Saturday, July 21, 2012

Just plain unfair: the taxation of new housing

Housing starts continue to slide to record lows and the HIA and other groups warn of worsening supply shortages but the taxation approach to new housing seems to escape policy attention.  Euphemistically called’ developer contributions’ (rather than new home buyer taxes), the notion of up front per-lot levies took hold in the late 1990s and the beneficiaries – local councils and state governments – show little intention of weaning themselves off unfair and very damaging tax. If we want to stimulate activity in new dwelling supply (which most policy makers say they do) then starting with this pernicious tax could be a good idea.

It’s an alarming fact that taxes, charges, fees, levies, and compliance costs now account for one third of the cost of a new home or home unit. That’s a situation which simply didn’t exist in the 1990s or at any other period in Australia’s history. This sad situation owes much to a number of things: the arrival of the GST (which at 10% is only applied to new housing); policies which have deliberately restricted the supply of land; excessive regulation of the development approval process for little if any gain; and the imposition of upfront taxes by councils and state governments.

This latter ‘initiative’ took root under the guise of ‘user pays’ policy principles and received little opposition from the industry at the time, mainly because the levies were modest. But governments were not so modest and they quickly saw these levies as a means of taxing the development industry to enrich the budget position, allowing more election promises to be made.  Greed drove levies up quickly to the point that they reached anywhere from $30,000 to $50,000 per lot or unit, from almost nothing within the space of a few short years. Subsequent reforms have sought to ‘cap’ these levies at around $30,000 (in Queensland) and other jurisdictions have made similar overtures. But the levies themselves are not in the spotlight, and perhaps they should be.

Just plain unfair.

The problem is simple. By taxing new housing under a prejudicial scheme, governments are creating an additional disincentive for the supply of new housing (which they claim they want more of). And more to the point, they are taxing the people (new homebuyers) who are least capable of paying, which in turn is producing a widespread downturn in new housing activity, along with the commensurate loss of jobs, which seems to have some policy makers and economists puzzled.

Here’s an example to drive the equity problem home. A young family, with a combined household income of $80,000pa, is looking to buy a new project home for $400,000 (which is nothing fancy these days). The GST means that 10% or $40,000 of that price is a tax levied by the federal government on behalf of the state (which is returned to the state).

(You could argue fairly that, because it’s levied on the price of a new house, it constitutes a type of infrastructure levy which states could use for that purpose. Of course, they don’t tend to see it that way).

In addition, let’s say there’s a $30,000 upfront per lot levy built into the price and for the sake of keeping our maths simple, let’s say there’s another $30,000 in stamp duty (about $13,000 before first time buyer discounts etc) plus various application fees, charges, and process-related costs in there too. (Plenty of studies have been done to confirm these sorts of numbers, and you can search the archives of the HIA, UDIA or PCA for corroboration).

So our young homebuyers are about to pay hidden taxes of $100,000 on their new home (not including the regulatory costs of planning law and supply constraints nor the costs of time delays in the approval system). That’s an extra $100,000 they’ll borrow for, at 7% per annum or an extra $706 per month or $8,500 per annum in repayments just for the tax component. That’s actually a big chunk of their combined income (something few if any proponents of this tax approach to housing ever seem to take into consideration).

Contrast this with another couple, looking to purchase an inner city home in an established area for $1.5 million. Because they’re buying an established home, there is no GST and there are no upfront levies or planning related red tape costs. They will however be up for stamp duty, which on a $1.5 million house will be around $68,000.

So, our young couple on a modest income buying a new home for $400,000 will be up for over $100,000 in taxes fees and charges. But our other couple with money to spend (their income would be considerably more) and paying $1.5 million for an inner city residence will actually pay less. They’ll pay less in dollar terms, they’ll pay less in percentage of purchase price terms, and they’ll pay vastly less in terms of their combined income.

Where’s the equity in that?

The argument in support of these upfront costs on new housing was always that housing growth placed a high burden on local and state governments to provide communities with infrastructure. But in reality, these taxes are largely finding their way into consolidated accounts and it is developers providing the infrastructure which home buyers are being taxed for (bikeways to new schools are all on the list of developer provided amenity).

But where the argument, I think, fails in spectacular fashion is that much of the infrastructure focus in all of our cities tends to be on projects within a five or at most ten kilometre radius of the CBD. This is where people are trading million dollar homes for a fraction of the tax burden that new home buyers in largely outer suburban areas are paying. In addition to which is the fact that the existing infrastructure network – both social and economic – in established areas was only ever funded through broadly based revenues such as general rates, and is already of a high standard. Libraries, schools, swimming pools, parklands and public transport networks – none of these existing infrastructure assets were paid for by upfront levies. So arguably, the people buying the $1.5million house are getting a bargain as they’re not being asked to contribute in anything like the same way our young couple are.

Pointless anyway?

If the inequity of this approach wasn’t bad enough, there’s the fact that it doesn’t even raise that much money. There are so few new dwellings relative to total stock (additions are made at only around 1% to 2% per annum) that the capacity of these levies to raise much relative to total council rates revenues is miniscule. The Gold Coast City Council, for example, collected almost $1 billion in revenues in 2010-11, of which roughly half was from general rates. Only $24.9 million came from ‘developer constributions’ which is piddling by comparison. Yet the effect of these levies, applied as they are to such a select section of the market, has been to stifle activity and depress the construction industry. They have a highly disproportionate effect on depressing new housing and on exacerbating the affordability problem.

The Gold Coast (continuing with this example) could abolish these levies altogether, which would add only $25million to the $500million general rates revenue needs of the council, meaning that the broader community will pay through their rates for the infrastructure they will enjoy, instead of assigning the burden to those least capable of paying.  And by abolishing the levies, they’d be making a significant step in the direction of approving affordability and stimulating the industry – both subjects which they’ve had much to say about.

A similar approach to more equitable taxation of housing, if adopted more broadly by governments state and local, might just achieve the sort of stimulus that wasted millions of grants and incentives have failed to deliver.

I wonder if anyone’s prepared to make the first step or even if anyone really cares?