Land taxes have – unexpectedly – become a hot policy topic in the run-up to the election.
Land taxes were originally suggested by the economist and social reformer Henry George as a fairer alternative to income or business tax. The logic behind them is that land values are shaped by the activities of society as a whole, rather than the individual owner: they are boosted by public investments in transport and good schools, and by the productivity gains that arise from lots of workers and businesses interacting in cities. As a result, it’s only fair to take a small portion of that value back in tax.
Land taxes had their brief day in New Zealand during the 1870s, when they were applied to help fund public works and to break up large monopolistic rural landholdings. And now they may be back on the table: the Labour Party has proposed to set up a Tax Working Group to make recommendations to reform the tax system. This could potentially include land tax – but Labour leader Jacinda Ardern has been pushed to rule out taxing most residential properties:
Ms Ardern has always ruled out introducing a capital gains tax on the family home.
She’s now gone further, saying she’d instruct the working group to stay away from any policies which would affect the home or the land on which it is built.
“My message will be very clear to them – do not bring me any recommendation that includes the family home or the land that a family home sits on.”
To be clear: A land tax is a good idea. It would make our tax system fairer, while creating an incentive to use land efficiently rather than sit on it for capital gains. The last Tax Working Group set up by the incoming National Government recommended we adopt one – but National ruled it out, wrongly in my view.
But a land tax riddled with arbitrary exclusions would be at odds with the fundamental principles underpinning New Zealand’s overall tax code. It is unlikely to be efficient, or lead to all the benefits we would want to achieve.
To understand why, let’s start by taking a look at New Zealand’s goods and service tax (GST) system. Unlike most other countries, New Zealand’s got a really simple GST: all consumption gets taxed at the same rate. As NZ Initiative economist Eric Crampton explained in his great Outside the Asylum series, this simplicity means that we reduce opportunities to game the system – and reduce the uncertainty and litigation risk facing businesses:
New Zealand’s tax system is probably the best in the world, largely due to a strong commitment to the principle of sound taxation. Taxes are levied on a broad base at a low rate. Wellington tax wonks call it BBLR. And a good principle for public policy in New Zealand is not to break BBLR.
Consider the Goods and Services Tax (GST). It is a beautiful value-added tax applied cleanly and comprehensively across the tax system. But nobody in New Zealand appreciates it. Because nobody in New Zealand appreciates it, everybody wants to carve out a tax exemption for their favourite thing: fruits, vegetables, healthy foods generally, and feminine hygiene products are recent examples.
Here is what happens if you do that.
Australia runs a messy GST riddled with exemptions. Somebody decided groceries should not be subject to GST, but some snack foods should be. So bread is not taxed while crackers are. In 2010, Justice Sundberg of the Federal Court in Melbourne had to decide whether an oven-baked Italian flat bread, a mini-ciabatta, counted as a bread or a cracker for tax purposes.
The importer of the bread flew in Giampiero Muntoni to testify in court that the mini ciabatta was a bread, not a cracker. And Muntoni is far from a layperson in such matters. As Australia’s Centre for Independent Studies reported, Muntoni “holds an EU certificate that entitles him to certify whether a product is a bread or a non-bread item for value added tax purposes in Italy.”
Think about that. Italy’s value-added tax needs expert certified bread deciders. A certified profession dedicated to determining whether something is bread. The only conceivable reason such a profession can or should exist is to satisfy the requirements of a broken tax system.
Excluding owner-occupied homes from land tax would lead to similar onerous absurdities. It sounds like a good idea at first blush. But it would open up many New Zealand families to potentially intensive scrutiny of their private affairs.
To see why, consider a hypothetical but not unusual situation. Let’s say that a middle-aged couple owns and lives in a home in Auckland and also owns a bach in Napier, where they plan to retire. To start with, their affairs are simple: They pay land tax on the bach but not the home in Auckland.
But what happens when they transition to part-time work and start spending nine months a year on the beach in Napier, and the rest of their time back in Auckland working and spending time with friends? If they designate the bach as their main residence, they will have to pay more tax, as land values are higher in Auckland. That will create an incentive to avoid registering the Napier residence as their family home.
Of course, the Inland Revenue Department would probably see this as tax dodging. They would probably seek to avoid that by asking for a whole bunch of information, like flights, utility bills, credit card records, etc, and generally submitting middle-class families to the type of humiliating scrutiny that is ordinarily applied only to hapless single mothers on the DPB.
This is basically the regime we’re demanding if we exclude the family home from a land tax.
On the flip side, the more exclusions there are to a land tax, the fewer benefits we will derive from it.
In a recent interview with interest.co.nz, University of Auckland economics lecturer Ryan Greenaway-McGrevy explained the whys and hows of land taxation.
A key part of the rationale for land taxes is that they are difficult to avoid, as there is a fixed quantity of land:
Greenaway-McGrevy says many taxes come with bad unintended consequences usually as people try to avoid paying them. This happens because tax influences peoples incentives and behaviours, often in counterproductive ways.
“We tax income, we tax work. That reduces the return for working and that could act as a disincentive for people to take on additional work,” says Greenaway-McGrevy.
“If we think about taxing capital through say a capital gains tax, that affects a person’s incentive to invest. And as a consequence they may invest less in new residential construction, they may invest less in businesses, less in companies. Arguably that would be a bad outcome.”
If you tax a particular activity it reduces the incentive to perform that activity, Greenaway-McGrevy adds.
“When it comes to land, however, the amount of land is fixed. So if you are going to tax landowners they can’t turn around and say ‘well we are going to react to that by making less land.’ So we’re not going to affect the total amount of land in the economy if we choose to tax it. So that’s one of the reasons why I favour it and a lot of other economists favour it [a land tax]. It’s a very efficient form of taxation. It’s one of the reasons why the Tax Working Group was in favour of it. Essentially because it minimises those bad unintended outcomes [and] it could also potentially result in some good unintended consequences.”
Excluding owner-occupied homes from land tax would undermine these advantages. While the quantity of land is fixed, the quantity of land that people have designated as their family home isn’t. If we poke a bunch of holes in the land tax bucket, people will respond by seeking ways to slither through those holes.
Realistically, it would be politically challenging to implement a land tax, even if you used the revenue to cut income and consumption taxes. Some people would benefit, but others would lose out. But if we’re going to have a proper discussion about tax reform, politicians have to be willing to consider all options, rather than arbitrarily ruling out ideas.
Equally importantly, political journalists need to wean themselves off their pointless ‘gotcha’ game about taxing the family home. When they do so, they reveal a fundamental misunderstanding of the “broad base, low rates” concept underpinning NZ’s tax system, and an inability to think about the perverse consequences of exclusions. That undermines our ability to have a proper democratic discussion about tax policies.
What do you think about land taxes?