Lessons on the politics of rates reform
Or CIV: A panacea in search of a disease — A submission to the Monash Rating Strategy Review, by Gavin R. Putland
Summary
While there are some plausible arguments for changing the rating system in the City of Monash, not one of them recommends a CIV base. The public meetings held in August made it clear that ratepayers' dissatisfaction with the present system is usually not converted into support for CIV.
That dissatisfaction could be addressed by any one of the following three options, which I list in order of preference based on economic criteria. If political criteria were used instead, the order of the options might be different, but all options would still be preferable to CIV.
- Retain the present system, but seek legal advice as to whether the hardship-waiver provision (s.171 of the Local Government Act) can be used to cap increases in bills due to revaluations, so that this year's ratepayers can calculate, and budget for, their worst-case bills for next year. Any such cap should be expressed as a percentage.
- Collect 20% of required revenue through a Municipal Charge (MC), and the rest through a uniform SV rate.
- Collect 20% of required revenue through the MC, 15% through a garbage-collection charge, and the rest through a uniform SV rate.
While I do not recommend a pensioner rebate, I note that it would be compatible with any of the above options — and that all pensioners would benefit from a pensioner rebate whereas only some of them would benefit from a change to CIV.
As the volatility of rates bills due to revaluations would be reduced by option B, and reduced further by option C, the apparent need for the “cap” in option A would be likewise reduced. Even so, Council might wish to include such a cap with option B or C. If the cap applies not only to revaluations but also to the initial change in the system, the increases in bills due to the change will be “phased in” simply and transparently.
For options B and C, I further recommend that MacroPlan Australia be commissioned to calculate the percentages of ratepayers in various categories who would pay less under the current valuations. The categories should include (a) all ratepayers, (b) residential ratepayers, (c) ratepayers in detached homes, and (d) pensioners.
Contents
Part A: Political threats and opportunities
2. Problem: Under SV, revaluations cause steep increases in bills for some ratepayers
2.1 Best solution: Cap increases in bills using s.171
2.2 Second-best solution: Collect 20% of revenue via a Municipal Charge (MC)
2.3 Third-best solution: Collect 20% of revenue via the MC and 15% via a garbage-collection charge
2.4 Non-solution: CIV
2.5 Note on “rate capping”
3. Problem: Under SV, some unit owners pay very low rates
3.1 Best solution: Collect 20% of revenue via a Municipal Charge (MC)
3.2 Second-best solution: Collect 20% of revenue via the MC and 15% via a garbage-collection charge
3.3 Worst solution: CIV
3.4 Note on “phasing in”
3.5 Note on body-corporate fees
4. Problem: SV doesn't reflect use of services
4.1 Logical solution: Charge for services!
4.2 Good approximation: Collect 20% of revenue via a Municipal Charge (MC)
4.3 Bad approximation: CIV
5. Problem: There seems to be significant minority support for a poll tax
5.1 Solution: As above
6. Problem: Commercial/industrial ratepayers are allegedly not paying enough
6.1 Solution: Not CIV
6.2 Note on the downside of “flexibility”
7. Problem: SV means no differentials, hence no scope for tax optimization
7.1 Solution: “First, do no harm”
8. Problem: Some perceive CIV as a revenue grab
8.1 Solution: Retain SV and minimize other changes that might be seen as revenue grabs
9. Problem: Ratepayers don't believe that CIV reflects “capacity to pay”
9.1 Solution: SV is a step removed from CIV
10. Problem: The association between CIV and higher density
10.1 Solution: Retain SV
Part B: If I may be permitted a few words about economics...
12. Everybody subsidizes the vacant lot!
14. The pretense that CIV will not deter improvement
14.1 Contradicted by comparison with monetary policy
14.2 Contradicted by comparison with income tax
14.3 Contradicted by history
14.4 Contradicted by elementary economics
15. Conclusion: CIV is a solution in search of a problem
Note: The URN of this submission is http://blog.lvrg.org.au/2009/09/lessons-on-politics-of-rates-reform.html. In the online version, references cited in the text are clickable. Most of the references can also be found by searching on titles or quotes.
1. Background and purpose
I thank the Monash City Council for organizing the six public meetings in connection with the Rates Review, and for suffering my presence at five of them (I had a clashing commitment on August 13). At the first meeting I established that I would welcome at subsequent meetings in my capacity as director of the Land Values Research Group (LVRG), which has a long history of research on the influence of rating systems on economic activity. Such research, whether conducted by the LVRG in Australia or by other bodies in other countries, has consistently shown that SV rating is more conducive to economic activity than CIV, NAV, or any other scheme for taxing values of buildings.
At the time of writing, I neither own any property nor live in Monash. Consequently I have no pecuniary interest in writing anything but my honest opinion. If anyone accuses me of having an ideological interest, either personally or through my employer, suffice it to say that I am not obliged to adhere to any particular ideology or to choose any particular employer. Consequently, if any ideological hue can be discerned in any part of this submission, that too is but an expression of my honest opinion. (And if anyone points out that I have valuers among my colleagues, I answer that this cannot amount to a pecuniary interest on their part, let alone mine, because whoever does the valuations for Monash will need to assess the SV, CIV and NAV for each rateable property whether the rating system changes or not.)
I went to the second meeting with the initial intention of defending SV as opposed to CIV. However, as I heard the main speaker provoke instant dissent by claiming that CIV reflected capacity to pay and was better for pensioners, found myself holding the pen for a workshop group that favoured poll taxes (which I duly reported, although it was anathema to me), and heard suggestions in support of “user pays”, it became apparent that:
- there was much cynicism about the motives for changing the system;
- in the main, dissatisfaction with the present system did not translate into support for CIV; and
- ratepayers were raising issues and arguments that I had not anticipated.
None of this did my cause any harm. Accordingly I decided to talk less, listen more, observe the politics at subsequent meetings, and write a submission on how Council could satisfy the present political imperatives while minimizing the economic damage.
Expressed in more positive terms, the purpose of this submission is to explain how Monash can retain its economic leadership while addressing the complaints that cause some people to attack the rating base on which that economic leadership has been built.
Part A: Political threats and opportunities
2. Problem: Under SV, revaluations cause steep increases in bills for some ratepayers
2.1 Best solution: Cap increases in bills using s.171
If large increases in bills are the problem, directly limiting such increases is the solution, and any other response is an inferior substitute. Clause (1)(b) of s.171 of the Local Government Act (hereinafter “the Act”) would appear to give Council sufficient authority to pass a resolution whereby, if the year-on-year increase in any ratepayer's bill exceeds a certain percentage, the excess shall be waived. Under paragraph (2) of s.171, the resolution would need to include a statement of the purpose of the waiver. That purpose would be to ensure that ratepayers can calculate and budget for their worst-case bills in future years, and thereby avoid hardship.
Council should of course seek legal advice on whether such an arrangement would be permissible. But I see no reason to suspect otherwise.
Because large increases in rates bills are dwarfed by the unearned increases in land values on which the bills are calculated, it would be more equitable to defer, rather than waive, the “excess”. I recommend waivers simply because the process for granting deferrals (s.170 of the Act) is more cumbersome, requiring an application by every affected ratepayer.
If increases in bills are capped, the determination of the required rate in the dollar will no longer be a simple division, but will require an iterative process involving a list of all SVs in the municipality. The necessary computer programming should not be unduly challenging. (Indeed, one could achieve the same effect using the “solver” function of a spreadsheet, although one might need to split the list into multiple columns in order to avoid exceeding the permitted number of rows.)
2.2 Second-best solution: Collect 20% of revenue via a Municipal Charge (MC)
Another way to reduce the effect of revaluations on rates bills is to “dilute” it by adding a component that does not depend on property values. The obvious candidate is a Municipal Charge (MC), i.e. a fixed charge per rateable unit. Under s.159 of the Act, the MC could replace up to 20% of the revenue from general rates.
This solution is inferior to capping of rate increases in the following ways:
- Increases in bills due to revaluations are not capped; the influence of revaluations is merely reduced by 20%.
- The MC is a penalty for creating additional rateable units, e.g. by increasing the number of dwellings or commercial suites on a lot. Thus it tends to restrict the supply of accommodation. This is bad for business, which needs plentiful supplies of commercial/industrial accommodation (for itself) and residential accommodation (for customers and employees).
2.3 Third-best solution: Collect 20% of revenue via the MC and 15% via a garbage-collection charge
An alternative method of “diluting” the influence of property values is to add a service charge, most likely a garbage-collection charge. Unlike the MC, a service charge is not subject to any cap on the fraction of revenue (see s.162 of the Act). But it is inferior to the MC in the following ways:
- A service charge would not apply to a vacant lot, but would apply if anything were built on that lot. Thus building on a vacant lot would always be penalized by a service charge, but would not be penalized by the MC unless accompanied by an increase in the number of rateable units.
- If a service charge is introduced, home owners will pay more so that owners of vacant lots (including wealthy speculators) can pay less.
For these reasons I submit that if Council is not satisfied with a 20% reduction in the influence of property values on rates bills, it should raise the full 20% of revenue from the MC in order to minimize reliance on the service charge.
If, as I suggest, Council were to raise 20% of revenue from the MC and 15% from a service charge, the resulting “dilution” of the influence of site values would be comparable to that obtained by changing to CIV (because improvements constitute between 35% and 40% of the total CIV in Monash). Attempting to achieve the same outcome by CIV would backfire, as we shall see.
2.4 Non-solution: CIV
The present push for CIV began when ratepayers in certain suburbs were furious to discover that their properties had increased in value by more than in other suburbs, with the result that they were being asked to pay back a minuscule fraction of their unearned windfalls by carrying a greater share of the rates. The reasoning behind the CIV “remedy” is that values of buildings, being limited by construction costs, are more stable than values of sites, so that the inclusion of buildings in the rating base reduces the volatility of bills.
The flaw in that reasoning (apart from the premise that those with the biggest windfalls are the biggest losers) is that ratepayers sometimes build on vacant sites or replace, extend or renovate existing buildings. Under CIV (or NAV), such ratepayers are penalized with higher bills. Their indignation is justified in that an increase in the value of the building(s) on a site, unlike an increase in the site value, is not an unearned windfall. This issue recently came to a head in Western Australia, where rates in urban areas are levied on the “gross rental value” (GRV), which roughly corresponds to Victoria's NAV, and where the local press recently reported that a mother in Cottesloe was hit with a 150% rates increase for rebuilding her house. “I am being penalised for upgrading the neighbourhood,” she said (‘Wrong’ rates ping home builder, Post, Aug.15, p.7). That sort of adverse publicity doesn't happen in Monash — yet. And it won't happen if Council introduces a Municipal Charge or service charge. But it will happen if Council adopts CIV.
Under CIV and its relatives, including “gross rental value” (GRV) in WA and “assessed annual value” (AAV) in Tasmania, the increases in bills due to improvements made by ratepayers are in addition to the increases due to changes in site values, which are still part of the rating base. Consequently, in so far as any move to CIV is an attempt to reduce dissatisfaction caused by increases in bills, it will fail.
“TASMANIAN home owners can expect a more equitable council rates system to be operating by next year,” said the Sunday Examiner on August 16. “It is understood that state and local government heavyweights have held top-level talks and agreed to throw out the much-criticised Assessed Annual Value system that has led to wild variances in rates caused by the property boom.”
But wasn't it because of those wild variances in rates that Monash allegedly needed to adopt CIV? Yes.
And what system is Tasmania proposing to adopt? The Examiner continued: “It is expected that Tasmania will redraft the Local Government Act and that council rates from next financial year will be flattened and based on land value...”
But isn't the present system in Monash based on the land value? Yes. With a flat rate? Yes. And doesn't Monash regard the opportunity to ditch the flat rate in favour of “differential rates” as one of the attractions of CIV? Yes.
Could I make up a sitcom plot like this? No!
2.5 Note on “rate capping”
What is commonly called “rate capping” in New South Wales is a restriction imposed on councils by the State Government, limiting the ability of councils to raise revenue. My suggestion that Monash cap increases in bills under s.171 is different in that the cap would be an initiative of Council and could, if necessary, be varied by Council from year to year. Thus it would not limit Council's ability to raise revenue for necessary services and infrastructure.
3. Problem: Under SV, some unit owners pay very low rates
It is alleged that some Monash ratepayers are paying as little as $80 per annum. The average annual bill is near enough to $1000.
3.1 Best solution: Collect 20% of revenue via a Municipal Charge (MC)
A Municipal Charge collecting 20% of present revenue would amount to 20% of $1000, i.e. $200, while the SV-related component of the bill would be 80% of what it is now. So the ratepayer who presently pays $80 would instead pay $200 plus 80% of $80, which comes to $264.
One could complain that $264 is still far below the average. Or one could note that it represents an increase of 230%, which is probably about as much as any career-minded local politician wants to contemplate, even if the number of affected ratepayers/voters is small.
3.2 Second-best solution: Collect 20% of revenue via the MC and 15% via a garbage-collection charge
A service charge collecting 15% of revenue would amount to at least $150 per unit (“at least” because some properties would be exempt, whereas the “units” under discussion would not be). The MC would be $200 (as above), and the SV-related component would be 65% of what it is now. So the ratepayer who presently pays $80 would instead pay $200 plus at least $150 plus 65% of $80. That comes to $402, which represents an increase of more than 400%, which the late Sir Humphrey Appleby might have described as “courageous” — the more so because unit owners already pay body-corporate fees in addition to rates.
3.3 Worst solution: CIV
The official brochure on rates reform gives a fictitious example of a unit (in a 12-unit complex) for which the bill would increase from $83 under SV to $401 under differential CIV or $443 under flat CIV. These figures are about as “courageous” as those just given for the combination of the MC and garbage-collection charge, consistent with my claim that this combination would give a comparable “dilution” of the site-value base to that given by CIV.
But CIV, unlike a garbage charge or MC, penalizes ratepayers who replace, extend or renovate existing dwellings. Conversely, it rewards ratepayers who allow their properties to decay. If valuations of improvements are based on external inspections, property owners are encouraged to concentrate their maintenance efforts on the interiors, and neglect the exteriors unless and until their properties are for sale. If the inspections are made from the street, the received wisdom (as heard at the Monash Civic Centre on August 20) becomes “Don't paint the front!” The result is to incentivize part of what J.K. Galbraith called ”private affluence and public squalor”. The public squalor of one property reduces not only the owner's rates, but also the resale values of nearby properties: it's neighbour against neighbour. Such incentives are obviously detrimental to the property owners (i.e. ratepayers) of the municipality. Consequently, if the ratepayers of Monash want to know where the push for CIV is ultimately coming from, they need to look outside Monash.
At the meeting of Aug.17 the main speaker was repeatedly asked by a certain participant (not known to me) whether CIV rating would penalize improvement and reward neglect, and was repeatedly refused a straight answer. This performance extinguished any remaining doubt that the speaker's job was to sell CIV. The questioner made it known that the non-answer had reinforced his impression that CIV was a fait accompli, and left the meeting. On Aug.20 another participant (again not known to me) delivered an emotional attack on CIV, saying that it penalizes improvers who create jobs.
By writing this submission, I express the judgment that CIV is not quite a fait accompli.
(A note on that brochure on rates reform: In answer to my claim that permission to build a 12-unit complex or a medical clinic would increase the site value (LVRG Blog, Jul.31), it has been suggested that the four lots (or is it one lot?) could be in a mixed-use zone so that no such permission would be needed. But I find it hard to believe that an 800 sq.m. lot in such a privileged location would be worth only $354,000, which happens to be the average site value across the municipality (counting a multi-unit complex as multiple sites; hence it would be below the average lot value). Consequently, while I can believe that SV rates as low as $83 per unit are paid on strictly residential sites in the least desirable locations, I find it hard to believe that one could pay so little at an address where one would be allowed to build, or would want to build, a medical clinic.)
3.4 Note on “phasing in”
If any of the last three reforms were subject to a cap on increases in bills (using s.171), the effect would be to “phase in” the increases caused by the reform. As the rates notices would indicate that payments in excess of the cap were being waived, the beneficiaries of the phase-in would know whether and to what extent their bills were reduced. While they might complain about the reform itself, they could hardly complain about the phase-in, because the “excess” payments would be waived and not simply delayed. Subsequent revaluations would complicate the story, but ratepayers would still be able to see clearly whether they were beneficiaries of the cap.
On the other hand, the increases due to the one-off change in the system (not to be confused with those due to periodic revaluations) would be forgotten sooner if they were implemented in a single blow, notwithstanding that the affected ratepayers would pay more. Politics isn't fair.
3.5 Note on body-corporate fees
The need to pay body-corporate fees in addition to rates reduces the attractiveness of building strata-titled units. This is one reason why the increase in the total site value caused by permission to build such units is less than that caused by permission to subdivide a site.
It is therefore somewhat misleading to compare the rates bills of a detached home and a “unit” when the unit also pays body-corporate fees. A more valid comparison would involve a unit in a villa or townhouse development in which the ground area is divided between the unit owners so as to eliminate the need for a body corporate, and in which the permission to develop is more fully reflected in the combined site value.
4. Problem: SV doesn't reflect use of services
First let us clearly define the “problem” by distinguishing between availability and use. The mere availability of a service on a particular site enhances the site value. If one must pay more for the actual use of a service, one will not be inclined to pay as much its mere availability, so the site value will be lower. Consequently, the more a council charges for actual use of a service, the less it will receive through the rating system for the mere availability of the service, not only because rates will account for a smaller fraction of total revenue, but also because the effect of the service on rateable values will be less.
In theory, utilization of a service will be socially optimal if the actual use is priced at marginal cost, leaving the rest of the cost to be defrayed through general rates. This “theory” assumes that information costs and transaction costs are negligible by comparison with the actual charges, which would probably not be the case if one tried to quantify the use of council services for billing purposes. It further assumes that use of the service is responsive to pricing, which is questionable for an essential service whose cost, under any mechanism of funding, cannot be more than a small fraction of household budgets. For these reasons, any attempt at marginal-cost pricing by Council will be an approximation.
4.1 Logical solution: Charge for services!
One possible “approximation” is to set the use-price at zero in order to maximize the impact of the service on site values, and cover the cost through SV rates. Monash's exceptional economic strength and demographic stability suggest that this approach has worked well enough to date.
Another workable “approximation” is a fixed price per unit of service, where the “units” are chosen so that they can be counted without elaborate measurements or record-keeping. Garbage collection is an obvious candidate for such a system: a fixed charge per bin per year.
N.B.: Whether there is a garbage-collection charge or not, there should not be a charge for normal use of a tip. Charges of the latter sort are uniformly disastrous because they encourage illegal dumping — which is then treated as a law-enforcement problem when it is fundamentally a public-finance problem. The cost of running a tip (or a “Waste Transfer and Recycling Station”) should be covered through SV rates. This mechanism incidentally gives some compensation to ratepayers whose sites are devalued by being undesirably close to the tip.
4.2 Good approximation: Collect 20% of revenue via a Municipal Charge (MC)
A Municipal Charge, although nominally for the purpose of covering administrative costs, can also be defended on the ground that one rateable unit equals one user of services. Unlike a service charge, it does not reward property owners who keep their properties unoccupied and unavailable, and consequently unserviced. This category includes passive owners of vacant lots.
4.3 Bad approximation: CIV
Under CIV, the rate on site values is effectively supplemented by a tax on building values. While it is reasonable to suppose that there is some correlation between the value of a dwelling and the number of residents therein, and between the number of residents and the load on council services, it makes no sense to rely on mere correlations as a means of charging for the use of services when one has the option of charging directly for such use.
5. Problem: There seems to be significant minority support for a poll tax
At the meeting of August 12, I was sitting at a table at which a certain participant advocated a poll tax. This idea was welcomed almost unanimously (at that table) even after I confirmed that the said participant was referring to a true poll tax, meaning a fixed charge per adult person per year regardless of income or assets and, in particular, regardless of whether each person was a property owner or tenant.
(The FAQ pages report the opposition to a poll tax expressed on Aug.17, but not the support expressed on Aug.12; the page for the latter merely says that Council cannot “charge a rate to all residents over the age of 18 regardless of property ownership”.)
5.1 Solution: As above
Under the Act, while Council cannot impose a per-person tax, it can charge a per-property tax, namely the MC.
The alleged rationale for poll taxes is that one person equals one user of services. Indeed, at the aforesaid table on August 12, I found that support for service charges was almost as strong as for a poll tax, and some participants saw little difference between the two. But when I asked whether participants supported charging for use of services or availability of services, there was a division. Logically, those who nominated use should have supported a garbage-collection charge, while those who nominated availability should have supported SV. Be that as it may, support for CIV was conspicuously lacking.
Alternatively one might argue that one property equals one user of services, in which case one would favour the MC. Unlike a poll tax, the MC is payable only by property owners and thus makes some allowance for capacity to pay.
6. Problem: Commercial/industrial ratepayers are allegedly not paying enough
6.1 Solution: Not CIV
Are the costs of providing council services to commercial or industrial ratepayers out of proportion to their site values and hence to their present contributions to council revenue? If so, the obvious remedy is to charge for services. If not, in what sense are these ratepayers not pulling their weight?
One possible answer is that commercial/industrial ratepayers, unlike home owners, can deduct their rates from taxable income, and ought to compensate for this by paying a higher rate in the dollar, which the Act permits only for CIV. That argument has two weaknesses:
- Residential landlords likewise can deduct their rates against taxable income. If it were suggested that they should pay higher rates, they would answer that higher rates mean higher rents — which is true in the case of CIV, because CIV rating deters construction and therefore restricts the supply of housing. For the same reason, a higher CIV rate on commercial/industrial property would restrict the supply and raise the rents of commercial/industrial accommodation, causing price rises, business failures and job losses.
- Commercial/industrial properties (and residential rental properties) pay not only rates but also land tax. For the most valuable properties, even after land tax is deducted against taxable income, the liability for land tax outweighs the deductibility of rates.
6.2 Note on the downside of “flexibility”
If a CIV base is adopted, the “flexibility” to set differential rates will be the flexibility to grant favours to sectional interests who demand lower differential rates. Some will claim hardship. Others will claim a need for “incentives” for their indispensable industries (and will profess to be concerned about anyone's welfare but their own). Each such claim by itself will be hard to resist because the cost, when spread over all other ratepayers, will seem low. But the cumulative effect of many such claims, if they are not rebuffed, will be a significant shift of the burden onto ratepayers who cannot portray themselves as special cases — in other words, most of them. That will make a mockery of present calculations purporting to show what percentages of which categories of ratepayers will be better off under CIV.
7. Problem: SV means no differentials, hence no scope for tax optimization
Given that some Monash ratepayers can deduct their rates against taxable income while others cannot, shifting the burden onto the former would reduce the amount of income tax taken out of Monash, or allow Council to raise more revenue while reducing (or at least not increasing) the after-tax cost to the ratepayers. This may look like an opportunity for Monash to free-ride on the rest of the country.
7.1 Solution: “First, do no harm”
I say “may look like” because the argument considers only the rates and taxes themselves and neglects their flow-on effects.
Monash's budget for the present financial year is $71.2 million. MacroPlan's presentation informs us that the contribution from commercial/industrial ratepayers is presently 11.7% of the total, but would increase to 15.4% under flat CIV or 23.13% under CIV with differentials. Under the latter option, which gives the greater increase in the total bill for commercial/industrial ratepayers, that increase would be $8.14 million. At an income-tax rate of 30%, this would “save” $2.44 million. That is comparable with the value of one modest commercial building project, not including the value of the ensuing long-term employment opportunities or their effects on site values.
We must conclude that if the taxation of buildings causes even one commercial construction project to be cancelled, it will wipe out the supposed advantage of increasing the tax-deductible component of the budget — to say nothing of residential construction and the “don't paint the front” syndrome.
8. Problem: Some perceive CIV as a revenue grab
At the meeting of August 12, the main speaker provoked disbelief by claiming that a change to CIV would not increase overall revenue. The disbelieving noises did not entirely subside when he explained that whichever rating base is used, Council first decides how much revenue it needs and works backwards to determine the rate in the dollar.
I did not foresee this particular manifestation of cynicism, let alone encourage it. My public statements on rating reform, while unashamedly pro-SV, have always assumed that councils “work backward” from the budget to the rate in the dollar. Even when I made two small errors, which I was obliged to correct on the LVRG Blog (Jul.31 and Aug.8) and in the Monash Journal (Aug.17, p.8), and for which I apologize, these too were based on absolute acceptance of the premise that the overall budget is decided first. But, with 20/20 hindsight, the tendency to interpret CIV as a revenue grab is not hard to explain.
First consider the following statements:
- Abolition of any margin for error when issuing speeding fines was not a revenue grab.
- Sacking ticket-sellers on trams and railway platforms and employing inspectors was not a revenue grab (and the need to validate even single-trip tickets is not designed to trap visitors and newcomers).
- Parking fines, even when issued at times when parking spaces are not scarce, are not a revenue grab.
- Fining people for advertising their cars for sale in front of their homes is not a revenue grab (and the interesting distinction between advertising the car on the nature strip and merely parking it there is not designed to catch people out).
- Changing the rating base from land values alone to land values plus building values is not a revenue grab.
- Wolf! Wolf!
Then consider that the presentation by MacroPlan draws attention to population growth, increased building density and large-scale redevelopments, all of which mean higher values of improvements, as arguments for taxing the improvements. Thus the adoption of CIV is portrayed not only as an broadening of the revenue base — which is suspicious enough — but as the addition of a tax base that is expected to grow. In short, MacroPlan recommends CIV as a growth tax!
To my knowledge, it was only at the second meeting (Aug.12) that suspicions of a revenue grab became overt. But there were at least two other occasions on which it was barely concealed. At the first meeting (Aug.10), the members of one workshop group were much exercised as to whether the total CIV in the municipality would grow faster than the total SV. Why would that bother them? — unless they were worried that a faster increase in the rating base meant a faster increase in bills? (This issue gave rise to at least two questions on the FAQ page for that meeting, and the “answers” do not address the underlying concern.) At the final meeting, someone at the back of the room was concerned that a “bigger bucket of money” (as I recall his words) might make it easier for Council to spend more. The correct answer, of course, is that adding buildings to the rating base does not create a “bigger bucket of money”, because the total rates bill must be paid by the same group of households and enterprises out of the same incomes and assets, regardless of the base. But the CIV sales pitch lost sight of that vital point in its determination to make a case for taxing a construction boom.
In that climate of suspicion, Cr Lake did not help the CIV cause when he was quoted by the ABC on August 24 as saying:
There needs to be an increase in the money that's spent at the local level in order to fund the more than 150 services typically that councils across Australia are providing, and we hope that that will be more of a focus of the Henry tax review, rather than issues around a more centralised collection model.
I repeat: I neither anticipated nor encouraged any talk of a revenue grab. The Council and its well-paid consultants dug that hole without my assistance.
8.1 Solution: Retain SV and minimize other changes that might be seen as revenue grabs
Of all the reforms discussed herein, the one least likely to be seen as a revenue grab is a cap on increases in bills. Even that is not entirely immune, because the cap, being the worst-case increase, will sound high. But complaints about the height of the cap can be forestalled by announcing the cap in terms like these: “In the past, some ratepayers' bills have increased up to x% due to revaluations. We're going to cap such increases at y%. But next year the average bill will rise only z%, while w% of bills will actually fall.”
The Municipal Charge is liable to be seen as a revenue grab because it is an extra charge, and because not everyone will believe that the MC is fully compensated by a reduction in general rates. The same is true of any service charge. The came is doubly true of any combination of the MC and a service charge. And CIV is seen as a revenue grab because it has been promoted as a base-broadening device, and because not everyone will believe that the broadening of the base will be fully compensated by a lowering of the rate in the dollar.
9. Problem: Ratepayers don't believe that CIV reflects “capacity to pay”
And nor should they, because the whole “capacity to pay” argument for CIV is built on a contradiction. On the one hand, we are told that SV rating hurts ratepayers on “fixed incomes” when their site values rise, because their incomes don't rise at the same time; their increased asset values are deemed not to count because the assets are not for sale. On the other hand, we are told that the remedy is to change the rating base from SV, which is part of the asset value that doesn't count, to CIV, which is the whole asset value that doesn't count! Thus, for the purpose of attacking SV, capacity to pay depends on income and not assets, whereas for the purpose of promoting CIV, capacity to pay depends on assets. When Jesus of Nazareth said “let not thy left hand know what thy right hand doeth,” he was talking about almsgiving, not taxation!
At the second meeting (August 12), the main speaker earned himself a burst of interjections by stating outright that CIV reflects capacity to pay. He didn't make that mistake again; his line at subsequent meetings was that SV might not reflect capacity to pay or had implications for equity or did not pass the equity test. But at the second meeting the “capacity to pay” argument was irretrievably sunk; one workshop group went on to note that the CIV of a property makes no allowance for the debt owed against it, or the income of the owner, or other demands on that income.
Of course the last three objections could also be levelled against the SV. But there are at least three other ways in which the SV better reflects capacity to pay than the CIV:
- The locational values of prestigious suburbs are reflected in site values, not building values. Thus SV reflects capacity to pay as expressed in locational choices.
- If a property has been held for some time, the site tends to be worth more than the owner paid for it, while the building tends to be worth less (in real terms). Thus the site value is better correlated with the unearned increment that the owner has received since acquisition, and is therefore less correlated with debt.
- CIV favours owners of vacant lots, who are likely to be investors owning more than one property.
9.1 Solution: SV is a step removed from CIV
If ratepayers reject the claim that CIV reflects capacity to pay, SV has the advantage that it isn't CIV. If they reject the more general notion that asset values reflect capacity to pay, SV has the advantage that it is only part of the value of the typical ratepayers' principal asset, and may open minds as to whether this part better reflects capacity to pay than the other part.
10. Problem: The association between CIV and higher density
Of the three tiers of government, the local tier by its very nature is the most sympathetic to NIMBYists. If an unpopular development is moved from Monash to a neighbouring municipality, that does not necessarily get the State or Federal government off the hook, but it does get the Monash Council off the hook.
And NIMBYists don't like density. (They would like it if it came with a credible promise of improved infrastructure, especially public transport; but under present fiscal arrangements it does not. See my submission “Smart growth through tax reform”, LVRG Blog, Jul.17, 2009.) Hence it is reported that when a builder seeks a permit for a project involving increased density, the local council invariably looks for an excuse to reject the application. If the rejection is overturned by VCAT, at least the council can blame someone else for the unpopular decision. Hence builders have allegedly worked out that the surest way to fast-track an application is to give the responsible council a ready-made excuse to reject it, in order to get the earliest possible hearing at VCAT, where the builders then unveil their real plans, making a great show of how they have compromised in order to placate the council. If the State Government, which has more sympathy for builders than for NIMBYists (but not as much as for developers), takes over building approvals in certain locations, this further helps councils to externalize blame for unpopular projects. So the councils loudly denounce the takeovers while quietly rejoicing in the opportunity to keep faith with the NIMBYists. A basic maxim of State and Federal politics says “Disunity is death!” The corresponding wisdom at the local level seems to be “Density is death!”
In view of this, one would have thought that any CIV sales pitch would carefully avoid any apparent association, however remote, between CIV and density. The presentation by MacroPlan, in both the residential ratepayers' version and the commercial/industrial ratepayers' version, conspicuously does the opposite. It announces projected population growth, announces that the State Government has identified Monash as a target for increased density, offers colour photographs of higher-density redevelopments, and concludes that SV rating can no longer cut it and we need to change to CIV! “Site value doesn't reflect density,” said the speaker at the first meeting, just in case we missed the point. The only more suicidal approach would have been to allege that CIV encourages density instead of merely adapting to it.
In truth, of course, CIV discourages density by taxing the results of building and rebuilding. But it's a bit late to run that argument now. During the public meetings, the Council's public servants were at pains to deny that the taxation of building values would significantly deter construction and improvement, and those denials are repeated on the FAQ pages on the Council website. Moreover, one can hardly admit that CIV deters construction without implying that it also rewards neglect of existing buildings (“Don't paint the front,” etc.), and is detrimental to business and employment. Not even the most ardent NIMBYist would want to hear that.
10.1 Solution: Retain SV
As all the talk about density did not mention a Municipal Charge or a garbage-collection charge, it would be comparatively safe to include one or both of these in a package based on SV. But CIV has been tainted by association with density.
Part B: If I may be permitted a few words about economics...
11. Subsidies vs. incentives
Owners of detached homes claim that they are subsidizing unit owners. One might answer that because it is cheaper to service a compact metropolis than a sprawled metropolis, the low rates paid by unit owners are an appropriate incentive for compactness, and that any increase in their share of the rates would mean that unit owners were subsidizing sprawl. The former view prevails (see the FAQs of Aug.10, Aug.13 and Aug.17) because owners of detached homes have more votes and because, for political purposes, subsidies are in the eye of the beholder and only happen to other people.
12. Everybody subsidizes the vacant lot!
At the meeting of August 12, someone (presumably a long-suffering “subsidizer”) went so far as to suggest that if CIV were introduced, allowing differential rates, then the owners of vacant lots should pay the lowest rate in the dollar, so that they don't pay for services that they don't use. On this we may well quote from a speech delivered in Edinburgh on July 17, 1909:
Roads are made, streets are made, railway services are improved, electric light turns night into day, electric trams glide swiftly to and fro, water is brought from reservoirs a hundred miles off in the mountains — and all the while the landlord sits still. Every one of those improvements is effected by the labour and at the cost of other people. Many of the most important are effected at the cost of the municipality and of the ratepayers. To not one of those improvements does the land monopolist, as a land monopolist, contribute, and yet by every one of them the value of his land is sensibly enhanced...
[T]he land may be unoccupied, undeveloped; it may be what is called “ripening” — ripening at the expense of the whole city, of the whole country — for the unearned increment of its owner.... The greater the population around the land, the greater the injury which they have sustained by its protracted denial, the more inconvenience which has been caused to everybody, the more serious the loss in economic strength and activity, the larger will be the profit of the landlord when the sale is finally accomplished.
The speaker was Winston Churchill (and the submission cited above marked the centenary of the speech). In short, he who speculates on vacant land does not thereby create wealth, but captures wealth created by others while impeding the mechanisms by which they create it. To the extent that rates cut into his unearned profits, they do not constitute a subsidy from him to anyone else, but merely reduce the subsidy that he receives at others' expense. In terms of taxes and transfers, his rates are not so much a public tax on him as a reduction in the private tax that he imposes on others, or a means-test on a dole that he receives at public expense.
13. Note on pensioner rebates
When a vendor has a fixed quota to sell, e.g. a fixed number of tickets for a concert, revenue can be optimized by offering discounts to customers who are more sensitive to price, so that the discounted price is low enough to sell the whole quota while the full price takes advantage of customers who are willing to pay more. Hence the prevalence of discounts for pensioners and students at such events.
But for unavoidable expenses such as rates, pensioner discounts are objectionable in that they
- complicate the system,
- create an artificial incentive for retirees to arrange their affairs so as to qualify for the pension (or part thereof), and
- increase the burden on those who have less flexibility in arranging their affairs.
If pensioners cannot make ends meet, the appropriate policy response is to increase the pension! That is a Federal issue, not a Council issue.
If, in spite of the above, a pensioner rebate is deemed to be a political necessity, it can be accommodated under each of the options recommended in this submission.
N.B.: For the purpose of reducing the burden on pensioners, a pensioner rebate is superior to CIV in that a rebate would apply to all pensioners and only to pensioners, whereas CIV would reduce the bills of only some pensioners, and of many others who are not pensioners.
14. The pretense that CIV will not deter improvement
On the FAQ page for August 10 we find:
Q: What's the incentive to private property development/improvement under CIV options?
A: Under CIV property improvements and subdivisions will enhance the improved value of the property. It is not expected that this will affect the overall community desire to improve their property and enhance their asset.
No reasons are given. No evidence is adduced. No authorities are cited. It had to be thus because, as we shall see, all the reasons, evidence and authorities are to the contrary — unless, perchance, the answer depends on a distinction between “desire” and intent.
On the FAQ pages for subsequent meetings, the only reasons offered are that rates aren't everything and that neighbouring municipalities already have CIV:
Q: Under CIV new businesses will be discouraged from locating in Monash and existing business may relocate away from Monash.
A: If Council chooses CIV then both existing and new business opportunities will assets [sic] Monash on a competitive basis with surrounding municipalities who are already on CIV as the basis for charging rates. Monash has many other attributes for Business to consider aside from rate [sic] that makes Monash very attractive [Aug.13].
Q: Will the proposed Options 2/3 [flat/differential CIV] deter investment in the City?
A: It is not expected that implementation of either options 2/3 will deter investment as all neighbouring municipalities are rated on CIV. Additionally there are many other factors that contribute to decisions for investment [Aug.20].
Q: CIV is more complicated and will impact negatively on future development opportunities for the City.
A: It is accepted that there are more complexities for CIV valuations however Council's valuers are already required to return valuations for SV, CIV & NAV for all property types. It is not expected that CIV will influence decisions on development, as it is only one aspect of the complex decisions required for investment. In addition adjoining municipalities already rate on CIV and therefore it is unlikely to disadvantage Monash [Aug.24].
So it's good to know that if the rabies virus is ever released in Australia, it won't damage our competitiveness, because all other continents have rabies and Australia has many attractive attributes and its rabies-free status is only one aspect of the complex decisions related to location and investment!
A verbal argument offered on August 12 (and in other forms on other occasions) was that a home owner will not refrain from building a $50,000 extension because of an extra $90/year in rates — or, in more general terms, that the rate in the dollar is not high enough to influence decisions. This claim is examined under the next two headings.
14.1 Contradicted by comparison with monetary policy
According to the estimates in the Council's brochure on rates reform, the rate for “simple” CIV would be 0.1771% per annum. Compared with SV, which exempts buildings, the additional holding cost on the value of new construction would be equivalent to an increase in interest rates of 0.1771 percentage points. Under “CIV with differentials”, the corresponding increases would be 0.1605 percentage points for residential ratepayers, and 0.2657 percentage points for commercial/industrial ratepayers. Meanwhile the RBA and other central banks adjust interest rates in increments of 0.25 percentage points. Clearly central banks regards such small changes as significant influences on economic behaviour.
14.2 Contradicted by comparison with income tax
At a rental yield of 5%, CIV rating at the “flat” rate of 0.1771% per annum would collect just over 3.5% of the rental value of buildings. If the Federal Government were threatening an income tax surcharge of 3.5 percentage points on rental income from buildings, would not the usual suspects (Property Council, REIV, etc.) be making apocalyptic statements about a shortage of accommodation forcing up rents? And would they not be believed?
14.3 Contradicted by history
Concerning the abundance of empirical evidence confirming that the inclusion of buildings in the rating base deters construction and renovation — and the singular lack of evidence to the contrary — see e.g. “Why Site-Value rating is better, and how to implement it with no losers”, LVRG Blog, Sep.1, 2008, Section 3.
The influence of the rating system on construction flows through to business opportunities and employment opportunities, not only because construction creates demand in upstream and downstream industries, but also because jobs cannot be created unless (i) the employer can pay for commercial/industrial accommodation out of the proceeds of the business and (ii) the employees can pay for residential accommodation out of wages that the employer can pay out of the proceeds of the business. This reasoning is supported by an analysis of ABS figures by the Site Rating Defence group, which the Australian Financial Review (Jul.24, 1995, p.31) reported as follows:
According to Melbourne's manufacturing and employment statistics for the 10 years between 1974 and 1984, the number of businesses in site rated councils increased by more than 10 per cent, while the [number in] non-site rated areas decreased by 20 per cent during the same period.
Employment statistics also appeared to show up the large differences between the rating systems. According to the analysis, employment in site value areas fell by 9 per cent during the 10 years, while employment in non-site rated suburbs fell 27 per cent.
Comparing Melbourne municipalities with different rating systems has become difficult in recent years, for three reasons. First, the ABS stopped collecting the relevant figures on a suburb-by-suburb basis after 1984. Second, amalgamations reduced the number of municipalities, so that comparisons would be hampered by smaller sample sizes, especially if one wanted to compare municipalities at similar distances from the CBD. Third, since the amalgamations the number of SV municipalities has shrunk, worsening the sample-size problem.
In any comparison over a period ending (say) this year or last year, the SV “sample” would contain just one municipality: Monash. Nevertheless, the presentation by MacroPlan includes such a comparison. It shows that between 2001 and 2008, the per-capita gross product for Monash increased by 52.4%, compared with 48.5% for the Melbourne SD and 40.8% for the whole of Victoria, notwithstanding that Monash started from a base more than 20% higher than Melbourne and Victoria. Five slides later, the same presentation says that Monash is the only municipality still on SV and insinuates that it's time to fall into line with the other municipalities whose economies are doing so much worse!
14.4 Contradicted by elementary economics
In almost any debate about taxation, it would be common ground that if you tax something in elastic supply and elastic demand, you get less of it. I have noticed only two exceptions to this rule. One is the pretense that expanding the rating base from land (whose supply is inelastic) to land plus buildings will not reduce the construction or maintenance of buildings. The other — just to show the CIV brigade what sort of company they're in — is the pretense that payroll tax (which attacks only the labour factor of production) does not discourage employment any more than a consumption tax (which does not discriminate between factors). In each case, for want of any other explanation, I conclude that the truth is denied because it conflicts with someone's agenda.
15. Conclusion: CIV is a solution in search of a problem
CIV rating does not eliminate large increases in bills due to revaluations, but merely changes the causes of such increases by reducing the sensitivity to changes in site values but introducing a sensitivity to capital works. A Municipal Charge or garbage charge would also dilute the sensitivity to site values, but would not introduce a sensitivity to capital works unless they involved additional rateable units or (in the case of the garbage charge) building on vacant lots. None of these options would be as effective as a simple cap on increases in bills.
If unit owners are not paying their fair share, a combination of the MC and a garbage charge can lift their share as much as CIV, but without causing as many perverse incentives. It is easily arguable that the MC by itself is enough and that CIV would increase unit owners' bills by “courageous” margins.
The present rating system already reflects the benefits of services in that the availability of a service at a particular site adds to the site value. If the present rating system does not adequately reflect actual use of services, the logical response is to charge for such use. Taxing improvements (CIV) is a poor approximation and produces perverse outcomes in addition to the desired funding of services and rationing of their use.
While CIV might reduce the bills for most pensioners, a pensioner rebate would reduce bills for all of them and, unlike CIV, would not penalize construction, reconstruction, extension, renovation or maintenance.
Presumably Council will want to know the percentages of ratepayers in various categories — including all ratepayers, residential ratepayers, ratepayers in detached homes, and pensioners — who would pay more or less under the options recommended above, assuming current valuations. As MacroPlan Australia has already performed such analyses for various CIV options and is already in possession of the relevant data and processing tools, it is presumably best placed to provide timely answers.
While SV is not an ideal measure of capacity to pay, it does not follow that CIV is any better. To the contrary, SV better reflects locational choices and unearned increments.
If, as presently proposed, CIV rating is not accompanied by a higher differential rate on vacant lots, it will reduce the bills for vacant lots and increase the subsidies that land speculators receive from other ratepayers.
It is no accident that the last remaining SV municipality in Victoria has an unusually healthy economy. The surest way to throw away that advantage is to adopt the rating practices of the other municipalities.
