There will be a myriad of issues debated at this week’s Tax Forum but top of the wishlist for many experts is reforming housing taxation.
Housing makes up the lion’s share of household wealth in Australia. The Australian Bureau of Statistics estimated in 2007 that about 45% of household wealth is in home ownership, and another 15% is in investment housing.
People access housing in different capacities: as home owners, landlords and renters. Australia has a fairly high and stable rate of home ownership by global standards.
About 70% of Australian households (individuals or families) own or are purchasing their own home; 22% rent in the private rental market and 5% rent in public or social housing.
However, these averages mask some worrying trends, as younger people find it more difficult to access home ownership, our cities sprawl and services become more expensive, and older people carry mortgage debt for longer than ever before.
This year, the National Centre for Social and Economic Modelling (NATSEM) confirmed previous findings that Australia has one of the least affordable housing markets in the OECD. We have severely unaffordable areas in most cities and in regional and rural areas.
A complex mess
Housing is affected by many different taxes in Australia, leading to a complex mess of federal, state and local taxes, exemptions and concessions.
Home owners benefit from many tax exemptions. Most home owners pay rates to local councils, but home owners do not pay any land tax, or any capital gains tax on the sale of their home.
Home owners also do not pay tax on what is called “imputed” rent – this is the benefit of living in your own home instead of having to pay rent out of after-tax income, like renters do.
For most of us, who must purchase a home with mortgage debt, the benefit of not being taxed on imputed rent is offset to some degree, because the interest on our home mortgage is not deductible.
The tax rules for landlords of private rental housing are inconsistent. Landlords pay some taxes but benefit from some subsidies as well.
The combination of our capital gains tax 50% discount, the ability to negatively gear investment in rental property as a deduction in the income tax, state stamp duties and poorly designed land taxes causes a biased investment housing market that contributes to Australia’s lack of affordable housing.
All home owners and landlords pay stamp duty on house purchases. Tax and housing policy experts, including the Henry Tax Review, agree that stamp duty is a poor tax.
It is inefficient, feeds into house prices (contributing to lack of affordability) and taxes more heavily those people who purchase new housing more often, than those people who don’t.
Stamp duty is an extra cost that impedes people from buying and selling their homes, both within our major cities and across the country, for work reasons, or to “upsize” or “downsize” their home as needed.
Stamp duties are an important revenue source for state government, and this is a crucial factor in any tax reform.
However, stamp duties are a volatile revenue source - as housing markets soften in many places, state governments struggle to meet revenue requirements because their stamp duty collections are down.
So what do we need to do?
As recommended by the Henry Tax Review, we should retain the capital gains tax exemption for the home.
Australians support home ownership and seeking to tax it will add significant complexity to the income tax system for many people.
But we should go ahead and reform the income tax rules for investments, including rental real estate.
One approach is to adopt the recommendation of a 40% discount on net savings income. Investors would net off their income and gains on investments, against expenses and losses on those investments.
A 40% discount would apply to net savings income, so that only 60% of this net savings income would be subject to tax at the individual rate.
This would be simpler, fairer and cause less distortion than our current income tax system.
To assist in increasing the supply of affordable housing, the government should consider retaining the 50% capital gains discount, and the ability to “negative gear” interest, for rental housing investments that are developed in the National Rental Affordability Scheme.
State governments should eliminate stamp duties, as in Recommendation 51 of the Henry Tax Review.
Over a suitable transition period, we should replace this, as recommended in Recommendations 52 to 54, with a broad-based, low rate land tax that would apply to all land, including the main residence of most home owners, with an unimproved value over a minimum threshold. Only the land value, not the value of the house, would be taxed.
States should also reform land taxes to improve valuation rules and rate structures. Land taxes would usually be lower on apartments than on houses, supporting city planning goals and affordable rental housing.
A key issue will be the design of fair rules for transition to the new system. These can be designed so that home owners are not “double taxed” by paying both stamp duty and the new land tax on their home.
For example, the stamp duty on people’s last home purchase, within a reasonable time, could be credited against land tax owed for a period of years into the future.
We can also design tax concessions in the new land tax, so that people without sufficient cash flow, such as pensioners, can delay payment until sale of their house.
Hard but necessary reform
Tax reform for housing is hard, because it affects so many of us and because it involves both the federal income tax and many state taxes.
That is also why it is important. A “package” approach is needed, in which the federal government will support state governments to reform their systems.
Reforms to improve the taxation of housing would fix some of the worst problems in our state tax systems, and would make our income tax fairer and more neutral in its treatment of different kinds of income and investment.
A tax reform that rebalances the system to tax housing assets more neutrally and fairly can make a significant contribution to improving housing fairness, efficiency and affordability.
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