Tuesday, June 24, 2008

Tuesday Column: How is our tax system shrinking the size of houses?

By making them more expensive.

How often does an inquiry dominated by members of the Coalition sledge one of the Coalition’s own programs?

The last time it happened was over the Access Card. That program was so disorganised, so counter to its stated aims and growing so much like Topsy as to be impossible to support.

It looks as if the same can now be said about what the Coalition did to the price of houses.

The report of the Coalition-dominated Senate select committee on Housing Affordability acknowledged last week what the Coalition’s critics had been telling it since 1999: That its decision to almost halve Australia’s rate of capital gains tax in that year enriched existing home owners at the expense of future ones.

Reports this week of a new Brisbane suburb in which the houses have no real backyard, no laundry, fewer and smaller rooms and space for only one car illustrate starkly the new divide - the explosion in house prices that began in 1999 has sharply cut the lifetime buying power of future salaries.

Not that Coalition seemed to mind at the time...

In what may have been an astute political judgment the former Prime Minister John Howard told us that he never heard homeowners complaining about rising prices. One of his parliamentary secretaries quipped “rising prices make for happy voters”.

Before the change people buying houses as investments paid tax on any profits they made at a rate not far below their marginal tax rate. The rate was cut only to compensate for inflation, which was low at the time.

After the change the rate was halved. High-income earners, normally taxed at 48 per cent, were henceforth taxed at only 24 per cent on the part of their income that came from trading in real estate.

As before, negative gearing meant that payment of that tax was postponed until the real estate was sold, and that in the meantime investors could reduce their other income for tax purposes by reporting what would ultimately turn out to be fictitious losses.

The Macquarie Bank’s Rory Robertson recommended the strategy to his clients, declaring that “since September 1999 it is almost as though the Australian tax system has been screaming at taxpayers to gear up to earn increased capital gains rather than to work harder to earn increased wages or salaries.”

Lightly-taxed capital gains could also be made in other ways, such as through the share market.

But real estate proved far more attractive to the new breed of well-advised tax minimizers. It was tangible, thought not to fall in price, and if it was in the form of a new apartment, could even attract a depreciation allowance (while appreciating in price).

As the new breed of investors piled into housing they pushed up prices to record highs, knocking first homebuyers out of the way, or condemning them to Brisbane-style micro-housing.

Those of us already in the real estate market might even have been cheering them on.

The Senate Committee has found that the resulting boost in the wealth of existing home owners and the tax break granted to investors is costing the government $6 billion per year, dwarfing the $2 billion annual cost of the negative gearing tax concession and also the $1.5 billion per year which is spent on the Commonwealth-State Housing Agreement in an effort to shield home buyers from the worst of the damage.

The committee found the $6 billion tax handout to be “regressive” as nearly all of it went to high-income households.

It said that neither the United States nor the United Kingdom granted such a concession.

The committee said that the most common argument used by supporters of the capital gains and negative gearing tax concessions was that together they increased the supply of rental properties and kept rents lower than they otherwise might be.

It is a difficult argument to make given that rents have soared since the concession came in.

In evidence sworn before the committee the Department of Families, Housing, Community Services tried.

One of its senior officers said that “the taxation provision for negative gearing has demonstrably increased the amount of rental housing that is available in the broader market”, but under later questioning conceded that the Department did not have “any information from our own sources” to support the contention.

The Coalition-dominated committee recommended that the tax inquiry to be chaired by the head of the Treasury Ken Henry consider the implications of the concessions for both housing affordability and fairness.

Its report reads as if just about bandaid that has been applied to blunt the effect of the concession on prices has in fact made it worse.

It quotes the Reserve Bank as saying that in the present circumstances programs that give people more money to spend on housing simply push the price higher.

One such program is the $7,000 First Home Owner Grant. The committee recommends cutting it for buyers of existing houses, while increasing it for buyers of newly constructed homes.

It has the same concerns about the Rudd government’s planned subsidised first home saver accounts.

The Committee stops short of making that finding about stamp duty concessions, although it notes that others have.

On Friday Westpac published its analysis of the effect of the latest round of extra stamp duty tax concessions in the Victorian, Queensland, South Australian and Western Australian budgets.

It found that combined they would force up national house prices by an extra one a per cent, with Queensland prices forced up an extra 2 per cent.

Westpac found that the original first homebuyer became “priced in” to real estate values within six months.

A recent stamp duty concession in Western Australia became priced in three months.

The ACT stood alone with NSW in not widening stamp duty concessions in its last budget (except for an innovative and temporary concession for pensioners wanting to downsize).

The ACT Opposition has promised to scrap stamp duty for first homebuyers. Westpac believes that’s a bandaid that would push up prices.

There is no easy way to make houses more affordable for people not yet in the market without acknowledging the root of the problem, tackling it and making prices fall.

The Coalition-dominated inquiry is to be commended for acknowledging part of the problem that its side of politics created and challenging the Rudd Government’s tax inquiry to fix it.


Reference:

Senate Select Committee, A good house is hard to find: Housing affordability in Australia, June 16, 2008

8 comments:

Andos said...

Keep up the good work, Peter. It's so refreshing to read unopinionated analytical reporting.

Anonymous said...

Reading the Senate recommendations - it is an honest work and has reached to the core issues behind this self-generated debacle.

Now all we need is for the new Liberal party (Labor) to act on it.

In 2003, the RBA delivered a similar analysis of the reasons behind housing unaffordability:

http://www.rba.gov.au/PublicationsAndResearch/SubmissionsToParliamentaryCommittees/productivity_commission_first_home_ownership.pdf

Point 22 of the Executive Summary squarely pointed out investor advantage as the main reason. For almost 5 years the Liberals sat on their hands and did nothing.

It will be nothing short of a self-created tragedy if Labor repeats the pattern. The next generation deserves better than the spectacle of self-indulgent-rental-portfolio-building by elected members of both political parties.

Thanks for playing a straight bat, I like your work.

AndrewBartlett said...

"The report of the Coalition-dominated Senate select committee on Housing Affordability acknowledged last week what the Coalition’s critics had been telling it since 1999: That its decision to almost halve Australia’s rate of capital gains tax in that year enriched existing home owners at the expense of future ones."

This is true, but it should be remembered that the laving of capital gains tax only occured with the support of the then Labor Opposition - it would not have passed the Senate otherwise.

From memory, Labor agreed to this in exchange for a Coalition government commitment to address the loophole relating to the taxation of family trusts - a commitment which was never filled and which I'd have to say Labor never did much to pursue.

Peter said...

Thank you Andrew.

Keep commenting.

Peter

mOOm said...

It's simply not true that the "US does not grant such a concession". Long term Federal CGT in the US is 15% vs. up to 35% regular income tax rates. After taking into account state taxes the concession is about the same as in Australia though is worth relatively more to high income individuals than low income individuals.

It is true that they don't allow negative gearing by individuals.

Andrew said...

Well said Peter. So how does this play out? Mr Bartlett if you're still looking I'd like to hear your thoughts. (Sorry to see you leave the senate btw).

I've been carrying on a email-ministerial dialogue with Housing and Treasury over the last few months and am dismayed to receive the standard line from both that "The Government has no plans to change the existing taxation arrangements for property investment." .. and that "Removing tax deductions for for property investors would mean that investment in property was treated differently to investment in other assets, for example shares."

Apparently you can now house a family in a share portfolio or art collection.

Is this senate committee report going to make any difference?

I'm 35, I've missed the boat with property ownership, I've backed the wrong horse by investing in shares. It seems I'm looking at either renting, or drowning in mortgage debt the rest of my life. I'm sure I'm not alone..

How has this been allowed to happen?

AndrewBartlett said...

Andrew (the other one) - I think the chances of there being changes to the negative gearing or capital gains tax incentives are fairly small, but the only way to make them larger is for people to keep pushing the idea and to get behind even the small acknowledgements and moves in that direction as suggested in the Senate Committee report.

The impact of Senate Committee reports depends in part on how government's respond to them, but also on whether other parties and other people keep the issue alive and use the credibility of the report to reinforce their calls for action. (assuminbg they think the report has credibility, which I think is true in this case)

Andrew said...

Are there any groups lobbying for changes to the tax incentives? Where do I sign up?

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