By Geoff Simmons*
The Tax Working Group’s final report, due to be released on February 21, is likely to recommend a Capital Gains Tax (CGT).
There are three problems with our tax system, and a CGT solves none of them. Michael Cullen claims this is “last chance saloon”, but why settle for a half-baked policy that achieves little and could make some things worse? We can do better.
Here are the three problems with our tax system:
- It heavily favours speculation on housing over productive investment in business;
- The resulting speculation in housing and land is pushing up property prices; and
- The higher house prices (and rents) are increasing inequality.
Our tax system desperately needs reform, not to collect more revenue but to make sure that revenue is collected fairly and efficiently (i.e. any new revenue should be offset by income tax cuts). A CGT solves none of the problems above, and creates a bunch of new problems at the same time.
Our tax system favours speculation on housing
If you have money to invest, our current tax system tells you to put it into housing. This loophole has existed since Roger Douglas reformed the tax system in the 1980s, and we have seen house prices rise since then. Sure, supply is part of the problem, but again there is no real incentive to build on empty land under the current tax system. Better to sit on it and watch the price go up.
The Tax Working Group has acknowledged this in their work. No wonder then that housing makes up 55% of our assets as a country – a very high figure by international standards. The majority of that (42%) is in the “family home”.
People often ask why The Opportunities Party wants to tax their house. My response is why do we already tax bank accounts? And shares? And businesses? Returns on all these investments are taxed far more heavily than the family home, or rental properties. A CGT (excluding the family home) may bring rental properties in line with other investments, but it will also hit businesses. Compliance costs for businesses will rise, and there will be an incentive to not sell businesses and property to avoid paying the tax. The net result will be poorer economic performance and no greater incentive to invest in business than we have now.
In fact what we see in overseas jurisdictions with a CGT excluding the family home is the ‘mansion effect’; the rich have an even greater incentive to invest even more money in their family home. Watch that figure of 42% invested in family homes shoot up.
Speculation is pushing up prices
This tax loophole has undoubtedly pushed investors to favour speculating on housing and land rather than other assets. And in the face of constrained supply (land supply will always be constrained no matter what developers say) that has seen prices skyrocket over the last 30 years.
Higher land prices benefit nobody but the seller. They increase the cost of new housing, which is passed on through higher rents. They increase the fragility of our financial system as people have to take on more debt to get on the property ladder. All this for no discernible benefit – the land is the same as it ever was. Higher land prices crowd out other important investments, for example ensuring that our homes are warm and dry. Every further price rise from here simply casts a greater shadow over our economy which will take even longer to unravel.
The problem is that the horse has already bolted. A CGT will not reduce house prices from their current astronomical height. As we have seen overseas they will simply slow the pace of gain from here. In the recent Demographia Housing Affordability Survey the two countries that ranked just behind us in terms of unaffordability (Australia and the UK) had a CGT excluding the family home. That is hardly a lofty ambition.
The final problem this nasty chain of events has caused is increased inequality. Inequality and poverty shot up during the early 90’s, the outcome of the benefit cuts and Employment Contracts Act of the then National Government. Since then, income inequality hasn’t grown. New Zealand has actually done a pretty good job of sharing the benefits from growth.
So why are we seeing more millionaires and longer lines at the food banks?
The answer is nothing to do with incomes, it is to do with assets and particularly housing. The rich have gotten richer because of their investments in property. As house prices have risen, landlords have passed that higher cost onto tenants in the form of rising rents. The incomes of the poor have risen, but not as fast as their rents, so they are getting poorer. Since the 1990s housing has been the main driver of rising inequality and poverty.
Yes we need to deal with the housing supply bottlenecks. But that doesn’t mean we should be blind to the demand-side drivers of house prices.
We don’t need to tax capital gain. We need to kill off capital gain completely. Alongside working on housing supply this has to include reforming our tax system to remove the favouritism of housing over other investments. For the good of our society and our economy.
*Geoff Simmons is an economist and the leader of The Opportunities Party.