Replacing stamp duty with land tax has the potential, if enacted sensibly, to support budget recovery without impeding economic growth.
The NSW and Victorian Treasurers are to be commended for taking on the challenge of reform. How this switch is implemented is critically important.
- switch-on-sale (full grandfathering) for existing property owners, and
- voluntary ‘opt-in’ for new buyers.
Prosper has modelled this approach and found it is unviable, and inconsistent with the aims of the reform.
In NSW, the proposed transition model will take more than 50 years and cost over $120 billion in foregone revenue – some 20% of GSP. The equivalent impacts in Victoria are even more significant with net debt expanding 25% of GSP within 50 years – a giveaway of more than $100 billion from future taxpayers primarily to current landowners.
While grandfathering feels intuitely fair, the problem with exempting current owners from land tax until the property is next sold is that it entails a massive and unavoidable loss of tax revenue over a transition period lasting for generations.
Typically around 5% of properties are transacted each year. This means additions to the land tax base will be slow. In the first year of the reform, states can expect to receive land tax from only 5% of properties, in the second year from around 10%, etc.
Chart 1 shows the percentage of landowners paying land tax per year and the cumulative loss of tax revenue due to grandfathering, assuming 5% of untaxed properties join the land tax base each year.
Chart 1: Land tax payers as share of all owners (RHS) and revenue loss due to grandfathering (cumulative=LHS, proportional=RHS)
Source: Prosper Australia calculations based on 5% of untaxed properties joining the base p.a.
The long run debt impact occurs because while the present value of tax paid over the course of the average buyer’s tenure might well be unchanged, government accounting does not recognise future land tax receipts as current revenue, unlike annual stamp duty revenue.
Nor are future land tax receipts recognised as a current asset. This means that while the switch might be neutral from the perspective of the average buyer, from the perspective of the operating statement and balance sheet it is not.
The transition will be even slower if combined with an ‘opt in’ approach for new buyers. Stamp duty received from buyers ‘opting out’ will somewhat reduce the front-end revenue loss, but only at the price of slowing the transition and thus maintaining the inequity and inefficiency of stamp duty for long-tenure properties.
Opt in will have enduring revenue costs arising due to ‘adverse selection’. Buyers expecting to hold their property for relatively short periods will opt in to land tax to reduce their overall tax bill. But buyers expecting longer-than-average tenure will opt out, and so pay no more tax than at present.
Table 3: Policy costs – NSW Treasurer’s proposed transition model
|Stamp duty||Total cost of grandfathering and opt-in policies|
|2018-19||20 year horizon*||50 year horizon**|
|$m||$m PV||% GSP||$m PV||% GSP|
|All (excl. ACT)||18,537||222,002||12%||330,536||17%|
Source: Prosper Australia calculations. Notes:*17.8 revenue-years (69% of revenue).**12.0 revenue-years (50% of revenue).
Chart 1 and Table 3 effectively demonstrate that unless land tax rates are set well above the past stamp duty equivalents, grandfathering will generate a massive revenue gap persisting for decades, and to maintain current spending will require a large and permanent increase in debt.
To put these figures in context, the Thodey Review’s discussion paper cited the 2016 NSW Intergenerational Report’s projected fiscal gap by 2056 of 3.4% of GSP per annum as motivation for why “business as usual is not an option” on funding.
As the fiscal gap grows over that 40-year interval, the cumulative debt impact could be expected to total roughly 68% of GSP. A ‘grandfathering’ and ‘opt in’ approach would not only fail to help close the fiscal gap, but would add further debt worth about one-third as much again.
The only principled yet realistic transition options involve limiting exemptions to the most recent buyers, and for a limited period.
These could be enacted by means such as a partial refund of stamp duty, which is a more targeted approach than the ACT’s gradual transition, with concessions paid for via a sunsetting temporary rate (the Prosper model). A time-limited opt-out option could also be offered for a limited window with a limited exemption period (e.g. 20 years).
Prosper has covered all this and more in our 2019 transition report.
State governments cannot be allowed to to rush into commitments it neither can nor should deliver on. To that end, the Thodey review must properly address the limitations of certain transition models in order to avoid inadvertently derailing land tax reform.
Read the full briefing note here.