Significant Implications of the Federal Budget

Hi Everyone,

In 2014, the Government under Prime Minister Tony Abbott delivered a federal budget so controversial it arguably cost Abbott his job a year later. Last night, the Albanese Government delivered the most controversial or impactful (depending on your point of view), budget since 2014. The changes, which it is important to note still need to become law after making it through the Senate, have the potential to reshape the way Australians, particularly young Australians, invest for their future.

I've outlined the changes below, however it's very important to note that these changes only apply to investments outside of superannuation. Superannuation taxes were not changed last night. Whether by accident or on purpose, the Government has made superannuation an even more attractive structure for investment, due to the concessional tax rates for those under 60 years of age, and largely tax-free structure for those in retirement. Younger Australians will need to balance not being able to access super until at least age 60 against the significant tax savings that investing in super provides (assuming no changes to the rules for superannuation in future, of course).

Self-Managed Super Funds (SMSFs) may also rise in popularity too due to their ability to invest directly into property (unlike other super funds), at these lower tax rates. Expect to hear more about SMSFs in the news in future (and please be wary of 'spruikers' flogging SMSF and property packages, especially on social media).

What do we do next?

As noted above, the announced changes in the budget are not yet law, so it's important we don't make changes in haste right now (and we'll have 12 months to adjust). But it's clear should these changes get through the Senate and become law, it will impact many people's financial strategies.

There are numerous changes, however the most important for us as investors are below.

Capital Gains Tax Discount

From 1 July 2027, investors will no longer be able to apply the capital gains tax discount method to their capital gains from investment, to be replaced by an inflation adjusted method. The capital gains discount allowed investors to immediately reduce their capital gain on the sale of an investment by 50% (i.e. a $100,000 gain would only have $50,000 assessed for tax purposes). The new inflation adjusted method is less generous than 50%, however investors will still be able to reduce their assessable capital gain at the time of sale through the inflation adjusted method increasing the cost base of the asset.

Capital Gains Tax Rate

From 1 July 2028, alongside the changes to the capital gains tax discount, the Government has introduced a minimum capital gains tax rate of 30% (on net capital gains only). I'll be honest, when Treasurer Jim Chalmers announced this change, my jaw dropped (while many of the tax changes were flagged prior to the budget, this one was not). Previously, capital gains were taxed at an individual's marginal tax rate and it was common for people to try and sell assets at a time when their income was lower and they would therefore pay less tax (i.e. after retiring). Once legislated, this will no longer be possible, the 30% tax will apply on capital gains regardless of age or income.

The way net capital gains will work, if an individual has a $100,000 capital gain, let's say the inflation adjustment allows them to reduce the gain by $35,000 (less generous than the previous $50,000, or 50% discount). In this scenario the net capital gain is $65,000, which would then be taxed at 30% ($19,500 of capital gains tax). Under current rules, the $65,000 capital gain would be taxed at $11,563 for individuals or $2,037 each for couples (assuming no other taxable income).

By way of comparison, the USA has a maximum 20% capital gains tax (for assets held more than 1 year), the UK 24% and New Zealand 0%.

Negative Gearing

The Government announced that as of 1 July 2027, negative gearing would be limited to newly built properties only, while grandfathering existing arrangements up to budget night. This means, for those who signed contracts of sale on existing properties before the budget (at 7.30pm), they will be able to keep existing negative gearing rules. However those who sign contracts on existing properties after 7.30pm on budget night will lose the ability to negatively gear those properties from 1 July 2027.

This change is designed to make investing in existing properties less attractive, however detractors argue this will only push up rents, as owners will make up cash flow losses by increasing rents. The answer is that both points are probably true. Property will remain an attractive investment option for many, given the severe housing supply issues Australia has, however it will make selecting the right property to invest in even more important given the need for greater capital gain or rental income to justify the costs and risks involved. It also makes living in the home, especially for first home buyers entering the market, more attractive as the principal place of residence remains exempt from capital gains tax.

Family Trusts

From 1 July 2028, distributions from family trusts will also have a flat tax rate of 30%, reducing the tax benefit of these investment structures.

Family Trusts currently allow trustees to choose who to distribute income to (and therefore who pays tax). One of the reasons they can be sensible for investors is where one member of a couple (or adult child), earns less money than their spouse, as income and capital gains from investment can be distributed to the lower income person, thereby reducing the tax the couple or family pays.

Under the new rules, the trustee of the trust will pay the 30% first, then the beneficiary will add the funds to their tax return too.

There will be more detail available when the legislation is released prior to the parliament debating it, however it's reasonable to assume the measures will pass, perhaps without significant changes. Once this is done or if more information becomes available I'll write again.

If you would like to discuss how this may impact you, your family or friends, please don't hesitate to reach out or pass my details on.