Housing construction is an important injection into the circular flow of income in the Australian economy – it is an essential driver of employment.
Construction contributes approximately 8% of GDP and employs more than 1 million people.
Indirectly, many more workers are employed to provide the complementary goods and services that housing (both residential and commercial) necessitates.
To stimulate housing starts and the economy through the multiplier effect of construction, the government provides generous INCENTIVES and CONCESSIONS for those investing in a brand new property.
A depreciating asset is one that has a limited effective life and can reasonably be expected to decline in value over time.
Property investors can claim depreciation as a non- cash deduction as a cost of owning the property and renting it to a tenant. Non- cash refers to the fact that the money doesn’t have to be paid out by the owner first, it is merely an allowance made by the Australian Tax Office for investors to reduce their taxable income.
There are two categories of depreciation allowances available to the property investor:
CAPITAL WORKS – (the constructed building) can be claimed as ‘losing value’ (even though market value increases) at a rate of 2.5% pa for 40 years. (2.5% x 40 years =100%) This concession applies to both new and resale property (under 40 years old)
FIXTURES & FITTINGS –
You can claim for new assets; not second-hand or previously used.
This allowance includes where you purchase a newly built or substantially renovated property, for which no one was previously entitled to a deduction for the decline in value of the depreciating assets, and either:
No one resided at the property before you acquired it, or the depreciating assets were installed for use, or used at this property, and you acquired the property within six months of it being newly built or substantially renovated. Following ATO guidelines on the ‘effective life’ of the asset, your accountant will typically claim depreciation of the fixtures and fittings in a new property such as carpets, window blinds, oven and hot water system etc. over 5-10 years.
This is a significant deduction and since 1 July 2017
is only available on new properties
or substantially renovated ones
This policy change is an example of a targeted change to the tax system to influence the allocation of resources and to encourage investment in new properties given the employment and welfare effects of new construction.
Think of how significant and beneficial new housing starts will be to the recovery of the economy post-COVID-19. The government will be encouraging new builds, which via the multiplier effect will contribute significantly to production, employment and incomes in the construction industry and the retail sectors.
Update as of 4 June: “The Federal Government will give eligible Australians $25,000 to build or substantially renovate their homes, in an effort to boost demand in the construction sector and keep builders employed.” ABC News
Brand new properties are often part of master-planned estates with attention to open space and attractive streetscapes. Consistency of housing and covenants (building and design guidelines applicable to a new estate) means that it is unlikely you will end up next to an ‘eyesore’!
New property normally requires minimal maintenance with no renovation expenses. The building carries mandatory warranty periods as do the new appliances installed in the property.
A new property is appealing to tenants.
New properties are built with changing demographics and trends in mind, enhancing the market appeal for tenants and on resale. For example, the trend towards open-plan living is making outdated the formal living areas that don’t match changing lifestyles and preferences. Changing family compositions can be deliberately catered for in new designs. Duplex and dual-key designs are catering to the growing demand for accommodating elderly family members as an alternative to assisted living options.
Consider the impacts on the workforce as a result of work from home orders. Prior to the pandemic, only 5% of workers were in home offices. During COVID-19 it increased to 45% and the new normal is expected to settle at around 15%. This is an example of a structural change to the way we work. The suburbanisation of work will have flow-on effects for the demand for housing in middle to outer ring suburbs and well resourced regional areas. It will also influence the design of housing.
The home office space will be a priority for many. New builds afford the opportunity to meet the changing demands of work expectations and arrangements. Then consider the rise in homeschooling and the need for separation and quiet. Some new multi-dwelling constructions are providing dedicated, communal workspaces for residents to access away from interruptions and the demands of family or other cohabitors.
If the property is a house and land contract to be built, stamp duty is only paid on the value of the land and not on the contract price. This offers the investor a considerable saving. There is, however, interest to be paid on the loan during construction. This, combined with the stamp duty on the land, can equate to stamp duty on a completed package. Both of these costs can be offset against any capital gains tax liability when the property is eventually sold.
“Someone is sitting under a tree today because
someone planted a seed a long time ago.”
To increase the productive capacity of the economy and allow us more choices, requires that we refrain from consuming all resources now and invest for the future.
Resources- land, labour, capital and enterprise – are dedicated to future production. Turning iron ore into machinery rather than cars, educating the innovators of tomorrow, and incentivising the use of new technology, are some examples of ways as a nation we invest in the future.
Some decisions or allocation of budget resources may pay dividends quickly; others take time, such as grants to research facilities or revising the school curriculum to include coding in the kindergarten school curriculum!
The funds available to increase the productive capacity of the economy (via investment) primarily come from the pool of national savings contributed by both by the private sector (households) and the public sector (government) via the financial sector.
Remember, to have more options and less scarcity; we need to make the economic ‘pie’ grow or, shift the production possibility curve out to the right.
Likewise for us households!
Another way of thinking about the size of the economy is via the simple circular flow of income model that looks at injections into the economy vs the leakages as a result of the activity of the five sectors – households, firms, government, financial and overseas.
Think of it as a large above ground swimming pool. The more water that is pumped in (injections), the higher the level of water in the pool and more people can get in and get wet. Spring a leak and the water level falls meaning some swimmers need to get out. (= unemployment)
Injections are consumption expenditure (C), investment expenditure (I), government expenditure (G) and the sale of exports (X).
Leakages are saving (S), tax (T) and imports (M)
National Income (Y) or the size of the economic ‘pie’, or the level of the water in the pool is equal to:
Y = C + I + G + (X-M)
If injections are > leakages, the economy will grow.
If leakages are > injections, the economy will contract.
Consumption is the most significant contributor to aggregate (total) demand in the economy. Maintaining consistent consumption is vital to keep people employed.
Regulating the level of consumption in the economy is one of the primary responsibilities and targets of macroeconomic management. Variations in consumption, both increases (in times of prosperity and strong business and consumer confidence) and decreases when the opposite conditions prevail, has significant impacts on the level of income, output, and employment in the economy.
Via the multiplier effect, any change in consumption has a ripple effect throughout the economy.
For example, currently, the federal government is providing a stimulus package to support consumption and businesses in the wake of the exogenous shock to our economy that has necessitated social distancing to combat COVID-19.
One of the cash injections will be in the form of two $750 payments to Pensioners. Why? Because most pensioners are living on minimum incomes and so they are extremely likely to need to spend, rather than save the bonus payment.
Their marginal propensity to consume (MPC) is high.
The MPC is a measure of how likely a recipient of funds is to spend an extra (or marginal) dollar they receive.
If the MPC = 0.8 recipients will spend 80 cents and save 20 cents
The formula for the simple expenditure multiplier k = 1/1-MPC in this example 1/1- 0.8 = 5
A $10 million injection into the economy, in this case, will result in a much more substantial $50 million stimulus to the economy.
The MPC for pensioners is probably more than 0.8, resulting in an even more powerful stimulus to the economy.
Of course, this simple example assumes the recipients of their spending will have the same MPC. It may be higher or lower; nonetheless, the concept is evident. A carefully targeted injection into the economy will have a reasonably predictable compounded effect on consumption, incomes and employment.
An understanding of the power of
is fundamental to understand the significance
of the housing market
and why governments
to invest in bricks and mortar.
“Home Building Packs a Punch in Job Creation Stakes”
A new report from the National Housing Finance and Investment Corporation reinforces the view that “the residential construction sector punches well above its weight as an economic multiplier” and “understanding how residential construction activity may affect jobs and flow through to the broader economy is increasingly important… The Urban Developer June 19, 2020
But what if in times of uncertainty households save instead of spending?
All is not lost, nor is the stimulus ineffective.
They provide funds via financial institutions for firms to invest and increase their productive capacity. Provided you don’t stash your savings under the bed, (a leakage from the system) you are making it possible for firms to borrow and invest and build the capacity of the economy.
That constitutes a passive investment in the economy and our future collective welfare, but
You can also do the same,
individually and proactively!
We can invest in our own and our family’s future by devoting some of our resources (time, income, assets, efforts and skill) to education and training to improve our earning capacity or saving to directly and deliberately invest in creating future wealth.