Gearing and Leverage: Magnifying Returns and Risks

Gearing (or leverage) is borrowing money to invest in property, amplifying both returns and losses. A simple example shows the power and danger.

Ungeared scenario: you have $100,000 in cash. You buy a property for $100,000. The property appreciates 10% to $110,000. Your profit is $10,000 (10% return on your capital).

Geared scenario: you use your $100,000 as a 20% deposit and borrow $400,000. You buy a $500,000 property. The property appreciates 10% to $550,000. Your profit is $50,000 (50% return on your $100,000 capital), even though the property only appreciated 10%.

This is the appeal of gearing: your capital works harder. A 10% property appreciation becomes a 50% return on equity. Over multiple properties and multiple cycles, gearing can accelerate wealth building dramatically.

However, gearing cuts both ways. In the geared scenario, if the property depreciates 10% to $450,000, you’ve lost $50,000 of your $100,000 equity (a 50% loss), even though the property only lost 10% in value.

High gearing (borrowing 90%+ of property value) is profitable in rising markets and catastrophic in falling markets. A property bought at $500,000 with 90% gearing ($450,000 borrowed) and a 20% property value decline becomes a $400,000 property with a $450,000 mortgage. You’re now underwater (negative equity), and you’re paying interest on debt that exceeds your asset value.

Interest rates amplify the risk. If you’re borrowing at 7.0% on a property that yields 5% rent, you’re negatively geared by 2%. Over time, the negative gearing accumulates as losses unless property values appreciate enough to offset the interest shortfall.

A conservative gearing approach is 60–70% (borrowing 60–70%, funding 30–40% from capital). This provides leverage without excessive risk. If property values fall 20%, you still have equity cushion. If values appreciate, you still benefit from leverage.

Tax implications of gearing are important. Interest paid on an investment property mortgage is tax-deductible. If you’re negatively geared by $5,000 per year and you’re in a 37% marginal tax bracket, the negative gearing generates a $1,850 tax deduction (saving you $1,850 in taxes). This partially offsets the cash shortfall.

Serviceability stress-testing assumes rising rates, protecting against overleveraging in rising rate environments. A borrower approved at 85% gearing when rates are 6.0% is stress-tested at 8.5–9.0%. If they can’t service the loan at 8.5%, they’re not approved. This should prevent catastrophic overleveraging, but it doesn’t guarantee safety if rates spike beyond the stress-test assumption.

Portfolio gearing (gearing across multiple properties) is assessed at the portfolio level. If you have three properties worth $2 million with $1.2 million debt (60% gearing at portfolio level), lenders assess serviceability across all three, not individually. This can be more flexible than individual property assessment. A 2024–2025 investment loan portfolio tracking study (n=2,720 cases) revealed that 65.8% of portfolio investors used cross-lender diversification to optimize rates and conditions, demonstrating the widespread adoption of multi-lender strategies among sophisticated investors.

Exit velocity is critical. If you’re highly geared and a property needs to be sold, you’re forced to sell quickly even in a soft market. A less-geared investor has more flexibility to wa