Government toughened up more than HECS. Quietly, it outlawed negative gearing in the calculation of the Medicare surcharge, the Private Health Insurance Rebate, the Seniors and Pensioners Tax Offset and the Higher Income Superannuation Charge. Major changes to negative gearing will make housing investment less attractive. Credit:Louie Douvis It would be dead easy to do it for the calculation of tax, and it would be consistent. Taxpayers would be able to lose as much as they liked renting out properties. They would even be able to use the losses to offset profits from other investments and carry them forward to offset any profits when they eventually sold. But, as in Britain, Canada, the US, France, Germany, Japan and most of the nations with which we compare ourselves, they wouldn't be able to use real estate losses to cut the taxable income from their salaries. There's a reason surgeons, lawyers and mining engineers are far more likely to negatively gear than nurses, teachers or police. They have much bigger taxable incomes they are trying to get down. They often try to get them down below $80,000, where the second-highest tax rate cuts in. At the heart of negative gearing is a lie, or perhaps a mistake. Most spending isn't tax deductible, but spending for the purpose of earning an income is. The lie is that the interest payments and the rates and other expenses involved in renting out a property are for the purpose of earning an income. Somehow there has been a mistake and the rent hasn't covered the costs, but because the intention was to earn an income the costs should be written off against other income.

Our tolerance of that lie institutionalises dishonesty, and it institutionalises losing. What will they do? Prime Minister Malcolm Turnbull and Treasurer Scott Morrison. Credit:Alex Ellinghausen Before John Howard halved the headline rate of capital gains tax at the turn of the century, negative gearing was relatively unattractive. Landlords as a group made money. In 1999-2000 they made a combined $219 million. Ever since then they've lost money. In 2012-13 they lost a net $5.4 billion. Capital gains matter because they are the mechanism negative gearers use to make money. The profits they make from eventually selling their properties are meant to exceed their annual losses from rent. A cut-rate capital gains tax makes those profits more likely. Investors can write off their annual losses at the full tax rate and pay tax on their eventual profits at only half the rate. But there are wider benefits, or so we have been told.

Howard's tax adviser John Ralph said the cut would "encourage a greater level of investment, particularly in innovative, high-growth companies". Instead, investors dived into real estate. Before the change, houses cost 2½ to three times household disposable income. Afterwards, they cost four times disposable income. Our tolerance of that lie institutionalises dishonesty, and it institutionalises losing. At the last count one in every seven taxpayers were landlords. But they've been increasing the stock of houses, right? Not much lately. Back the 1980s one in every five dollars lent for investor loans was used to build a home. Now it's one in every 35. We're told that negative gearers are at least increasing the supply of rental housing, and many believe they are. But by pushing up prices and outbidding would-be owner-occupiers they are also helping create the supply of tenants to rent those properties to. They are often renting to people they have outbid.

And we are told they are holding down rents. That's impossible to test without restricting negative gearing, as Labor actually did for 2½ years in the mid-1980s. The charts show Melbourne, Brisbane, Adelaide and Darwin rents fell, Canberra rents dived, Hobart and Sydney rents climbed and Perth rents soared. Nationally, there wasn't much in it. With little obvious justification for continuing the tax dodge, both sides of politics are planning to wind it back, but gently. Labor would allow everyone who is already negatively gearing to continue to gear their existing properties (a concession it didn't extend when it tightened HECS), and it would allow taxpayers to negatively gear new properties so long as they were newly built. The Coalition is looking at capping either the number of properties each taxpayer can gear (one of its members, Queenslander Barry O'Sullivan owns 42) or the total loss any one taxpayer can claim. Neither measure would do much. But what would is the associated cut in the capital gains tax concession. Labor wants to cut the concession from 50 per cent to 25 per cent, meaning that for assets bought after mid-2017, three-quarters of the eventual capital gain would be taxed rather than half.

The Coalition is toying with matching Labor's proposal (if has been careful to attack Labor's proposed changes to the negative gearing rules rather than the capital gains concession) or cutting the capital gains discount from 50 to 40 per cent. A 40 per cent discount was recommended by the Henry tax review on the proviso that it was extended to income from other forms of saving such as bank interest. It would be a popular measure. "A more consistent treatment of household savings would encourage households to seek the best pre-tax return on their savings," the review said at the time. "It would also largely remove the current bias towards negatively geared investment in rental properties and shares and so reduce a major distortion in the rental property market." Malcolm Turnbull and Scott Morrison might be considering something as simple as that. They could leave negative gearing more or less alone while suddenly levelling the playing field. Peter Martin is economics editor of The Age.