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January 21, 2018 | Morons

A best-selling Canadian author of 14 books on economic trends, real estate, the financial crisis, personal finance strategies, taxation and politics. Nationally-known speaker and lecturer on macroeconomics, the housing market and investment techniques. He is a licensed Investment Advisor with a fee-based, no-commission Toronto-based practice serving clients across Canada.

Allan is amused at this pathetic blog. He read the post last week about that trash listing in hipster Toronto asking $750,000, and said, “it probably wouldn’t even warrant a Tweet here in Sydney, since sometime in 2016…”

The Australian is correct. We’re nuts, real estate-obsessed and terminally house horny. Aussies, however, are certifiably insane. They’re puffing up the greatest property gasbag on the planet, encouraged by a government just as whacked. According to the Americans, we’re all going down the drain soon.

Australians have destroyed affordable home ownership in an orgy of nation-wide speculation. Houses are generally sold at public, live auctions to investors encouraged by the tax system to buy at any price. So they do. Nowhere is the greater fool theory more prevalent, except that (so far) the fools have been the sellers.

Consider these sales over the past few months:

Sold for $1.6 million

This four-bedroom terrace home in a hip area with one ‘prized car space’ was described as ‘petrifying’ when it came to auction, after the upper level was burned to a crisp.

Sold for $2.3 million

This dilapidated character home sparked a 40-minute-long auction when it came to market for the first time in decades. Despite being uninhabitable, seven competing groups pushed the final price to $2,320,000.

Sold for $1.95 million

This three-bedroom cottage had been in the same family for 100 years when it was listed a few months ago. At auction it sold for $500,000 more than the asking price to a husband and wife team hoping to renovate.

“You mentioned in the past that auctions are more transparent than bully offers,” says Allen, referring to my criticism of blind auctions in which agents don’t reveal the amount of competing bids. “But the truth is, it’s probably the same thing. One you bid your life in blinding anxiety, the other you bid your life in public limelight – both pushing prices up, both back by the Bank of M&D, both putting multiple generations into financial chains, both to the benefit of the big 6 banks and big four (Australian banks) respectively.

“All I can say is, how did Canada and Australia end up like this? Truly regretful, like watching a train gently picking up speed on the downhill, so slowly that the conductor doesn’t realize that the momentum has surpassed his full braking capacity half a kilometer back. And, of course, you know about negative gearing… Sorry, just thought I’d comment after reading your blog post.”

Australian prices have increased 98%, on average, since the credit crisis. As in Vancouver and the Lower Mainland, Chinese buyers are often blamed, resulting in foreigners being forced to pay a tax up to 8% of the purchase price (they face 15% in YVR or the GTA). But the real culprit is bare-knuckles specking, which has made excessive and extreme risk-taking routine. For that you can thank the loopy Aussie tax laws.

Down under investors buy properties with extreme leverage fully expecting they’ll produce sustained, perhaps permanent, losses. In other words, there’s no way the purchase price can be justified by the income potential – rendering the cap rate irrelevant. Nobody cares. Real estate is routinely leased out for far less than the carrying costs.

Huh? How is this possible?

It’s called negative gearing. Investors can deduct unrestricted losses (even if the property is leased at a below-market level or never has an expectation of profit) from other sources of income, including employment, rents or investment returns. Negative gearing works because taxes drop by an amount equal to the investor’s effective marginal tax rate, multiplied by the excess of deductible expenses over investment income – that is, the tax loss on the property. So by purchasing money-losing bow-wow properties – which (everyone believes) always go up in value – Australians are able to wipe away the tax they’d otherwise have to pay on earned income. As a result, the demand for real estate is insatiable, with the kind of sales mentioned above (which are far from extreme examples).

Here’s the point: most people easily become morons, given the right conditions. It might be 2% mortgages which means debt’s almost free. Perhaps being able to raid your retirement savings for a tax-free downpayment or being gifted money to buy with. It could be negative gearing. Or maybe hearing realtors, media, bankers, your friends and your mom telling you houses always go up. The outcome is the same – real estate that people can’t actually afford and the extreme potential for a devastating correction.

More on that, soon.

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January 21st, 2018

Posted In: The Greater Fool

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