Sunday Tribune
24 May 2009
Brian Lenihan's budget later this year could be the most unpopular in living memory. At its heart is almost certainly going to be the first property tax to be levied on Irish citizens in a generation. But how the government levies this tax will be exceptionally problematic, writes Tony O'Brien.
"Given the structure of our housing market, any proposal for a threshold in excess of the average price would have the effect of excluding approximately two thirds of all dwellings" Tony O'Brien.
Brian Lenihan has signalled that the government is considering a property tax as a method of broadening the tax base, stating recently "in 2011, the target [is] to raise up to an additional €1.5bn. Options to raise this may include a form of property tax."
The problem with our tax base is demonstrated in the 2008 revenues which show that expenditure-related taxes, such as VAT and excise duty, provided €19bn; income taxes such as PAYE and corporation tax yielded €18.3bn; while property-related taxes, including stamp duties and capital gains tax, yielded just €3.5bn. There is, therefore, a widespread acceptance that the balance between the three main sources of taxation is just not right.
The design of such a property tax has de facto been delegated to the Commission on Taxation which will have to consider a wide range of factors in putting forward proposals.
Should a property tax simply generate revenues for the exchequer or provide funding for a particular purpose? In most other countries, property taxes are used to fund local government, and a proposal along these lines will immediately be labelled as the re-introduction of rates.
However, local government here is funded in part by the annual road tax paid on cars and commercial vehicles. These go into the Local Government Fund which part-finances local authorities and which amounts to some €1.5bn annually, which is also the scale of income the Minister for Finance is targeting from a new property tax.
It would therefore be possible to effectively swap the Local Government Fund for a new property tax.
There are some 1.9 million houses and apartments in Ireland today, including holiday homes, builders' stock in trade and unoccupied dwellings. There are some 1.5 million households, so we have about 400,000 dwellings that are not "first" homes. It might appear that the base for a property tax could be the 1.9 million dwellings, but if we deduct newly built but unsold houses, deduct the social housing stock, and provide waivers for unemployed people and pensioners, the actual tax base could be of the order of 1.1 million units or so. To reach the minister's target, the average yield per house would then need to be about €1,500.
A second issue to be considered by the Commission on Taxation is the structure of the housing market. Research Grant Thornton did in 2006 showed that sales of houses at prices over €750,000 accounted for just 2% of all house sales in volume terms. A tax based on, say, market values of €500,000 or more would cover just a small percentage of the country's houses.
In addition, in a normal year, two-thirds of all houses sell for the average house price or less. What happens in the market is that a small number of expensive houses drag the average price up. It can be seen therefore, given the structure of our housing market, that any proposal for a threshold in excess of the average price would have the effect of excluding approximately two thirds of all dwellings, and this would not be regarded as a widespread tax.
When designing the actual property tax itself, there are two aspects which must be taken into account: namely the basis for assessing the tax and also the tax rate.
The basis for the Residential Property Tax (RPT) that we saw during the 1980s and '90s was market value with a substantial exemption limit, so only a small proportion of properties were subject to the tax, and a second factor was the total household income. The tax rate was a percentage of the value of the property in excess of the threshold. This, in my opinion, led to a major sense of inequity – the perception was that the owner of a four-bedroom semi-detached house in Dublin would pay RPT while a substantially larger property in a rural area would be exempt.
Just some 5% of households paid RPT and 74% of the tax was raised in Dublin. A key attraction for using a residential property tax as a source of funding for local government is that local authorities could have discretion in determining the tax rate, and as a consequence, broadly comparable properties might be seen to be paying a more equitable level of property tax.
A major difficulty in a system based on the market value of a property is estimating the correct value, particularly in the current circumstances in Ireland where sales are taking some time to materialise, and many sellers or buyers are unwilling to disclose the price paid for properties. This in turn will lead to uncertainty as to whether the appropriate level of taxation has been paid.
This is a substantial weakness of a market-value approach – even if you make conscientious and honest returns, if you get a higher price than you expect when you sell your house, you could end up being assessed for under-payment of tax for a number of years.
In a market-value approach, there could be substantial levels of volatility if house prices were to fall substantially – as they have done over the last two years or so. House prices are at very low levels at present. It is possible that property values may pick up in future years and for householders, property tax demands could outstrip their earnings. Ideally, a basis other than market value could address these many weaknesses.
A key consideration for the commission will be the transition from a tax structure which previously saw large single payments being made by way of stamp duty to a system whereby an ongoing annual payment may be made. This could involve some form of tax credit, diminishing over a period of some years.
Administration of a property tax system could be done, in my view, quite easily through the existing income tax collection system.
However, it will be difficult to implement or indeed execute equitably across all households – and it will be very unpopular.
Tony O'Brien is Director of Consulting with Grant Thornton.