INTERGENERATIONAL EQUITY – HOUSING + PUBLIC DEBT
Common Sense for Australia Inc believes the greatest economic problem facing Australians is cost of shelter (a roof overhead) for millions of us (Shelter). Our reasons why include:
“Shelter, along with food and clothing, are our most basic needs. Neither food nor clothing is beyond the economic reach of most Australians. In comparison, the price of shelter (to rent or to buy) is astronomical. Home ownership in major cities is typically now beyond ‘independent reach’ of people earning less than Australia’s median income.”
Smaller Government is another of Common Sense for Australia Inc’s core beliefs (Smaller Gov’t). Our reasons why include:
“We believe that whatever the tide of government spending in Australia, that it is inarguable that indebtedness incurred by today’s society should not be placed on shoulders of unborn generations.”
Factors contributing to housing affordability are numerous (interest rates, population, land supply, public housing, construction costs, short-stay rentals, etc).
This essay looks at factors, which unlike those listed above, fall entirely in federal parliamentarians’ collective control: Negative gearing + capital gains tax.
In this essay we propose that our Federal Government reduce the incentives, of its own making, which encourage each Australian to buy as many homes as she or he can, on borrowed money. Removal of the bigger of those two incentives, would also assist the present generation of Australians, to repay our Federal Government’s massive Post-Covid Public Debt, rather than leave more of it to our children and grandchildren.
Up until 1989, Australia had two main sources of ‘buy a home’ demand. The first was ‘households’ seeking homes for their own use (whether as their primary place of abode, or as a holiday home). The second source of demand was ‘traditional landlords’ seeking a safe place to both store existing wealth and earn income. Holding wealth in real estate, rather than in cash deposits and bonds, protected its value from being eroded by inflation.
Today, these households and traditional landlords compete with a vastly increased third source of ‘buy a home’ demand: Debt funded investors. Whilst property spruiking has always been with us, evolving banking practices (dating from the removal of distinctions between savings and trading banks in 1989) have increasingly, provided more people, with more access, to more finance.
In addition to these evolving banking practices, perception of the government’s ‘halving’ of capital gains tax in 1999 has quite understandably, increased taxpayers’ incentive for speculative investment.
Whatever their merits, these twin factors have had consequence, of dramatically lifting the number of people who hold ‘multiple geared investment properties’, relative to overall ‘buy a home’ demand in previous generations.
According to a report in 2020 by the Organisation for Economic Co-operation and Development, residential real estate loans comprised about 63% of total loan assets of Australian banks. This compared with 20% to 22% for Great Britain, Germany and Italy; 29% for the USA; 35% for Canada; and 36% for Israel (Note 1).
Arguments that escalating home prices are due to a shortage in supply, overlook how tax laws, add to demand (not so much for ‘homes to be lived in’, as demand for ‘homes to be owned’).
Removing tax incentives to own multiple homes, reduces artificial buyer demand, which by simple law of supply and demand, helps balance out home prices.
Lower home prices benefit not only home buyers, but in the long term tenants as well, through lower rents. Landlords’ rewards become more tilted to ongoing relationships with tenants, and less so, to capital gains.
It is time federal politicians, of all stripes, acknowledged that ‘security of roofs for all’ come before ‘laws propelling inflation and rewarding speculation’.
Tax benefits of negative gearing of multiple residential properties should be phased out (to a maximum of one property). Capital gains tax should revert to its original form (from 1985 and 1999 we taxed total capital gains in excess of ‘CPI’ inflation – currently we tax 50% of total capital gain, with no ‘CPI’ allowance).
Under these proposals Australians would still be able to steadily build up property wealth with borrowed funds, but only claim a tax benefit on one property at a time. This includes households who rent out a home before moving in.
Both changes help suppress prices over the longer term for new buyers, and in turn, the cost of rents for tenants.
The negative gearing reforms are proposed only for residential property. The CGT ‘reversion’ is proposed for all assets which are subject to CGT.
Reverting CGT to its original form (taxing gains above CPI) can hack away at our public debt, leaving less of it, to be repaid by future generations. Huge asset inflation in recent decades, points to unprecedented potential capital gains tax revenue, from reverting to the Hawke/Keating original formula for CGT.
Examples of measures, to accommodate persons impacted by the proposals, and to facilitate their public reception:
Phase down tax benefits of negative gearing over time: Limit it to five properties in the 1st year of change, reducing by one property each subsequent year, culminating in a maximum of a sole property (of any value) in the 5th year and beyond.
Provide taxpayers a 24 month notice period, in which they can choose to sell assets (realising accrued capital gains) under the existing CGT rules. To the extent taxpayers take this option, it puts more homes into the market, and/or brings forward CGT revenue, which the Federal Government could (if it so wished) earmark to pay down Covid Debt.
These proposals are modest. It is an indictment on Australia’s politics and media, that they could be thought radical.
There is no such thing as a good tax. The only rationale for any dollar of capital gains tax, is that each dollar of income tax, is even less desirable.
Few countries permit negative gearing. Whilst it was accepted in Australia from the 1920s, its legitimacy was never tested in our High Court (Note 2). Perhaps an explanation why, is that historically our Federal Tax Commissioners had confidential access, to private tax affairs of all of us, including High Court judges.
These proposals are viewed as helping Australian society over the longer term, rather than being any immediate solution, for affordability in our housing markets. It is arguable, that never in Australia’s history, has the need for such change been so compelling.
Phasing out of negative gearing of multiple residential properties, as opposed to removing it entirely, ameliorates its impact on prices whilst facilitating acceptance. Current lower interest rates help buffer any immediate change for investors. Investors with multiple geared residential properties will need to consider that our tax system no longer protects them, from their main commercial risk, which is rising interest rates.
Negative gearing limits would not apply to the tax affairs of property developers (putting aside completed residential property which the developer opts to withdraw from sale, and instead holds as an investment). The capital gains tax changes would similarly not impact the tax affairs of property developers, as their profits are usually taxed as ordinary income (not as capital gains).
The proposed changes could be expected, to one degree or another, to dampen demand for residential property construction services. If so, state governments might be well placed to take advantage of any corresponding reductions in construction costs, to increase their investment in pubic housing.
By far, the larger of the proposals, is reverting CGT to its original basis. The Federal Government’s accumulation of Covid Debt may make it palatable to the electorate, as an intergenerational debt issue. Housing benefits are a bonus. A more limited change to CGT, for residential property only, is piecemeal reform.
There are counter arguments, both to phasing out negative gearing of residential property, and to remedying taxation of capital gains (to a basis closer to taxation of income). All are addressable, and politically manageable.
The strongest distaste for the proposals, is likely to be the absence of any ‘grandfathering’ for either reform. It is however only the absence of ‘grandfathering’ which provides each proposal, real strength, in intended outcome.
Note 2: Workings of Australia’s Capital Gains Tax legislation (introduced in 1985) mean that any modern court challenge to negative gearing would fail on technicalities. Change today would require legislation.
For and on behalf of Common Sense for Australia Inc
Authorised for publication, 30 September 2021