photo credit: ChicagoGeek

Dr Gavin Putland

As Monash City Council tries to manufacture consent to tax buildings through council rates, the same idea looks set to be dumped in Tasmania and has just been pilloried in the local press in WA.

Strictly speaking, the systems under attack in Tasmania and WA are based on the rental value of the property, including the land and building(s); this is called the “assessed annual value” (AAV) in Tasmania and the “gross rental value” (GRV) in WA. The system proposed in Monash uses the “capital-improved value” (CIV), which is a purchase price rather than a rental value. But the difference is of no consequence; in all cases the rates bill is proportional to the value of the property, including the building(s), and in all cases the proportionality factor (the “rate in the dollar”) is determined by working backwards from the required total budget.

In contrast, the existing system in Monash levies rates on the “site value”, which is the value of the land alone (including airspace and building rights attached thereto, but excluding actual buildings).

“TASMANIAN home owners can expect a more equitable council rates system to be operating by next year,” said the Sunday Examiner on August 16. “It is understood that state and local government heavyweights have held top-level talks and agreed to throw out the much-criticised Assessed Annual Value system that has led to wild variances in rates caused by the property boom.”

Eh? Wasn’t it because of those wild variances in rates that Monash allegedly had to adopt CIV? Yes, it was.

And what system is Tasmania proposing to adopt? The Examiner continues: “It is expected that Tasmania will redraft the Local Government Act and that council rates from next financial year will be flattened and based on land value…”

But isn’t the Monash system based on the land value? Yes. With a flat rate? Yes. And doesn’t Monash regard the opportunity to have “differential rates”, instead of a flat rate, as one of the attractions of CIV? Yes. Indeed, didn’t the Victorian Parliament allow such differentials only for CIV in a blatant attempt to induce Councils to adopt CIV? Yes.

Could I make this up? No!

The Tasmanian experience indicates that if wild variations in rates bills are the problem, CIV is a less-than-satisfactory solution.

Admittedly, CIV tends to reduce the percentage changes in bills in so far as the volatile land values are diluted by the addition of the more stable values of existing buildings. But CIV also introduces another source of variability, namely sudden increases in bills due to construction, extension and renovation.

That’s the issue in WA, where the local press reports that a mother in Cottesloe was hit with a 150% rates increase for rebuilding her house (‘Wrong’ rates ping home builder, POST, Aug.15, p.7). That doesn’t happen in Monash — yet. But it will happen if CIV comes in.

Monash is the last remaining Victorian municipality that uses site-value rating. If it goes to CIV, will it become known as a late adopter of a discredited idea?

(See also “ Rates on Site Values don’t punish home builders”.)

photo credit: dsearls

Gavin R. Putland

Everybody wins when we tax the benefits of infrastructure to cover the costs

DON RILEY owned properties near two stations on a new section of London’s underground Jubilee Line. The rise in the value of his properties outweighed all the tax he paid in the previous 40 years.

In his book, TAKEN FOR A RIDE (2001), Riley calculated that the new line, which cost taxpayers £3.5 billion, raised land values by a conservative £13 billion. If 27% of the uplift in land values had been reclaimed through the tax system, leaving the other 73% for the lucky property owners, this project would have paid for itself without burdening any other taxpayers.

Riley couldn’t help noticing that if the tax system reclaimed a share of ALL uplifts in land values, property owners would be the biggest winners, because numerous infrastructure projects that were stalled for want of money would suddenly become self-funding.

In a recession, this is just what is needed to reverse the decline in property values and create jobs without trashing the Budget. Moreover, such uplifts in land values are compatible with affordability in that they represent improved amenity, not higher prices or rents for the same amenity.

The benefit of an infrastructure project is measured by the price that people are willing to pay for it, and whatever part of that price is not paid in user charges (fares, tolls, etc.) is paid for access to LOCATIONS serviced by the project. In other words, the benefit (net of user charges) is manifested as uplifts in LAND VALUES — not building values, which are limited by construction costs, but values of land (or space), which has a location and therefore a locational value even if no buildings yet occupy it.

Therefore if the benefit of an infrastructure project exceeds the cost, then the cost (net of user charges) can be covered by taking back a sufficient fraction of the uplift in land values.

More generally, the COST-BENEFIT RATIO of a project is the COST-UPLIFT RATIO. If the tax system claws back a fraction of every uplift in real land values, any project whose cost-benefit ratio equals that fraction is self-funding, and any project with a lower cost-benefit ratio is more than self-funding, yielding net revenue that can be used for (e.g.) cutting other taxes or retiring debt. The remaining fraction of the uplifts is a net windfall to property owners.

Economic theory says the utilization of infrastructure will be socially optimal if user charges are set at marginal cost. But in that case, the fixed costs must be met from some other source. Taxing the uplift in land values solves the problem.

Public-Private Partnerships (PPPs) do NOT solve the problem, because private providers have little or no ability to recover uplifts in land values. So they try to cover capital costs entirely from user charges, which are therefore too high, causing low utilization, which may prevent recovery of costs — unless taxpayers come to the rescue. Low utilization defeats the purpose of the infrastructure, while public subsidies and guarantees defeat the alleged purpose of private finance.

Financing infrastructure out of uplifts in land values does NOT mean raising taxes now to pay for infrastructure later. It means changing the tax mix so that future investment in infrastructure pays for itself by expanding the tax BASE without further changes in rates or thresholds. The initial change can be revenue-neutral, and can be managed so that property owners don’t lose in the initial change or the subsequent operation of the new system.

Of all existing taxes, the one most conducive to investment in infrastructure is land tax. This does not burden land buyers, because it is discounted in prices: the higher the tax, the lower the price. Thereafter, if the rates and thresholds are left well alone, your tax bill doesn’t increase unless your land value does, and your land value doesn’t increase unless, in the judgment of the market, you are better off in spite of the tax implication.

But the rates and thresholds are not left well alone; they are repeatedly adjusted to “compensate” property owners who are paying more tax because their assets have increased in value. Never mind that the asset appreciation dwarfs the tax! By demanding such “compensation”, property investors effectively tell governments: “Don’t build infrastructure, because we won’t share the uplifts in land values.” So the infrastructure isn’t built.

Conveyancing stamp duty, which raises revenue in proportion to total turnover of land and buildings, is inefficient at taxing uplifts in land values. It would be far more efficient if it were payable by the vendor and proportional to the “capital gain” on the land since the last transfer of title. (And if the seller of a property acquired under the old system had the option of paying tax as if the property had been sold and bought back on the last day of that system, there would be no losers in the transition.)

But when NSW introduced a 2.5% stamp duty on capital gains in 2004, opposition from property investors forced the Government to drop the infrastructure-friendly new duty and keep the old one.

The tax most conducive to infrastructure provision by LOCAL governments is SITE-VALUE RATING, whereby Rates are levied on land values only. But property investors want to reduce the sensitivity of Rates to land values — the very feature that makes Rates suitable for funding infrastructure — by including values of buildings in the rating base (“Capital-Improved Value” or “CIV” rating) and by further diluting the Rates with various “service charges” that don’t depend on property values. The last remaining site-value-rating council in Victoria is Monash, and that domino seems about to fall.

In general, if a certain percentage of every real uplift in land values is reclaimed by taxation, every infrastructure project with a cost/benefit ratio not exceeding that percentage becomes self-funding or revenue-positive, and still delivers net windfalls to the affected property owners. The owners gain because they receive uplifts in land values from projects that would not otherwise proceed.

Why then do property investors sabotage this kind of taxation? Could it be that passive rents and capital gains, like passive welfare payments, dull the brain?

Presented by Dr Gavin Putland

Thursday November 6th, 6.45pm

As the panic sets in and discussions about a new financial framework at the Bretton Woods 2 meeting grow, Dr Putland will measure up the trends that continue to lead us into asset bubbles.

What can be done to avoid them? What should the G20 countries be focusing on?

What can we do to build a knowledgebase so that it doesn’t happen again?

Gold coin donation to cover drinks, nibbles.
Venue: Level 1, 27 Hardware Lane, Melbourne

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