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Thursday, 28 April 2016

Stamp duty bonanzathon

Debate rolls on

More to and fro on the ol' negative gearing debate with the Grattan Institute taking a veritable salvo of pot shots at government policy, noting with some justification that negative gearing distorts investment decisions and makes the housing market more volatile (but later contradicting itself later in the same report by claiming that abolishing the rules would only have a very slight impact, being a "1 or 2 per cent" decline in dwelling prices).

One positive to come out of this has been that we finally got a bit more detail and insight into the Coalition's line of thinking, blogged by Prime Minister Turnbull here.

Grattan's Hot Property report speaks of saving $5.3 billion from the budget bottom line through hiking the rate of capital gains tax ($3.7 billion) and quarantining net rental losses so they can only be written off against investment income ($1.6 billion).

The negative gearing component is a timing difference only, and implies only a tiny saving in the context of a housing market which now raises more than $45 billion per annum in taxation revenue. Such a seismic shift in policy hardly seems worth implementing if it genuinely would only devalue prices by 1 or 2 per cent as claimed (which admittedly sounds dubious to me).

The costs of negative gearing to the budget have been in decline for some years now in any case, with net rental losses falling by 53 per cent across the past two tax years alone, with further declines to come next year.

The average net rental loss has declined from $5,096 in the 2008 tax year to just $1,828 by FY2014, a whopping drop of more than 64 per cent, with more budget savings in the post next year.

Turnbull's blog piece was right about one other thing: Grattan's suggestions are not  actually in sync with Labor's proposed policy, and Grattan is also in part critical of the ALP stance of quarantining deductions to new build properties.

One of several problematic holes in Labor's proposed policy is that losses could still be written off against other income but not salary income, which in turn actually favours wealthier investors with multiple income streams.

CGT hike

Note that a proposed capital gains tax (CGT) hike would not apply only to negatively geared properties, but to all assets. A clear problem with hiking CGT is that it is a tax which discourages investment and imposes other costs on the economy, and in turn causes further distortions of its own.

In terms of the property market, for example, a higher CGT rate would without doubt lead to "asset lock-in", meaning that long term investors would be disinclined to sell an investment property if the action of so doing triggered a large tax liability, even where it otherwise made economic sense to do so.

This is particularly so in an era where it is now much easier to simply borrow (tax free) against the equity of the asset. Thus not only with the so-termed budget "savings" never transpire, there will be sundry costs to boot.

A CGT hike could potentially also lead to even greater investment in the principal place of residence through renovation or buying bigger and better homes, as the home remains capital gains tax free.

Grattan went on to produce a chart to attempt to show that rich people such as anaesthetists (891 of them) and surgeons (1,020) gain the most benefit from negative gearing, although its own analysis of ATO data from the preceding year has already shown that in fact there are many more people in everyday occupations using negative gearing - they just make smaller losses on average.

Grattan's latest Hot Property report notes that "the median taxable incomes (sic) for taxpayers who negatively gear is $61,533". This ties in with what I found myself from the ATO data, while most of us are active in investment property around our peak earning years (and not, say, while studying at Uni) as one would expect.

Of course, it is a truism that higher tax paying households can save more tax because they also pay more tax, while the tax benefits are of little use to the half of all households that pay no net income tax after welfare benefits are included.

Grattan swings hard

Grattan has gone in to bat hard against negative gearing here, and makes some valid points in its report. However, one problem with think tank "analysis" with an underlying agenda is that theories aren't always tempered or informed by real world experience, or sometimes even basic common sense. Or perhaps the report was just rushed out in order to stick in the boot back into Turnbull post-haste? Not sure.

Some of Grattan's claims are unsubstantiated, such as the statement that most landlords own only one or two properties due to land tax constraints. This point is obviously made up and self-evidently untrue - the truth is that property investment is a low-yielding cottage industry and largely the domain of middling income earners, while investors overwhelmingly choose sub-optimal and often unprofitable assets which lead to administrative and financial headaches for the landlord, and fairly often to the speedy sale of the property.

Some of Grattan's other quoted "facts" are just plain wrong e.g. "most of Australia's housing stock is owned by landlords with one or two properties", which is not even remotely close to being true.

Other bright ideas just seem to be the result of wild speculation splurted out in a brainstorming session in order to support "the cause", but clearly haven't been subjected to a sense test. A case in point being the  bizarre claim that negative gearers need to keep switching properties to stop annual rent increases eating into their tax losses, and as a result "are reluctant to agree to long-term tenancies".

Lol. I can't imagine for one second that in the history of the Great Southern Land a single person has ever bought a house in for the purposes of making a loss, then sold that house to buy another house because the rents increased and the first house was making too small a loss. Stop and think about that for a second. It's a completely ridiculous line of argument.

An interesting exercise in fiction, one can only assume that somebody was toking too hard on the wacky baccy that afternoon, the common sense check foregone in the befogged quest for munchies...

Of course in the real world such a daft tax-avoidance strategy would never work in a month of Sundays due to the prohibitive transaction costs, which leads us on neatly to...

Stamp duty bonanzathon

Taxation Revenue figures released by the ABS this week showed that state and local governments gouged a spectacular $45 billion in property taxes and rates in financial year 2014-15, equating to more than half of their entire total taxation revenue at 50.6 per cent.

Interestingly since the CGT "discount" was introduced in 1999/2000 stamp duty revenues have increased by a thunderous 233 per cent, although my belief is that low interest rates and other market fundamentals have played at least as significant a role in this dynamic. Incidentally this is another problem with think tank or academic modelling: through necessity it often takes little or no account of the behavioural change which inevitably follows shifts in tax legislation.

Stamp duty revenue from conveyances soared in 2014-15 by another 22 per cent in New South Wales, and by 19 per cent in Victoria.

In fact over the last three financial years stamp duties have absolutely ripped higher in NSW (+96 per cent), Victoria (+50 per cent), Tasmania (+42 per cent), Queensland (+33 per cent), South Australia (+50 per cent), and Western Australia (+26 per cent). In the Northern Territory revenues spiralled by +185 per cent over the same three year period.

Property investors in particular pay a huge amount in stamp duty, land tax, and capital gains tax, which has always led me to believe that budget savings from changing negative gearing rules could only ever be minimal, particularly when increased public housing costs are accounted for.

It's also usually conveniently overlooked that interest deductions claimed by property investors are mirrored by the interest booked as revenue by the lender, with bank profits taxed accordingly thereafter, so the actual "savings" in the budget would be $nil.

I was planning to upload a few charts here to show just how hard governments have been scouring housing markets for taxation revenues over the past 15 years, but Cameron Kusher of CoreLogic-RP Data has already produced those particular goods. The answer is "a startling amount", with revenues up by 150 per cent.

Investor overload

What I think anyone with a reasonably functioning brain would agree is that mainly thanks to low interest rates by early 2015 in particular the market had become far, far too top-heavy with investors. Property markets need a certain percentage of investors to function properly, but shouldn't become overrun with them as this reduces home ownership rates and creates unnecessary imbalances and financial stability risks.

There are easier ways to taper down investor activity, though, and indeed we have already seen a few them, including tweaking interest rates on investor loans higher, restricting investor mortgage credit growth via tighter serviceability ratios, stripping higher LVR investors out of the market, and plenty more.

And heck, there are a great many easier ways to make property investment less attractive without smoking the market to smithereens, such as caps on deductions, making depreciation allowances less generous, or any number of others.

The wrap

Some good points have been raised about tax policy this week, and some utterly nonsensical ones, which is often a problem when folk are campaigning for a cause. For example, last year it was claimed that landlords are leaving some of their properties empty in order to increase rents on the remainder of their portfolio.

Such harebrained theories might seem plausible in a theoretical vacuum, but are totally illogical in the real world.

A key underlying point here is that nobody can forecast housing markets accurately (refer to almost any media article or property blog from 2008 to 2012 versus what followed thereafter), and certainly not with such as questionable level of understanding of property investor motivations. Yet predictions to within a 1 per cent accuracy are reported more or less as gospel on both property prices and rents. Most concerning, if not completely bonkers!

Thank heavens we will all have something else more interesting and tangible to talk about tomorrow when the Reserve Bank of Australia (RBA) releases its private sector credit figures! We should be looking for a monthly gain of 0.5 per cent in March, with a softer result expected for business lending as nationally credit growth loses a bit of momentum.

Annualised housing credit growth has slowed to 7.3 per cent, down from an annualised pace of 7.8 per cent in the three months to October. In particular, note how dramatically investment lending has been tightened! The share of new investor lending has already fallen from 43 per cent to 30 per cent, with the quarterly value of lending diving from $41 billion to $29 billion between the June and December quarters.

More of the same tomorrow, I'd hazard. 'Til then!