Is an annual tax on the family home the fairest way forward?

Steven Paterson, Partner, Tax, Grant Thornton, Sydney

The NSW Review of Federal Financial Relations Draft Report ‘Supporting the Road to Recovery‘, released at the National Press Club in Canberra on 1 July 2020, highlights a number of clear areas of tax reform.

The Draft Report was presented to NSW Treasurer Dominic Perrottet. The independent review is chaired by Mr David Thodey AO.

One suggested reform area which will have the attention of every Australian with visions of climbing the property ladder is the abolition of stamp duty in favour of a broad-based land tax – basically an annual tax on everyone’s home.

It is a common misconception that GST, now 20 years old, was supposed to pave the way for the complete abolition of stamp duty. What was initially agreed was to abolish various duties levied on businesses (eg mortgage duty, hire of goods duty, lease duty) and conveyance duty on commercial property. It was never intended to abolish duty on residential property.

Probably unbeknownst to most taxpayers, the scope and rates of duty on land-based transactions has actually increased (not decreased) since the introduction of GST. In addition, foreign surcharges (extra duty or land tax payable by foreign persons) have also been introduced in some form in every State and Territory other than the Northern Territory.

There will be winners and losers

Land tax is favoured among economists as a fairer and more “efficient” tax than duty as all people with a property help to shoulder the burden and you have a steadier stream of tax coming in. In 2018-19 (at a time when Sydney property prices were coming off “boom” territory), there were less than 200,000 transfers versus 2.8 million properties. That’s a significant new pool of taxpayers.

There are 4 different approaches to a broad-based land tax proposed, and regardless of the approach taken, transitioning from duties to land tax will create winners and losers, which we expect will be difficult to message and manage. The Draft Report acknowledges this in saying “governments will have to balance equity for existing owners against the revenue cost of providing land tax concessions and have access to thorough modelling of budget impacts and distributional effects.”

However, in a seeming attempt to message the “bad news”, it also acknowledges that “governments will not be able to design their way out of the fact that some properties bearing an unfairly small share of the tax burden at present, will see a change, and nor should governments try to.” That seems to admit property owners are intended to bear the heavy lifting.

So what does this look like in practice? The table below uses Sydney auction results from 27 June 2020 (the weekend before the Draft Report was released), assuming property is bought by an Australian citizen:

Recent Sydney auction results

PropertyPurchase priceStamp dutyLand valueAnnual Land Tax (using current rates and thresholds)Annual Land Tax (using current rates but no tax-free threshold)*
4 bedroom house in Epping$1,740,000$81,002$1,320,000$9,476$21,120
4 bedroom house in Seven Hills$891,000$35,527$487,000Nil$7,792

1 bedroom unit in Randwick
3 bedroom unit in Campbelltown$640,000$24,232 $85,306NIl$1,365
*Presumably a broad-based land tax means that all property is brought into the land tax system, not just those which have a value above the tax-free threshold, which is currently $734,000.

What is clear, is that there is no direct correlation between the improved property value and the difference in the amounts of a one-off stamp duty versus an annual land tax. Houses will naturally bear a larger burden compared to apartments as they have a larger “land” value. There will also be disparities between inner, middle, outer suburbs and regional areas as the “land” value can differ markedly. One would expect something would be needed to smooth such disparities, such as different rates and thresholds.

The Draft Report acknowledges the transition process will be a key factor and offers 4 broad transition approaches:

  • Current owners are grandfathered, with the new regime applying to a property on its next sale.
  • Current owners are grandfathered, and buyers can opt in to pay stamp duty or an annual land tax. Presumably this would only apply to current exempt land (ie homes), as most commercial property is already subject to land tax.
  • Land tax applies to all property, but with credits available for properties for stamp duty paid on purchase. Presumably, this would extend to land inherited through generations as transfers made upon death are usually exempt.
  • Stamp duty rates are gradually reduced, with land tax rates gradually increased. This is essentially the model used by the Australian Capital Territory, which is in year 8 of a 20-year transition period.

It seems to us that the main “trade-offs” between the approaches are fairness and timing. That is, it seems the longer the transition period, the more “fair” the transition, but at the cost of managing 2 separate tax systems (both duty and land tax) for some time. In any event, the Draft Report indicates that this is merely the start of a conversation with constituents, and does not indicate that a transition is intended to commence in the short term.

What does this mean for foreign surcharges?

Foreign surcharges do not get a mention in the Draft Report. Presumably, surcharges would still apply in a land tax setting but paying a higher rate than Australian citizens, permanent residents and certain New Zealand citizens. However, would stamp duty surcharges be retained for that cohort? One would presume not, but surcharges are generally seen to be a tax on people who can’t vote, and might be here to stay.

Would you move interstate to avoid land tax?

Finally, can NSW (or any State) go it alone? While any transition to a broad-based land tax in NSW would only affect property owners and prospective buyers in NSW, it does have a potential to distort the tax position of a property owner compared to other States. Australia has already had experience with this, being the abolition of death taxes. Queensland was the first jurisdiction to abolish death taxes, thereby triggering a significant interstate migration to the Sunshine State. All States quickly followed suit. One has to ponder, particularly in the post COVID world where location may be less paramount for job progression and security, would moving interstate be attractive to a family faced with finding an extra $10,000 a year for land tax? Albeit, they would be required to pay stamp duty (as they would now), but that would be a single hit in a presumably cheaper property landscape.

Final Report still to come

An initial Discussion Paper was released in October 2019 and now we have a Draft Report. Views and comments on the Draft are due by the end of July 2020. It was originally proposed that a Final Report with recommendations would be delivered in the first half of 2020, although with the COVID-19 Pandemic, the final report has been delayed.  It will be particularly interesting to see if it will feature in the next NSW Budget, which has been deferred due to COVID-19, and mooted to be handed down in November 2020.

This article was first published in the Weekly Tax Bulletin.

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