Australia's Future Tax System

Final Report: Detailed Analysis

Chapter C: Land and resources taxes

C2. Land tax and conveyance stamp duty

C2–2 Some policy implications of a broad land value tax

A broad-based land value tax has a number of policy implications.

First, it is the owners of existing land that bear the burden of land value tax in the form of a one-off fall in land values when the tax is introduced. Subsequent landowners may remit land value tax, but they do not bear the expected value of the tax liability since the price of the land was lower by the estimated value of these payments when they bought it. This is relevant for how land tax reform interacts with other tax reforms and the design of transitional schemes.

Second, land value tax does not apply to the value of a property attributable to buildings and other forms of capital improvements. This means that the land valuation does not rise if a business owner builds a better factory, or a homeowner builds an additional family room. If, instead, these improvements were taxed, the tax would discourage investment and be less efficient (see Section B1 Company and other investment taxes). By not taxing improvements on land, land tax does not affect the owner's decision to invest in the productivity of their land. Instead, only the economic rent from the land is taxed. By levying a land tax, the community effectively shares in the benefit that would otherwise flow to the landowner.

Third, to be efficient land value tax must have few (if any) exemptions. The efficiency benefits of land value tax depend on the base being broad. Land value tax is efficient because land is fixed in supply. The only substitute for land is other land. However, exemptions from land tax provide some choice to owners of land on what to do with their land (and whether to pay land tax or not). If landowners can choose to use their land in an exempt activity and not pay land tax, the supply of taxable land is no longer fixed. This means that users of land subject to land tax will need to share some of the land tax liability if they want to use the land. For example, owners of investment properties subject to land tax need an inducement to continue letting their property, as they could otherwise sell it to someone who wants to live in it themselves and not pay land tax. This inducement comes by effectively sharing some of the burden of the tax with the tenant, who may be a business or private renter. When this occurs, the incidence of land tax does not fall only on the holders of land — it also falls on the users of the land. A narrow land tax may therefore be relatively inefficient, and arguably, inequitable.

Some exemptions from land tax may be motivated by equity concerns. In general, land tax is not a good tool for achieving vertical equity objectives. As land holdings are just one asset in a wealth portfolio, they are not a comprehensive mechanism for assessing means. Exemptions based on use are also unlikely to target equity well, as they will reduce tax for people regardless of their means. The income tax transfer system is a more effective and targeted means of achieving vertical equity between Australian residents than exemptions from land tax.

Land value taxes are relatively unusual as they are based on the underlying value of land, rather than the cash flow it generates. The value of land is dependent on the expectation of a flow of cash in the future. The method for assessing land values need to be robust to ensure land tax is efficient and fair. Much of the criticism of land tax centres around perceived arbitrary and inconsistent valuations. Land taxes can particularly appear to be inequitable where changes in land valuations appear out of step with price movements — for example, where land tax liabilities are increasing even when market values are falling. Confidence in the system requires up-to-date, transparent and consistent assessments.

Taxes based on values can cause payment difficulties for landowners who have high value land holdings with limited cash flows. Owners may be able to use financial arrangements — such as loans or even reverse mortgage facilities — to meet land value tax liabilities. There is a role for governments to provide liquidity relief provisions that allow the deferral with interest of land value tax liabilities until the land is sold. Such arrangements currently exist for some local government rates.

As land is an immobile base, it is an appropriate source of revenue for States and local government. It is also a base where States can exercise some fiscal autonomy in setting rates.

Finally, land is likely to become an increasingly important base as the world continues to globalise. Land is a highly visible and immobile base and the tax is difficult to evade. Indeed, land tax is one of the only taxes that if levied on foreigners, is not shifted to domestic factors of production (as discussed in greater detail in Section B1 Company and other investment taxes).

Principles

Reflecting the principle that taxes for revenue-raising purposes should be on broad and immobile bases, increased use should be made of tax on unimproved land values.

Land value taxes should not include building values or be triggered by transactions as both of these can affect the use of land, which reduces the efficiency of the tax, and can be inequitable.

Land value tax rates and thresholds should generally not be varied to achieve vertical equity objectives, which are better targeted through the personal tax and transfer system.