how many one-bedroom apartments can you sell compared to three-bedroom apartments? 

“It’s not about providing suitable housing, it’s about getting the maximum profit. This is leaving renters without anywhere suitable to live,” he said.

He's onto something. But before we get to that, let's back-track to October 2013 - when first home buyers were still vaguely a thing, and Catherine Cashmore penned an article for Property Observer called Investors or owner-occupiers: who are we really building housing for?. (Hint: it wasn't owner-occupiers then and it's not owner-occupiers now.) Cashmore was talking about conditions in Victoria, but the general themes could be applied anywhere:

The relatively small one and two bedroom units featured as 'affordable' tend to fall into the investment sector of the market, not just because of tight lending restrictions banks impose on first home buyers for this type of accommodation, but also due to high owners’ corporation fees set aside to service the lifts and other security features.

A great deal has happened since 2013, including the steady decline of first home buyer activity and a slowly rising interest in the plight of the poor old renter. But as we can see, those still standing in our dysfunctional housing system are yet to catch on. Or perhaps they just don't want to?

Like others, we've often cited the ABS Lending and Finance data, as we did in December 2013, to show that about 92% of money lent to property investors goes towards established dwellings. The remaining 8% contributes to new supply, as landlords are far, far more likely to trade in existing housing stock than invest in new construction. Property investment finance has more or less continued in these proportions despite recent development activity.

Even so there are considerable chunks of money being poured into new apartment blocks by investors, and this has been particularly so in areas close to jobs and transport over the last couple of years. Whether these dwellings are purchased by investors 'off-the-plan' or through a subsequent sale is beside the point for this discussion. What's not beside the point is that development is being propped up - if not driven - by this investment, and investment is being driven by something other than what Australian households need.

So what's driving investment?

We've written extensively about the impact of federal tax settings on the type and nature of investment in Australia's residential property, so we won't go over it again today. Suffice to say that it has changed the shape of the rental market. Investors purchase dwellings with prospects for capital gains in mind rather than any consideration of need or demand from tenants.

The recent insights from Don't Rent Me and the Tenants Union are yet more evidence of this.

Will rents rise if Australia votes for tax reform?

We've heard that some people - let's call them real estate agents and a couple of prominent politicians - have been saying rents will rise if Australia votes for tax reform. We thought we'd better check this out.

We've already looked at how negative gearing and capital gains tax discounts distort the rental market at a macro level - you can read about that here - so it's hard to know exactly what these soothsaying ne'er-do-wells are getting at. Affordable rental housing couldn't really disappear from the market any faster than it already does. And if the current reform proposal does get up, existing arrangements will not be affected, so current landlords would not be able to use the old "suddenly I am paying more tax, and I must pass this unexpected cost on to my tenant" excuse.

Still, we can't shake this feeling that, should it come to pass, landlords could try to use a new tax regime as a screen for putting up the rent. Real estate agents' bottom lines would benefit from higher rents, and because they favour the status quo they have nothing to lose from cultivating an expectation that change means rents will increase...

One of the first claims you'll hear a real estate agent fall back on is that rents took off after Paul Keating made some adjustments to negative gearing back in 1985. If it happened then, they say, it will happen again. Never mind that the claim has been contested and discredited time and time again - see, for example, this 2003 article from Ross Gittins, which discusses rents rising in Sydney and Perth in the late 1980's, but not in other parts of the country; or this more recent piece from the ABC's Fact Checker, which reaches a similar conclusion before quoting a 1987 Cabinet Submission:

With the notable exception of Sydney, conditions in the residential rental property market are not unusually tight. The evidence suggests that local influences, rather than tax measures, dominate in metropolitan rental markets.

The Fact Checker article goes on to examine some of the "other influences" that could have been contributing factors. It cites high interest rates as well as high prospective capital gains in other investment classes, making residential property a less attractive option. But one of the influences that hasn't been mentioned is the impact on rents of residential tenancies legislation at the time.

Keen followers of renting law reform will know that tenancy agreements in New South Wales were not regulated by the Residential Tenancies Act 1987 until it commenced in 1989. This means that back in 1985, putting the rent up in Sydney was much easier than it is today. Landlords would simply offer a rent increase, and if the tenant didn't accept it they'd usually get a notice to quit and have to move out. But some other states - notably Queensland, Victoria and South Australia - had brought in new renting laws somewhat earlier. Which means that rent increases were better regulated in other parts of the country while Keating was tinkering with tax, and Sydney rents were doing their thing...

Of course, renting laws still vary from state to state, and tenants in some states may again be better equipped to handle wholesale rent increases than in others. Even so, to the extent that rents are now regulated, they are still very much tied to "the market". Landlords set the rent based on what tenants are prepared to pay, and if a tenant challenges an excessive rent increase it is generally decided by a tribunal with market comparisons in mind. But the important thing is that such a challenge is possible, and tenants should not hesitate to exercise this right if the need arises. This right was not available in Sydney in the mid-1980's.

Landlords who claim they will set rents according to tax policy, rather than market factors, should have cause for caution. Rents continue to reflect a fine balance between vacancy rates and tenants' incomes, and landlords cannot move the market by sheer force of will. Thankfully, those bad old days are over.

Nevertheless, we expect there will still be some landlords, real estate agents and politicians who continue to insist that tax reform will result in rent increases. Here are a couple of useful points to keep handy, just in case you ever find yourself in conversation with one:

Rents are not tied to other costs
Rents increase faster than the general cost of living. We'd have thought this was common knowledge, but SQM Research's recent report suggests perhaps it is not - they've suggested Labor's tax reform proposal could lead to "an acceleration in rents above and beyond the CPI rate". But here's what rents already look like against CPI, over the last quarter of a century:

Rents v CPI, from the TU's Rent Tracker (coming soon!)

There's been plenty of "above CPI acceleration" in there, even without tax reform.

We also know from tax data that rents increase faster than landlords' costs. We explored this in our report 5 years of the Residential Tenancies Act:

... landlords collect significant amounts of income from their tenants each year. In the 2009-10 financial year landlords declared $9.7billion in rental income for properties in New South Wales. This increased to $12.1billion in 2012-13. An increase is to be expected given the growth of the sector, but even so this represents approximately $2,175.00 more rent to landlords in 2012-13, per property, than in 2009-10. The average costs declared by landlords over the same period rose by $880.00 per property.

So we can conclude - rents go up because they can, not because they need to, and certainly not in response to any particular cost factors for landlords.

There's no room in the market for higher rents
Rents go up because they can, unless for some reason they can't. At some point, rents become unaffordable, and tenants cannot continue to pay them. When this happens, tenants are forced to find homes in a more affordable area, or they're forced to share a home with others. In their 2013 report Long term private rental in a changing Australian private rental sector, Stone, Burke, Hulse and Ralston found that families with children now make up the largest group across Australian private rental markets. These households may not be inclined to share, which means landlords need to keep rents within their reach so as not to price them out.

None the less, the report also shows that the fastest growing group is shared households. Tenants are increasingly responding to high rents by pooling their resources and living together. Further research suggests that share housing is not the domain of young people alone, with a marked increase in the number of people over 40 recently using the share house finding website flatmates.com.au...

Meanwhile, the Rental Affordability Index continues to reflect the grim reality of high rents across the country. The RAI reveals that under current conditions, low-income households typically need to pay 50 to 85 per cent of their income on rent. And as we showed in another recent post about rents, even a modest - and much needed - increase to Commonwealth Rent Assistance couldn't open the gate for higher rents.

If tax reform happens and the rent goes up, who's going to pay it?

Landlords really, really need the rent, and so do their banks
Even though rents are no reflection of costs, it's really quite expensive to be a landlord. As we discussed in our Tenants' Guide to Tax Reform, their biggest expense comes from the purchase of a property in the first place. According to tax data, the interest payable on loans amounts to more than all other expenses combined, even with record low interest rates:

Landlords' expenses ($billions) Source: ATO

That's not surprising when you consider that banks have been lending, on average, more than $550million to Australian landlords each month for the last year.

If landlords were to increase the rent beyond what the market could bear, or even beyond what the market can anticipate, many would start to experience periods of vacancy. Even a short-term loss of rental income could have serious consequences for landlords - at best it would affect cash-flow arrangements and compromise their ability to meet a mortgage commitment without making other sacrifices; at worst it would lead to mortgagees calling in bad debts.

So, all things considered, if you come across a landlord, real estate agent or politician who insists tax reform would lead to higher rents, we reckon you should call their bluff.

State Budget 2016: extra duties for foreign purchasers

The NSW Government will hand down its 2016-17 State Budget on June 21. That's... tomorrow!

But announcements on new spending and policy are already finding their way out of Macquarie Street. One matter of some interest to tenants - and more than a few landlords, we bet - concerns changes to stamp duty payable by foreign purchasers.

Investors not ordinarily residing in Australia will be obligated to pay an additional 4% surcharge on the purchase of residential real estate. This is considerable. As The Sydney Morning Herald noted, the duty payable on a home purchased for the median Sydney house price of $995,804 would all but double from $40,305 to $80,137. It is expected to raise an extra $1 billion over four years.

The official rationale is that the surcharge serves the broader community interest by raising funds for public amenities. Or, as Victoria, which recently implemented its own surcharge, puts it: as capital growth in residential property is largely attributable to an area's quality of life, foreign purchasers (who are unlikely to pay much if any tax to Australia on income, consumption, and so on) should make a fair contribution to the public spending that delivers that quality. 

But from a tenant's point of view, the move is less interesting for the official line as what else it might say about our housing market. Office of State Revenue figures show that the NSW Government has been riding high on stamp duty revenue for the last several years - from collecting $3.3 billion in 2011/12 to well over $7 billion in 2015/16. But, of course, this is inexorably linked to sharp growth in sales prices, in Sydney especially. And the latest Rent and Sales Report suggests prices flattening or slightly declining in a number of LGAs across Greater Sydney. Many well-placed commentators are warning of more of the same - including the Reserve Bank, OECD, property analysts CoreLogic, and ratings agency S&P from last week alone. 

Shadow NSW Treasurer Ryan Park said of the surcharge, "We're very concerned that this is a very short-term move based on the fact that the Government knows that the [property] market is cooling, based on the fact that we're all the more reliant on stamp duty."  And tenants may have reason to share that concern. Because a reliance on sharp and perpetual growth in property sales to fund spending is a reliance on housing speculation. That is, the same speculation that has sparked price growth to lock tenants who would be homeowners out of the purchase market - in many cases for good. As we explained in one of our favourite posts on the Brown Couch, those frustrated homeowners are not the only tenants missing out. They also tend to be more competitive in the rental market in which they are forced to remain than those on lower incomes - forcing up rents across the board. 

Of course, restraining this speculative frenzy is not a matter for State Government alone. It's also a major Federal Election issue, and part of the focus of the excellent Vote Home campaign. But you can be sure tenants would benefit much more from efforts to create a more equitable and accessible housing market than from an extra $1 billion skimmed from foreign participants in our speculative housing market.

On the other hand, some developers have declared that the surcharge will actually have the unintended consequence of driving house prices down. There's precious little evidence to support the position.

There's one more thing to consider: we've also heard our share of stories about foreign purchasers buying properties off the plan, only to leave them empty. The alleged practice would allow the dwelling to be sold as new, negating any need for the purchaser to spend on maintenance or property management. It also restrains rental supply - thereby helping to drive up rents even as new homes are delivered to market. There's nothing definite to establish just how widespread the practice might be, but the UNSW City Futures Research Centre has raised concerns about what it says are up to 90,000 unoccupied dwellings throughout Sydney. A surcharge on stamp duty could function as a disincentive against the practice; As most purchasers will be required to pay tens of thousands of dollars more, they could be driven to take the extra steps required to attain a rental income to help cover it.

Tenants’ guide to tax reform

Housing affordability is a key issue during the 2016 federal election. The presumed impact of reducing tax concessions for landlords has been a strong feature in media discussions, and in commentary from political parties and candidates. Most of these focus on the cost of housing to buy.

But how do negative gearing and capital gains tax discounts affect the private rental market?

What is negative gearing?
An investor is negatively geared if the cost of holding an asset is greater than the income it generates. This occurs where an investor borrows money to purchase an asset, such as a rental property, and the income it produces doesn’t cover the cost of paying back the loan. Investments like this are made in the hope that the asset’s value will rise, and lost income will be rewarded with higher overall wealth.

For tax purposes, the losses that arise through a negatively geared investment are deductable against the income it generates. In Australia, losses on rental property investments are deductable against other income as well. This includes salaries and wages.

What is the Capital Gains Tax discount?
When an investor takes advantage of a rise in their asset’s value, by selling it at a profit, they pay Capital Gains Tax (CGT). This is paid on the difference between the amount they sell it for and the initial price they paid for it, minus some expenses.

CGT is payable on property investments. Exemptions apply to the “family home” and to property that has been used as an investor’s “main residence” within the six years prior to sale.

CGT is halved for any investment that has been held by an individual or small business for longer than 12 months – this is known as the CGT Discount. The CGT Discount applies to residential property, and most landlords pay CGT on only half their capital gains when they sell.

How do these tax concessions affect the housing market?
By allowing investment losses to be deducted against all income, and reducing liabilities for CGT, our tax system encourages Australians to enter into negatively geared investments. The housing market is seen as a safe investment for negative gearers, because of an expectation of continuing capital gains.

The largest part of the market – owner-occupiers – incurs no CGT liabilities upon sale at all. Their housing gains are not taxed like other forms of wealth, so they are prompted to divert spare financial capacity towards capital improvements. They do this by adding value to property through renovation, and/or spending more when upgrading. This increases the likelihood of capital gains across the market, and the expectation of perpetual gains encourages new entrants to pay more when buying in.

Landlords trade in the same market. The tax treatment of negatively geared investments enables them to manage larger debts than owner-occupiers, especially first homebuyers who have not already built up wealth through capital gains. Landlords who negatively gear can afford to pay more than other buyers for the properties they want, and are prepared to pay a premium for well-appointed and well-located properties that have high prospects for rapid capital gains.

How do these tax concessions affect the private rental market?
Proponents of Australia’s current tax settings suggest they increase the supply of housing and put downward pressure on rents by encouraging more investment in the housing market. They also suggest that without this investment, Australian governments would be left to make up the shortfall of affordable rental housing through their public housing systems.

 It is true that the number of Australian landlords continues to grow:

Australia's landlords (millions) Source: ATO

As does the amount of money they borrow in order to make their purchases. But the vast majority of this debt is used to trade already existing dwellings rather than build new homes, so it does not make a meaningful contribution to new housing supply:

Landlords' debt ($billions) Source: ABS

And the cost of servicing this debt is greater than all other costs to landlords combined – even as record low interest rates have reduced the interest payable on loans during recent years:

Landlords' expenses ($billions) Source: ATO

All of this means that our current tax settings are well suited to anyone with residential property to sell, and/or money to lend. But they are doing a poor job of increasing housing supply, so arguments about their impact on rental affordability are completely undermined.

On the contrary, we know they’re not really keeping rents low at all. Negatively geared landlords favour more expensive properties with greater prospects for high capital gains. Properties at the affordable end of the rental market have been in steady decline over the last decade or so, while the number of properties for rent at higher prices continues to grow, because of the type of investments landlords are encouraged to make.

Volume and price ($/2011) of Australian rental properties over time Source: AHURI

How do these tax concessions affect tenants?

Australia’s current tax settings affect high and moderate earning tenants by making it difficult for them to achieve home-ownership, keeping them in the rental market for longer. Landlords can take on higher levels of debt so they can afford to offer more for the properties they want than most first home buyers can. This has a general inflationary impact on prices too, and it has increased the difficulty for those who aspire to buy but are not yet able to. Would-be homeowners have to set themselves increasingly large savings targets in order to raise a deposit for a home loan.

Australia’s current tax settings affect tenants on lower incomes by reducing the number of affordable homes in the rental market, and increasing the number of people hoping to rent the ones that are available. Landlords tend to favour properties that have high prospects for quick capital gains, rather than low-end housing that could be let at affordable rents under long-term tenancy agreements. But where low-end housing is available there is no guarantee that low-income tenants will secure it, as they must compete for tenancies with higher earners who are hoping to minimise their housing costs.

Australia’s current tax settings affect all tenants by making the private rental market chronically insecure, because they encourage landlords to chase rapid gains rather than steady tenancies. They want to realise these capital gains when it suits them, and prefer not to limit their pool of prospective purchasers by selling with a sitting tenant. Tenancies are often brought to an end, and tenants forced to move, when landlords decide to offload their residential property investments.

What are the proposed reforms?
Both the Australian Labor Party and the Australian Greens have adopted policies to reform negative gearing and Capital Gains Tax discounts, raising housing affordability as a key issue for the 2016 federal election.

The Greens propose to end the current tax treatment of any negatively geared investment that is not a “business asset”, which means affected investors would only be able to claim losses against their relevant investment income. This reform would be grand-parented so that existing arrangements are not affected. The Greens would also phase out the CGT Discount over 5 years, by reducing the discount at a rate of 10% each year. These proposals focus on the budgetary impact – costed at $7.028billion in new tax revenue over four years – and The Greens would put this increased revenue towards the construction of new Social Housing.

Labor propose to limit the current tax treatment of negatively geared investments, to apply it only to newly built housing. Landlords who buy established dwellings would no longer be able to claim losses against their salaries and wages as well as their rental income. This reform would be grand-parented so that existing arrangements are not affected. Labor would also reduce the CGT Discount from 50% to 25% for “non-business assets” purchased after July 1 2017. These proposals focus on economic transition and budget reform. Costed at $32.1billion in savings over ten years, Labor says they would use the revenue raised through these reforms to “fund priorities”.

The Coalition does not propose to reform the tax treatment of negatively geared investments, or alter CGT discounts.

We have not conducted any analysis of minor- or micro-parties’ housing and tax related policies.

What would be the impact of the proposed reforms?
There have been many suggestions that reforms to negative gearing and CGT discounts would lead to an increase in rents, because it would reduce the level of investment in the housing market. This is unlikely. Proposed tax reform may have some impact on investors’ strategies, which would be a desirable outcome, but it would be unlikely to change the common preference for investment in residential property.

Significant demand for rental housing would continue, as home-ownership would remain out of reach for many households. Residential property would continue to attract capital gains, as owner-occupiers would remain exempt from CGT liabilities and would continue to make capital improvements to their homes.

But without preferential tax treatment of their negatively geared investments, landlords may be less inclined to take on the large amounts of debt that currently enables them to bid up the cost of housing. They may be less inclined to invest in housing based on the prospect of quick capital gains, and consider more closely the demand factors coming from the rental market itself. They may be more amenable to entering into stable, liveable and affordable agreements with tenants, rather than chasing quick capital gains.

Where can I get more information?
For more detailed information and commentary about the impact of Australia’s tax settings on tenants and rental housing, please visit: http://tunswblog.blogspot.com.au/search/label/Negative%20Gearing

A version of this post is available for download, so you can print it off and share it with your friends.

Battlefield: rent

A number of large and powerful real estate agencies look set to recommend landlords increase your rent if Australia votes for changes to negative gearing and capital gains tax discounts on July 2nd. We're not sure how else to read the "Negative Gearing Affects Everyone" campaign that's recently attracted media attention.

The agents will smite you if you vote for tax reform

The campaign suggests that "should current taxation arrangements for property be changed, as many are suggesting, rents could be expected to rise substantially". It provides nothing to support this theory, other than a couple of lines about supply and demand:

Because the incentive to buy property to rent out will be severely curtailed, fewer people will buy residential investments, meaning the supply of rental stock will contract: fewer houses means higher rents charged to those who don't own their own homes.

Nobody can argue with these fundamentals, right? Well...

When you're thinking about taxes, housing supply and rents, it's important to remember these two things:
1. Where rents and real estate are concerned, supply and demand dynamics get complicated by the tax system.
2. No matter what federal tax settings look like, the only way your rent can go up is if your landlord serves you with a valid notice of increase.

Let's explore this.

This "incentive to buy property to rent out" that the real estate agents' campaign refers to is, of course, capital gains. According to the campaign authors, the way to keep our rents down is to ensure that property values continue to go up. The idea is obvious enough - increasing property values draws more people into the housing market to buy investment properties, so more properties become available to rent. That's supply taken care of, right?

Well, no, because around 90% of money lent to landlords each year goes to purchase established dwellings. The majority of "new" supply into the rental market is actually existing housing that's just being recycled - moving in from the owner-occupier market or just transferring from one landlord to another. Even if it is new to the rental market, it probably isn't a new home, in which case it can't really be considered new supply. It's just borrowing from Peter to pay back Paul.

But even if we pretend not to notice this glaring hole in the real estate agents' logic, they still have a problem with their argument. The idea that rising prices can put downward pressure on rents is not just counter-intuitive - it's also demonstrably wrong. And it's not merely a question of ever increasing prices (landlords' expenses) dragging up rents (landlords' income), it's about which properties find their way into the rental market, who ends up paying to live in them, and how much they are willing to spend.

In short, it's the the type of supply and demand you're getting in the market that matters. Negative gearing and capital gains tax discounts actively distort the market by affecting supply and demand.

This happens in a couple of different ways.

First, these tax settings affect the supply of rental housing, by manipulating investor demand. The "incentive" to buy properties to rent causes landlord's to pick and choose their purchases based on the prospect of gains. Or, as the real estate agents' campaign authors have put it in another part of their website, to make "strategic investments":

If negative gearing is abolished on all but newly-built dwellings, investors will no longer be able to buy strategic investments, looking to acquire high value properties in prime locations that will realise the best gains over time.

We've talked about what this kind of "strategic investment" does to the shape of the rental market before, but here's a quick reprise: landlords don't buy the cheap stuff because the prospects for gains just aren't the same. 15% of 100 is better than 15% of 10, even at the same rate of growth. Rents at the lower end of the market are increasing faster than rents at the top, because affordable rental housing is actually disappearing from the market.

The shape-shifting private rental market: driven by gains

For six long years Anglicare's Rental Affordability Snapshot has told us what this means for low income households. In the latest snapshot there were only 902 properties advertised across Sydney at what could be considered affordable for a family whose income is made up of a minimum wage and some Family Tax Benefits. 902 properties, or 6.4% of what was advertised for rent during the snapshot period. For a single person on Newstart allowance, there was not a single property advertised during the snapshot that could have been considered affordable. Nada. Zip. Nothing.

National Shelter's Rental Affordability Index provides a somewhat more rigorous analysis. In it's inaugural release in November 2015 it noted that New South Wales faces "rental unaffordability across the board, and a dire situation for low income households".

Second, these tax settings affect the demand for rental housing, by reducing the supply of affordable housing to buy. Negative gearing encourages landlords to carry month-to-month losses by reducing their pay-as-you-go tax liabilities, while capital gains tax discounts increase the chances of these losses being fully recovered in the long-run. Thus landlords can afford to take on greater amounts of debt than their competition, the owner-occupier. They outbid would-be owner-occupiers for properties they do not intend to live in, using them instead to build wealth. This pushes prices higher, faster (and encourages more people to follow this investment strategy if they can).

This is generally understood to be a problem for first-home-buyers, and it is this concern that seems to be driving the current political discussions around tax reform. What these discussions fail to address is that most of these frustrated home-buyers are making homes in the private rental market in the meantime, as tenants. They're earning a decent enough income and can manage the high rents, even if they can't keep up with landlords bidding against them at auction. Then there are those who have simply given up on home-ownership: as house prices scale new heights, they simply wonder how they could ever come up with a deposit in the first place. They're still earning decent money, though, and they're contributing to demand for rental housing while dragging up rents because of what they can afford to pay.

Our housing market dynamics have been working to these conditions for many, many years. They are entrenched. Giving our federal tax settings a few necessary tweaks will not result in immediate or drastic change. Fundamentally, tax reform will not reset the incentive for buying and renting out property. Instead, it should alter the way capital gains are achieved, providing for more tenant friendly "strategic investment" by landlords. The system would adjust. New, more functional dynamics would emerge. But this would take time.

Nobody should expect wholesale rent increases in the short term, unless landlords strategically decided to put them up. We'll come back to that soon, for further discussion.

The shape of the private rental market: update

We've been discussing the changing shape of the private rental market, with reference to some graphs provided by Judy Yates from her research. That research is now published.

We'll discuss it in more detail in future post; for now, here's our new favourite graph on the changing shape of the market, showing how the market is both growing absolutely, and growing more expensive.

 
See how the market, pumped up on speculator-steroids such as negative gearing, is lurching up the scale of rents.

How landlords think, and how it shapes the rental market

'Landlords hit by glut of apartments'! That's a recent headline from the Fin Review; we enjoyed reading it literally.

As Ned said over on our facebook page, the article is an insight into how landlords think – landlords like Hugh Eriksson, marketing executive, North Shore local politician and landlord, who reportedly has 'bent over backwards to keep rents near to stable', such is the glut of apartments from which tenants may pick. Why, this young pup landlord has 'even allowed pets'! Oh, the humanity.

How landlords think affects more than just your ability to choose whether you'll keep a pet, important as that is. How they think affects the shape of the rental market. As we saw in those charts from Judy Yates, if there's a glut of rental housing, it is not at the low-cost end of the market, which is very tight indeed, but further up the scale of rents.

And how landlords think affects not just affordability, but also the security of rental housing.

Eriksson says this about his thinking as a landlord:

“You don’t just buy property for rent – you buy it for the capital growth,” he says.

Rent is money that tenants promise to pay, week after week, under legally enforceable contracts, but when it comes to capital gains, there's no such promise; pursuit of them is really just gambling on someone coming along, at some point in the future, who is willing to pay more. So why is Eriksson – like so many other landlords – so interested in capital growth?

It's because in our tax system, rental income (and income from work, interest, etc) is taxed at the full marginal rate – while capital gains are taxed at only half that rate.

Yes, we tax the proceeds of speculation – gambling, really – at half the rate of the proceeds of work, bank savings and rental income. Go figure.

About 1 266 000 Australian taxpayers have gone and figured, and borrowed to buy properties that rent for less than what it costs to own them (because of interest, more than anything). Two-thirds of landlords are in this situation, which is known as negative gearing. They are gearing, or leveraging, into the prospect of lightly-taxed capital gains – so they hope – while losing income.

In an internationally unique act of generosity, our tax system makes those loses easier to take by allowing the costs of rental property speculation to be deducted against other (non-rental) sources of income. This means landlords can wear bigger costs and push their leveraging harder.

The tax system also gives their hopes of capital gain a boost by not taxing at all any capital gains on housing used for owner-occupation at. This spurs people with money to spare to spend it on their own housing – housing that they may buy from another owner-occupier, or a from landlord looking to realise their capital gains.

So, from the point of view of the speculator landlord, the best prospects for capital gains are with properties that owner-occupiers might buy, particularly owner-occupiers who are trading up and speculating in their own housing. That means relatively high value, 'premium' properties, or as premium as the speculator can get. Think established locations, which tend to have established properties, and properties that are renovated or fit to be renovated.

As Erikkson says:

“You use the rent to cover the ­holding costs while you get the DA approvals for renovations.”
Once the renovations are done, he sells. “You get your capital gain that way,” he says.

You also get expensive and and chronically insecure rental housing that way.

Expensive because speculator landlords are buying relatively high-value, high-rent properties, and passing on the low-value, low-rent stock when it comes up for sale. And they're getting those higher rents too, because they're not really adding to supply in net terms (that is, as they're growing the amount of properties in the rental market, they are also growing the number of renters), and the growth in renters is coming from higher income households who can afford to pay higher rents. These households might actually be getting quite a bit of choice between nice houses in nice parts of town – enough choice, even, to be able to get their landlords to 'bend over backwards' on rent increases and pets. (Mind you, many of them would still probably rather be owners.) But for low-income renters, the low-rent properties they need have become scarcer, and less cheap.

And it's chronically insecure housing because it is is owned to be sold, particularly into the owner-occupier market.

These are the unhappy results of the way landlords think about owning rental properties. To change the rental market for the better, we need to change landlords' thinking, and to do that we need to change the rules that encourage speculation in housing. 
 

The changing shape of the rental market

Judy Yates, leading housing researcher and friend of the TU, has kindly given us a couple of graphs that show the changing shape of the Australian rental housing market. As we've said before, understanding the changing shape of the rental market is crucial to really understanding affordability problems. Yates's graphs update the picture to the 2011 Census.

Graph 1 gives us pictures of the rental market at each Census back to 1991, according to the weekly rent of properties (in $2011 – that is, the figures for previous Census years have been adjusted in line with inflation). In this graph, as you move along the range of rents (from left to right), the line for each year rises, until all properties in the market are accounted for.

(Graph 1. Cumulative rent distribution, 1991-2011. Source: Yates.)

Let's start by looking at the line for 1991 (darker blue). At the $200 per week mark, the line sits a bit above 50 per cent; this means that a bit more than half of all rental properties were let for $200 per week or less. Moving along the range of rents, we get to the $300 per week mark, by which time over 80 per cent of the market is accounted for. At the $400 per week mark, about 90 per cent of the market is accounted for. Less than 10 per cent of rental properties in 1991 were let for more than that amount.

Now look at the line for the next Census year, 1996 (lighter blue). It closely follows the line of 1991; not much change over this period. Looking at 2001 (red), we see some change has occurred: at the $200 per week mark, the line is lower, meaning the percentage of properties let for $200 per week or less has dropped (to about 50 per cent). Same story at the $300 per week mark.

Looking at 2006 (lighter green), we see further change, more pronounced this time. The percentage of properties let for $200 per week or less has dropped to about 40 per cent; the percentage let for $300 per week or less has dropped to a bit over 70 per cent.

And by 2011, there's further change, and it is very pronounced. The sub-$200 per week part of the market has dropped way down to less than 30 per cent of all properties (20 years previously, it was more than half the market); the sub-$300 per week part is down to just over half (20 years previously, it was more than 80 per cent).

There goes the low-cost end of the rental market. We can see the change even more clearly in graph 2, which compares the rental market of 2011 to the rental market of 2001. Like graph 1, it adjusts 2001 rents for inflation; unlike graph 1, which cumulatively put together all the parts of the market as you moved up the rental scale, graph 2 shows what has happened to each part along the scale.
   

(Graph 2. Rent distribution, 1991-2011. Source: Yates.) 

It shows that in 2001 (blue line), properties going for about $200 per week were very common – they comprised almost 30 per cent of the market – and properties let for about $400 per week were rare (about 10 per cent). In 2011 (red line), it is the other way around: now $400 per week properties are common (25 per cent of the market), and properties going for $200 per week are rare (only six or seven per cent of the market).

Also, looking at the ends of the market: in 2001, there were a few properties – not many, but a few (five per cent) let for about $100 per week; in 2011, there are next to none. In 2001, there were very few properties at $800 per week; in 2011, properties at $800 per week and $1000 per week are now quite solidly represented.

Yates and her colleagues have got some research coming out soon from AHURI that shows the changing shape of the rental market in even more detail. We'll keep you posted.

National Housing Supply Council abolished (find its reports here)

Last month the Federal Government abolished a range of advisory committees, including the National Housing Supply Council.

The reason, according to the Prime Minister:

[The advisory committees'] activities are no longer needed or can be managed within existing departmental resources.

Many of these non-statutory bodies have outlived their original purpose or are not focused on the Government’s policy priorities. As a result, their work is best carried out by the relevant government departments or agencies.

We query how research into housing supply issues is either no longer needed, or not a policy priority, or best carried out by a government that does not have a housing ministry.

A person didn't have to agree with everything about the NHSC's take on housing supply issues to appreciate that it made a strong contribution to public discussion through its data and analysis. You can read how we engaged with its research in our posts on what we call the real housing supply problem – the shortage of affordable rental housing.

In memoriam, we reproduce here our favourite NHSC graph, from its 2010 report, showing the changing shape of the private rental market over recent years. It shows, for three census years, how many properties were let for what rents (the dollar amounts of the rents are adjusted for inflation over the years, so its comparing apples with apples).

Look at the shape of the market in 1996 (the black line), with a big bulge of properties let at fairly low rents (about $150-$200 per week). Now look at the grey line (2001), then the blue line (2006). See how that bulge of low-cost properties has, over the years flattened down, and pushed along the scale of rents. You're seeing how speculator-landlords have been bringing higher value, and hence-rent properties into the rental sector, and letting the low-cost stock drop out of the market, so that what remains becomes scarcer and less cheap.

We'll keep a look-out for an update to the 2011 census.

*

The abolition of the NHSC is disappointing, but the disappearance of the NHSC website, and all its publications, is even more disappointing – if not downright creepy. However, through the marvelous facility of the Internet Archive Wayback Machine, you can still access the archived NSHC website and NHSC publications. 

The real housing supply problem (part 3)

A little while ago we were discussing Australia's real housing supply problem: that is, the problem of getting affordable rental dwellings to the low-income households who really need them.

We observed that across Australia, 60 per cent of lower-income households renting privately are in 'housing stress' (paying more than 30 per cent of their income in rent); and 25 per cent are in 'housing crisis' (paying more than 50 per cent). In New South Wales, the figures are, respectively, 65 per cent and 28 per cent of low-income private renters.

We also observed that for all but the very poorest (ie lowest 10 per cent) these lower-income households (and, throughout Australia, there's estimated 857 000 of them), there are actually dwellings out there that are going for affordable rents (an estimated 1 256 000 of them) – the problem is that lots of higher income households (an estimated 937 000 of them) live in these dwellings instead.

So, who or what is to blame for this?

First, let's say who is not to blame: the higher-income renter households. We're a liberal-minded lot at the Brown Couch, and if a higher-income tenant prefers to spend less of their hard-earned and live in a less flash house, it is not for us to challenge the sovereignty of their consumer preferences. In fact, we'd say that the developers and buyers of flash 'investment' rental properties should reflect upon the evident preferences of higher income renters: the majority of them don't want the expensive, flash, 'premium' properties that these interests are pushing.

No, we point the finger at the Australian tax system – in particular, at its treatment of negatively geared rental property speculation.

Almost uniquely amongst nation-states, Australia allows losses generated by an asset (specifically, interest and other costs paid on a rental property) to be set against its owner's other sources of income, thus reducing the owner's tax liability and enhancing the prospect of a speculative profit when the dwelling is sold.

For years, negatively geared rental property speculation has been wildly popular, which has pushed property prices up – which has made it more popular. Which means, on the other hand, that it has worked to the disadvantage of priced-out, would-be owner-occupiers – that's who so many of those higher-income private renters are.

And it has worked to the disadvantage of low-income private renters too, by distorting the rental market. As a tax-avoidance strategy, negative gearing works best for landlords with high incomes, and high levels of gearing. And to work at all, the landlord needs a property with a high prospect of capital gain. This means that over the years of negative gearing's growing popularity, more and more 'investments' in rental property were in established properties in very desirable locations, going for high prices and hence high rents.

And as lower value properties, going for lower rents and with less prospect of capital growth, have come onto the market for sale, fewer and fewer of them have been bought by landlords. So, those remaining in the rental market have become more scarce, and have more expensive.

It should be said: there are other factors involved in our affordable housing supply problem. Some will say the planning system is too restrictive of new development and housing supply. Others might say the problem lies on the other side of the concept of 'housing affordability': that is, that low-income households incomes are just too low, and should be increased. There's fair points made in support of each of those cases.

But as we've presented this picture of our real housing supply problem, we see that negative gearing has got its fingerprints all over it.

[UPDATE: everyone's getting stuck into negative gearing today – see Philip Soos and Macrobusiness's Leith van Onselen for further critiques, with excellent graphs.]