Negative Gearing 2026: Tax Benefit + Loan Structure Optimization

Introduction

The Australian tax treatment of rental property losses—negative gearing—faces renewed scrutiny as the 2026 federal election approaches. While the Albanese government has ruled out changes in the current parliamentary term, the fiscal cost disclosed in the 2023‑24 Tax Expenditures and Insights Statement, combined with housing affordability pressure, keeps reform on the policy agenda. For investors holding, or considering, a leveraged property, the intersection of tax benefit and loan structure remains the control lever that does not depend on legislative outcomes.

This article examines the mechanics of negative gearing under the law as it stands for the 2025‑26 income year, quantifies the tax advantage using current marginal rates, and sets out loan structuring principles that maximise interest deductibility under Australian Taxation Office (ATO) compliance standards. It then models how these principles interact with depreciation, and suggests contingency design for a scenario in which grandfathering or caps are introduced.

Data cited draws from the ATO, the Treasury, the Australian Prudential Regulation Authority (APRA) and the Reserve Bank of Australia (RBA). All legislative references are to the Income Tax Assessment Act 1997 and associated rulings in force at the date of writing.

1. How Negative Gearing Operates Under Current Law (2025‑26)

A rental property is negatively geared when the deductible expenses—predominantly loan interest, but also rates, insurance, repairs, property management fees and depreciation—exceed the rental income derived in an income year. The net rental loss is then offset against other assessable income, such as salary or business income, reducing the taxable income for that year.

For the 2024‑25 and 2025‑26 financial years, the relevant individual marginal tax rates plus the Medicare levy (2%) are:

• Taxable income $18,201 – $45,000: 16% (including Medicare levy)
• $45,001 – $135,000: 32% (32.5% plus 2% only if above thresholds; effective marginal rate including LITO transition may differ but for simplicity)
• $135,001 – $190,000: 39% (37% plus 2%)
• $190,001 and above: 47% (45% plus 2%)

The net rental loss therefore acts as a deduction from the top marginal bracket. An investor earning a $180,000 salary with a $15,000 net rental loss would reduce taxable income to $165,000, yielding a tax saving of $15,000 × 39% = $5,850. The same loss for a top‑bracket earner saves $7,050.

ATO data from the 2021‑22 income year, the most recent full population release, shows 2.36 million individuals reported rental income, and 1.13 million of them declared a net rental loss. Total rental income was $50.8 billion, total rental deductions $55.5 billion, resulting in aggregate net losses of $4.7 billion, an average loss of approximately $4,160 per negatively geared taxpayer. Interest expense accounted for approximately 50% of total deductions (ATO Taxation Statistics 2021‑22 – Individuals, Table 8). Those proportions have likely increased as variable rates rose from 2022 to 2025.

The core principle for deductibility of interest is contained in Taxation Ruling TR 2000/2: interest is deductible under section 8‑1 of the Income Tax Assessment Act 1997 if the borrowed funds are used for income‑producing purposes (TR 2000/2). The tracing of loan purpose is the lynchpin of all subsequent structuring advice.

2. The Policy Environment Heading into 2026

The negative gearing debate is not new, but its fiscal dimensions have sharpened. The 2023‑24 Tax Expenditures and Insights Statement estimated that the rental property interest deduction (the largest component of negative gearing) reduced Commonwealth revenue by approximately $2.8 billion in 2022‑23, and that rental property capital works deductions cost a further $1.1 billion (2023‑24 Tax Expenditures and Insights Statement). These figures are projections based on the ATO population model.

In 2024 the Prime Minister repeatedly stated that no negative gearing changes would be taken to the 2025 election, though the federal opposition has not adopted a formal policy. Despite this, the Treasury’s 2023 Intergenerational Report and multiple Productivity Commission reviews have noted that the interaction between tax settings and housing supply influences investor behaviour and, indirectly, home ownership rates. The risk of future limitation—either by capping the amount of deductible rental loss against other income or by grandfathering existing arrangements while restricting new purchases—is a material planning assumption for anyone entering a 30‑year loan agreement in 2025.

A cap could take a form similar to the United Kingdom’s restriction of finance cost relief to the basic income tax rate (20%), phased in between 2017 and 2020. In the Australian context, a hypothetical model discussed in the tax policy community would limit the offset to, say, the 30% marginal bracket, meaning high‑income investors would forgo a portion of their current 47% benefit. Such a change would alter the net after‑tax cash flow of a property, but would not eliminate the value of interest deductibility entirely.

In the absence of legislation, the only prudent approach available to a borrower is to ensure their loan structure is compliant with the current law, maximises flexibility, and can be adapted to any future grandfathering date.

3. Modelling the Tax Benefit and Net Cash Flow

To ground the discussion, consider a property purchased for $800,000 in July 2025, financed with a 20% deposit ($160,000) and a principal‑and‑interest investment loan of $640,000 at a 6.30% per annum variable rate. Assume rent of $580 per week ($30,160 per annum), property management fee of 7% plus GST ($2,230), council rates and insurance of $3,500, and maintenance of $2,000. The property is a recently constructed dwelling eligible for both division 40 (plant and equipment) and division 43 (capital works) depreciation. A quantity surveyor’s depreciation schedule estimates first‑year division 40 claims of $6,800 and division 43 claims of $7,200 (2.5% of construction cost $288,000).

Interest in year one is approximately $40,320 (assuming a 30‑year term). Total cash expenses (interest, rates, insurance, management, maintenance) sum to $48,050. Adding non‑cash depreciation of $14,000, total deductions equal $62,050. Rental income $30,160 yields a net rental loss of $31,890.

For an investor in the 47% bracket (including Medicare levy), the tax saving is $31,890 × 0.47 = $14,988, reducing the after‑tax cash cost of holding the property. Cash outflow before tax is $48,050 – $30,160 = $17,890. After the tax refund, net cash outflow is $2,902. The investor is out‑of‑pocket less than $3,000 for a year of ownership, despite a cash shortfall of nearly $18,000.

Depreciation constitutes 44% of the total loss in this example, highlighting its role as a non‑cash amplifier. Since the Treasury Laws Amendment (Housing Tax Integrity) Act 2017, second‑hand residential properties acquired after 9 May 2017 cannot claim division 40 depreciation on existing plant and equipment assets. Investors buying an established property in 2025 can claim division 43 capital works only (typically 2.5% of construction cost), unless they install new assets themselves. This legislative distinction is permanent; a 2026 reform would likely leave it intact but could interact with any cap on total deductions.

4. Loan Structuring to Maximise Interest Deductibility

The ATO’s TR 2000/2 ruling makes clear that the deductibility of interest follows the use of the borrowed funds, not the security. Consequently, the most common compliance error—and one that the ATO’s data‑matching programs target—is the mixing of private and investment borrowings within a single loan facility.

Separate investment and owner‑occupier borrowings If an investor has an existing owner‑occupied home loan and wishes to purchase a rental property, they should establish a separate loan split or a separate investment loan account. Interest on the investment account is fully deductible, while interest on the owner‑occupied portion remains non‑deductible. Where a single mortgage secures both portions, the split must be clearly documented in the bank’s records, and repayments must be allocated in a traceable manner. The ATO accepts loan splits as effective for tax purposes if the bank’s system tracks them as distinct sub‑accounts.

Use of an offset account versus redraw An offset account linked to the investment loan is a structurally superior tool for preserving future deductibility. Funds parked in an offset account do not constitute a repayment of the loan; they simply reduce the interest calculation. When the funds are withdrawn later for a private purpose, the loan balance remains the same, and the interest remains deductible because the original borrowing purpose is unchanged. By contrast, a redraw facility involves a re‑borrowing of funds that have repaid the loan. If those redrawn funds are used for a private purpose, the interest attributable to that portion may lose deductibility. The ATO guidance in Rental properties – claiming interest confirms that the purpose of the redrawn amount dictates its treatment (ATO – Interest on rental property loans).

Avoiding cross‑collateralisation Cross‑collateralisation, where the family home guarantees the investment property loan, is sometimes used to achieve a higher loan‑to‑value ratio (LVR) without incurring lenders mortgage insurance on the investment loan. The risk is that it can tangle the purpose test: when the investor later sells the family home, the bank may require repayment of the investment loan portion, triggering a forced refinance and potential loss of deductibility on any re‑borrowed amount. Structuring with two stand‑alone loans—each secured by its own property—preserves deductibility and provides cleaner exit options.

APRA serviceability buffer As a side note, APRA’s Prudential Practice Guide APG 223 requires lenders to assess new borrowers’ ability to service the loan at the product rate plus a buffer of 3 percentage points (APRA APG 223). This buffer limits borrowing capacity but also means that only those investors whose income comfortably covers the higher assessment rate will be approved, effectively reducing default risk in a rising‑rate environment.

5. Contingency Design for 2026 and Beyond

Even if no legislative change occurs, the next federal election will keep negative gearing in public debate. An investor who structures their loan for compliance and flexibility now will be insulated against three types of reform risk: a cap on annual deductible losses, a restriction of the deduction rate, and a grandfathering date that cuts off eligibility for new purchases.

Locking in fixed‑rate periods strategically A portion of the investment loan could be fixed for three to five years to lock in the current interest environment and to match the timing of any potential policy implementation. Fixed‑rate loans typically do not allow unlimited additional repayments, but they often permit an offset account (partial or 100%) if structured correctly. Because the ATO looks at the purpose of the borrowing when the funds were first drawn, a switch from variable to fixed does not reset the purpose test.

Capitalising interest or using a line of credit Another advanced strategy is the use of a separate investment line of credit for funding property‑related capital expenses (e.g., a new kitchen). Interest on that line of credit is deductible. However, capitalising unpaid interest by borrowing to pay the interest itself is a grey area; the ATO may disallow the interest on the capitalised portion if it lacks a direct income‑producing purpose. The High Court in Hart v FCT (2004) drew a distinction between integrated split‑loan arrangements with a dominant purpose of tax avoidance and straightforward commercial borrowings. Investors should obtain a private binding ruling if considering these arrangements.

Maintaining maximum flexibility through interest‑only periods An interest‑only (IO) period of five years on the investment loan, with the principal repayment component diverted to an offset account attached to the owner‑occupied loan, is mathematically equivalent to a principal‑and‑interest (P&I) loan from a net debt perspective but keeps the entire investment loan balance outstanding. That preserves the maximum deductible interest base. At the end of the IO period, the loan reverts to P&I unless refinanced. APRA’s 2017 benchmark guidance of 30% of new residential lending on an IO basis no longer applies as a fixed cap, but lenders still price IO loans higher. The interest rate premium for an IO loan (often 0.20‑0.50 percentage points) should be weighed against the after‑tax value of maintaining a larger deductible debt.

Documentation discipline Every dollar of redraw, every offset withdrawal, and every refinance should be supported by a clear loan purpose recorded at the time of the transaction. In an ATO audit, contemporaneous bank statements and file notes are the primary evidence. The burden of proof rests with the taxpayer.

6. The Interaction of Depreciation and Financing

Depreciation remains a critical component of negative‑gearing outcomes, particularly for newer properties. For a property purchased in 2025 that was built in 2020, the investor can claim division 43 capital works at 2.5% per annum of the construction expenditure (if available from the builder or a quantity surveyor). If the investor installs new carpets, blinds, or air‑conditioning after settlement, those assets are eligible for division 40 deductions based on their effective life.

The depreciation schedule’s upfront cost (typically $700–$1,100) is itself deductible and often produces a first‑year deduction 3–5 times the fee. In the earlier modelled example, division 43 and division 40 deductions totalled $14,000, generating a tax saving of up to $6,580 for a top‑bracket investor. That saving can materially improve the after‑tax cash flow position and is unaffected by the interest‑rate cycle.

However, when an investor sells a property, the division 43 capital works deductions previously claimed reduce the cost base for capital gains tax (CGT) purposes, while division 40 plant deductions do not. Any negative‑gearing strategy must therefore incorporate the eventual CGT liability, including the CGT discount for assets held longer than 12 months. The loan structure can influence the CGT outcome only insofar as interest costs are included in the cost base in limited circumstances (generally only where the interest is not deducted; under section 110‑25, interest that has been deductible is excluded from the cost base). Investors should model the net‑of‑tax internal rate of return over a realistic holding period, typically 7–10 years, incorporating both annual tax savings and exit CGT.

7. Loan Servicing and After‑Tax Cash Flow Sensitivity

With the RBA cash rate target moving from 0.10% in April 2022 to 4.35% in November 2023 and, as of the most recent meeting, held at that level, the average outstanding variable rate for investor loans has risen to approximately 6.60% for P&I and 6.85% for IO (RBA Indicator Lending Rates, Table F5, March 2025 release). An 80% LVR loan of $640,000 at 6.60% P&I over 30 years requires a monthly repayment of approximately $4,095, an annual obligation of $49,140—well in excess of the modelled $48,050 cash expenses including interest. Cash flow before tax benefit is negative for all but the highest‑yielding properties.

When rates increase by 100 basis points, the interest component rises by $6,400 per annum, translating into additional deductible loss. The after‑tax cash flow effect, however, is a net increase in annual outlay of $6,400 × (1 – marginal tax rate), meaning $3,392 after 47% tax. The tax system shares the pain, but the investor’s cash management must be robust.

This sensitivity is the prime reason investors at higher LVRs and lower yield profiles should maintain a liquidity buffer in an offset account rather than making additional loan repayments. The buffer absorbs rate increases without the need to refinance or sell, while preserving the full interest base for deduction.

Conclusion

The negative‑gearing framework, as it stands for the 2025‑26 income year, provides a quantifiable after‑tax advantage for investors who finance a rental property with debt. The value of that advantage is a function of the marginal tax rate, the interest rate, the property’s yield, and, critically, the way the loan is structured and documented. ATO guidance and TR 2000/2 set a clear standard: the traceable use of borrowed funds for income production is the boundary of deductibility.

Looking towards 2026, the political debate over negative gearing is likely to intensify irrespective of the election outcome. While grandfathering provisions have historically accompanied Australian tax rule changes, certainty cannot be assumed. For that reason, investors who ensure their loan contracts allow for clean separation of private and investment borrowings, use offset rather than redraw for surplus cash, and retain a disciplined record‑keeping protocol will be best placed to preserve deductibility regardless of the legislative path.

These observations are general in nature. Tax outcomes depend on individual circumstances, and loan products vary materially between lenders. Information only, not personal financial advice. Consult a licensed mortgage broker and a registered tax agent before acting.

Last reviewed for accuracy against ATO and RBA data published through 30 April 2025. All statutory references are to the Income Tax Assessment Act 1997 (Cth). No part of this article constitutes a recommendation to buy, sell, or refinance any security or property.