Prosper has released our latest report, Stamp Duty to Land Tax: Designing the Transition by economist Dr. Tim Helm. The report challenges the prevailing orthodoxy that the highly sought-after stamp duty to land tax reform is too “politically difficult” to achieve. 

What reform and why?

Most policy experts agree that stamp duties impose significant costs on the economy. The 2010 Henry Review put stamp duty abolition at the top of the state governments fiscal to-do list.

Stamp duty is an unfair tax. People who have to move because they can’t afford their mortgage anymore or because they are going through a divorce, are taxed heavily during what is likely to be a difficult time in their life. Meanwhile, people with stable enough livelihoods to hold their property for 50 years have only pay tax once, 50 years ago.

Broad-based land tax is not only fairer but it is more efficient. It’ll be cheaper to downsize or move closer to work, resulting in more efficient use of housing stock and perhaps even less traffic congestion.

Land tax is also a more sustainable revenue source for Governments. Victoria just lost around one billion in stamp duty revenue over the last year due to the recent property market downturn. That is less to spend on the schools, hospitals and transport we all need. Land tax provides a stable revenue alternative. 

However, as the report acknowledges, few citizens would take to the streets to demand higher land taxes. The politics of land tax is somewhat fraught “…since it cannot be avoided, it bears no relation to the taxpayer’s actions, it raises the holding costs of land, and it purports to tax not a cash income but an invisible quantity economists identify as ‘economic rent’. Economists, of course, consider all these merits.” 

It is not enough for proponents like Prosper Australia to urge bravery in the name of reform. We choose not to turn a blind eye to politics. If the stamp duty-to-land tax reform is one of the most significant actions governments can take to enhance our economic productivity, then stamp duty-to-land tax reform must not fall victim to the short-termism and partisanism that characterises Australian politics at present. A botched implementation may poison the reform for generations.

The challenge, therefore, was to design a transition policy which overcomes the unpopularity of land value tax (LVT), as well as the political costs of the reform. 

Author Tim Helm analyses in detail the trade-offs and recommendations of the Henry Review, the ACT model, proposals by AHURI, the Grattan Institute, and economists such as John Freebairn. His proposal is a least-cost, equitable transition, which highlights the appropriate framing, nudging and concessions necessary to overcome political resistance to reform. 

“For progressive politicians searching for a circuit-breaker on state tax reform the proposed package offers generous but logical concessions for existing owners, some non-compulsion for future buyers, guarantees against hardship for all owners, and an attractive introductory period to secure support early on. It is complex at the policy design back-end but simple enough at the taxpayer front-end.”

How we get there. The proposed reform package

Immediate abolition of stamp duty to realise the efficiency benefits without delay. Why waste another day collecting a bad tax? The annual deadweight cost to the Australian economy of stamp duty is believed to be 1% of GDP. The cost of retaining stamp duty for another 10 years, phasing it out slowly like the ACT, would be 10% of GDP, or $170billion. That’s like everyone in Australia working for one month for free after which we vaporise the produce. 

Credit for recent buyers, to avoid the inequity of double taxation while minimising the revenue cost and avoiding perverse incentives. The credit provided equals stamp duty paid less the hypothetical LVT payable since purchase date. This credit would be equivalent (in economic terms) to refunding the duty paid by current owners, then retrospectively applying the new LVT.

A short phase-in of land tax (e.g. over three years) to ease the politics. A 3 year tax holiday would give current owners (not eligible for a stamp duty credit) time to get used to the idea as land tax is phased in at 25% increments. A tax holiday might encourage prospective buyers to bring their home purchase forward: stimulating turnover, and protecting house prices from the effects of uncertainty. It’s a spoonful of sugar… 

A time-limited ‘opt-out’ option to avoid opposition from prospective buyers (open for three years). Opt-out makes the transition voluntary for people considering a purchase in the near future. Allows for prospective buyers to be no worse off under the new scheme. Opt-outs would be exempt from land tax for 20 years. Might be favoured by long tenure or land bankers (with high land value to improvements ratio).

‘Internally funded.’ The revenue costs of these policies are funded via a higher land tax rate over a defined transition period, so the overall reform package is budget-neutral. The estimated costs of the proposed package are equivalent to:

• 3.0 years of tax revenue ($19 billion for Victoria) to fund some credit for all buyers over the last 10 years (almost half of all current owners);
• 2.3 years ($14 billion) for a three-year land tax phase-in; and
• 0.1 years ($0.4 billion) for a three-year opt-out option capped at 20 years tax-free.

The total 5.4 year ($33 billion) cost of concessions could be funded with a tax rate of around 0.75% over the first 10 years before reverting to around 0.5% beyond that.

Tax deferral should be used to alleviate liquidity issues for asset-rich cash-poor taxpayers. More widespread tax deferral could also be used to ease the politics of the new tax and generate revenue. Deferral as default at commercial interest rates would make the new land tax act like a ‘vendor stamp duty’, but without the inequity and most of the inefficiency of the current buyer duty. By effectively taking over the lowest-risk, most profitable slice of the mortgage lending business the state and taxpayers would benefit at the expense of the banks.

The Twenty Year Transition

Here we see the package modelled with recent Victorian data. Notably, the opt-out and tax holiday components are limited to three years, ensuring there are some reform benefits in the first electoral cycle. 

Peak debt occurs in year three at $9 billion. From there on the budgetary position improves. 

A 0.74% Land tax charge on a $350,000 site equates to $2,590 per annum. This will encourage some to rent out spare bedrooms, to utilise underperforming sites. Greater incentives will exist for those wanting to move closer to work or downsize without the burden of a $40,000 stamp duty bill. 

The following graph includes the most interesting aspect of the reform package: mass deferrals (light yellow).

Whilst the deferral buys appeal, it leads to gross debt peaking at 9% of Gross State Product in year 20. However, the interest charged on the deferrals at state borrowing rate + 1.5% ensures no net debt increase. 

At first blush, mass deferral might seem like a radical idea. However, on closer inspection, we see that it simply enacts the same type of treatment as under Capital Gains Tax. Instead of contributing towards government service up-front, as with stamp duty, deferred land tax is collected at a point of liquidity. A system of default LVT deferral looks a lot like a ‘vendor stamp duty.’ 

State borrowing costs will always be lower than the banks; collateral in property makes most mortgage lending low risk. LVT, capitalised (into the land price) with payments deferred, could shrink the role of private finance in absolute terms, and any rents on that private lending are thus transferred to the state and taxpayers too. 

Adopting this transition policy could deliver the nation building reform over just a three year timeframe. By encouraging an orderly uptake of state land taxation, using the policy nudges suggested here, the nation can save in the vicinity of $170 billion in lost productivity over a decade. In an era of stagnant labour productivity, we cannot afford to ignore it.

While cases of true hardship may be very few, the spectre of this is fodder for fear campaigns, the likes of which have come to haunt public interest reform in this country. Milton Friedman famously said of LVT:  “It’s not unpopular for good economic reasons. It’s unpopular in my opinion for one simple reason: it’s the only tax left on the books for which people have to write a big cheque.” If any reform is to proceed, the policy design must work around that fact.

• Read our briefing note for a deeper understanding of the revenue impacts of ‘grandfathering’ and ‘opt in’ transition
• Read our evaluation of the A.C.T’s Stamp Duty transition at the first interval