State property taxes are poorly designed and possess a range of unintended consequences that undermine capital flows and labour mobility. Although New South Wales and Victoria are enjoying a recent resurgence in stamp duty fees, it is in the best interests of state and territory governments to introduce a broad-based land or property tax to insulate themselves from future volatility.
According to the Grattan Institute, in a recent report analysing property taxes within the broader issue of fiscal reform, a broad-based property tax could raise around $7 billion a year for state and territory governments.
At present, each state has its own approach to property taxation. Stamp duty is a popular way of raising revenue, accounting for 41 per cent of state revenue in Victoria in the 2014-15 financial year and 37 per cent in New South Wales, while each state also imposes a land tax on the unimproved value of land owned (outside of your principle place of residence).
It’s a system that is inefficient and unpredictable and in desperate need of simplification.
Stamp duty is pro-cyclical and tends to increase rapidly when the property market is strong and contracts during a downturn or recession. It makes forward planning difficult, which encourages short-term thinking and inadequate state investment.
Nevertheless, property remains an attractive source of taxation. Australian property -- including residential, commercial and rural property -- was worth $8.3 trillion in June 2014. The value of land was estimated at $4.3 trillion and buildings and other improvements are worth an additional $4 trillion.
A broad-based land or property tax is one solution to the problem of effective property taxation. The value of land provides a relatively stable tax base compared with the number of annual property sales. It’s also more equitable since the tax burden is spread across the entire land-owning population rather than simply those buying a new property (roughly 4 to 6 per cent of the total dwelling stock is traded each year).
These revenue estimates are based on an annual levy of just $2 for every $1,000 of unimproved land value and $1 for every $1,000 of capital improved property value. A homeowner would pay a levy of $772 a year based on the median-priced Sydney home, valued at $772,000, or $560 a year on the median-priced home in Melbourne.
Naturally these figures are fairly flexible and could be adapted to meet the funding needs of the state, while also providing scope for competitive federalism.
According to the Grattan Institute, a shift from stamp duty to a broad-based property tax would add up to $9bn annually to GDP (around 0.6 per cent of nominal GDP in 2014). By virtue of being a more efficient source of revenue, this would allow a state or territory government to raise the same amount of revenue at a lower total cost to the economy.
The key for state governments is to choose a taxation model that will result in minimal distortions or what economists term ‘dead-weight losses’. Taxes often change behaviour -- high income taxes, for example, may discourage an individual from seeking employment -- but some taxes are more efficient than others.
Land taxes are widely considered among the most economically efficient because they don’t discourage employment or investment. It also encourages governments to better utilise their existing land holdings since they benefit directly from any project that improves the value of a piece of land.
By comparison, stamp duty effectively punishes people for moving house, which undermines labour mobility and leads to a less than efficient use of Australia’s housing stock.
With the tax base narrowing at the state and federal level, our politicians need to recognise that there is an urgent need for tax reform. Few of the options are popular and most are difficult political sells but reform is unavoidable if we want to maintain service quality and our credit rating.
Of the options available to the states -- including hiking the GST rate -- a broad-based property tax may be the most obtainable. Unfortunately, the GST is almost impossible to change.
A transition towards a broad-based property tax from the current system of relying on stamp duty may be difficult and perhaps unfair for recent buyers but these issues are far from insurmountable.
With the current boom in Sydney and Melbourne approaching its peak, smart government policy would see the benefits of demolishing stamp duty in NSW and Victoria before revenue begins to fall. Otherwise it is likely that their revenue projections will fall well short of expectations, not dissimilar to Western Australia’s recent experience with mining royalties.
Tax reform may be difficult but explaining to the public why the state budget has gone to hell may be more politically damaging. Unfortunately, this isn’t an issue where state governments can afford to be short-sighted.