Fraser Coast circumvents site-value rating
Address by Gavin R. Putland to the Rates Summit organized by the Henry George Association of Queensland, at the Brolga Theatre, Maryborough, 1 July 2011. (Subheadings added.)
Mr Chairman, Ladies and Gentlemen:
The case for site-value rating
I'll begin by stating (or restating) five reasons why municipal rates should be levied on land values, excluding the values of improvements — that is, excluding the values of houses and commercial buildings and other artificial structures on or under the land.
First, if you don't tax improvements, you don't discourage construction. And construction is important, not only because it creates wealth and jobs in itself, and in industries that precede it or follow it, but also because the modern urbanized economy is entirely dependent on affordable accommodation, which in turn requires an adequate supply of accommodation. If jobs are to be created:
- the employer must be able to pay for business premises out of the proceeds of the business, and
- the workers must be able to pay for housing within commuting distance of the business premises, out of wages that the employer can pay out of the proceeds of the business.
If you rate land values, you don't suppress construction. But if you tax improvements — for example, by imposing a minimum rate on an additional apartment built on a suburban block — you'll lose construction and the jobs that go with it, especially if the builders or buyers can simply take their business to a competing municipality that has a more sensible rating policy.
Second, rating the land value stops the most valuable land from being wasted. If a piece of land has a high market value, that means a lot of people want to use it, so it's against the public interest to have it wasted or underused. If the high value leads to a proportionally high rates bill, the owner is prodded into using the land more intensively, to generate income to pay the rates. But if you impose a minimum rate on less valuable land in order to reduce the charge on more valuable land, you make it easier for the owners of the best land to waste it, while they wait to sell it at an even higher price. And they could be waiting a long time.
Third, rating the land value is equitable according to the benefit principle — also known as the “beneficiary pays” principle:
- If the Council builds a desirable facility, it will add to the values of surrounding properties. In particular, it will add to land values — not values of buildings, because they're determined by construction costs, but values of land, because land has a location and therefore a locational value whether there are buildings on it or not.
- Even if the facilities provided by the Council are not the main reason why land values are high, those facilities will tend to be found in locations where land values are high for other reasons — like city centres.
So, if you rate land values, you get a correlation between rates paid and benefits received. But if you push a certain class of ratepayers onto the same minimum rate, you obliterate the correlation within that class.
Fourth, rating the land value is equitable in the sense that it makes some allowance for capacity to pay. I'm not sure if there's any point in mentioning that, because if you want 80% of ratepayers on minimum general rates regardless of what their properties are worth, then by definition you either don't care about capacity to pay, or are actively hostile to capacity to pay as a criterion of rating. But I'll explain it just in case anyone here does care about it:
- The value of a ratepayer's land is the best single measure of “capacity to pay” that Queensland councils are allowed to take into account. If you rate the land value, the annual rates bill is guaranteed to be only a fraction of the annualized value of the land. But it isn't guaranteed to be less than the annual value of any other assets or income that the ratepayer might have, even if councils were allowed to take those things into account.
- Fortunately, Queensland councils aren't allowed to rate the so-called capital-improved value (or CIV), which is the combined value of the house and land. But, as a matter of interest, and contrary to the propaganda that we have to endure in Victoria, the land value is a better measure of capacity to pay than the CIV.
- CIV rating is a tax on renters, and hence a tax on the poor, because it deters construction and therefore reduces the supply of housing and pushes up rents.
- CIV rating is a tax on large families, because larger families need bigger houses.
- CIV rating tends to be a tax on people with mortgages, because more valuable buildings tend to be newer, and newer buildings tend to have been bought more recently, in which case they're more likely to be encumbered by debt.
- CIV rating favours owners of vacant lots, who might be investors or speculators or developers, but definitely not occupants.
- Land-value rating has none of these faults.
- The land-value better reflects unearned capacity to pay, because in the long term, land tends to be worth more than people paid for it, while buildings tend to be worth less.
- The land value reflects “capacity to pay” as expressed in locational choices. Accommodation in more desirable locations is worth more, not because it's more expensive to build there, but because the land is worth more.
- The land value reflects “capacity to pay” as conferred by locational advantage. Good public transport reduces car-related costs; proximity to amenities reduces transport costs in general; central locations give assess to more job opportunities; and so on.
Fifth, rating the land value is equitable because it maximizes the woefully inadequate compensation for unequal success in the property market.
- If the value of the location of your home declines relative to other locations in your local government area, the only compensation you get is a reduction in your share of the rates bill. And of course the market knows about rates. So the decline in the market value of your land is proof that the saving in rates doesn't fully compensate for whatever is causing the decline.
- If, on the contrary, the value of the location of your home rises relative to other locations, then, because there's no capital gains tax or land tax on the family home, the only clawback that you suffer is through the rates bill. And again, the rise in the value of your land is proof that whatever is causing the rise outweighs the rates implication.
It might be said — and indeed I've said it myself — that if you're an ordinary home owner, a general increase in home prices doesn't do you any good, because the higher selling price of your present home is offset by the higher purchase prices of alternative homes. But:
- That argument applies to a general increase in prices. If the price of your home rises relative to others, you are indeed better off.
- And land-value rating doesn't simply convert higher land values into higher bills, because the Council doesn't start with a fixed rate in the dollar. It starts by deciding how much revenue it needs, and then it divides the total revenue by the total land value to work out the rate in the dollar. So if all the land values rise by the same percentage, that doesn't make any difference to the final bills. But if the land values change relative to each other, that does make a difference.
And because the changes in bills partly offset the changes in relative values, they partly compensate for the varying fortunes of the property market.
So, if the rates are levied on land values, home ownership becomes somewhat less of gamble... The element of gambling isn't completely removed. But it is partly removed; and, given that Australians lose more money on gambling per head of population than any other nation on earth, every moderating influence helps.
But the minimum-rate merchants turn that logic on its head. They pretend
- that if the value of your property rises by $50,000, causing your rates bill to rise by $500, then you're a victim of your rising asset values and deserve relief,
- whereas if the value of your property falls by $50,000, causing your rates bill to fall by $500, then you're free-riding on other ratepayers, and you should pay more in rates, so that the poor diddums with the $50,000 capital gain can pay less.
So they want to put as many people as possible on minimum rates, to stop the rates bills from rising and falling to offset some of the wins and losses in the property casino.
Site-value rating in Queensland
So I've given five reasons for land-value rating. But historically, the main reason why that system was adopted in Queensland was probably the first one: if you want people to improve the land, you shouldn't tax the improvements.
Queensland was the first Australian colony to exempt improvements from the municipal rating base. The first step in that direction was an Act passed in 1879, which provided for values of improvements to be assessed separately, and discounted by 50% for tax purposes. In 1887, improvements on country land were made exempt. But the decisive step came in 1890, under the premiership of Sir Samuel Griffith, when the exemption for improvements was extended to all land except goldfields, and the base was changed from the annual value to the so-called unimproved capital value — that is, the price for which you could buy the land, rather than rent it. The anomaly concerning goldfields was removed in 1902.
Then we can fast-forward to 2010. Last year, to simplify the process of valuation with minimal effect on the outcome, the rating base for non-rural land was changed to the site value, which includes so-called merged improvements — that is, old improvements that are hard to distinguish from natural features.
The logic behind that was explained more than 130 years* earlier by Henry George. Considering the alleged difficulty of separating the land value from the value of improvements, he wrote:
[N]o difficulty whatever can attend the separation, if all that be attempted is to separate the value of the clearly distinguishable improvements, made within a moderate period, from the value of the land...
Then a few lines later he continued:
... [A] hill terraced by the Romans constitutes now as much a part of the natural advantages of the British Isles as though the work had been done by earthquake or glacier. The fact that after a certain lapse of time the value of such permanent improvements would be considered as having lapsed into that of the land, and would be taxed accordingly, could have no deterrent effect on such improvements, for such works are frequently undertaken upon leases for years. The fact is, that each generation builds and improves for itself, and not for the remote future. And the further fact is, that each generation is heir, not only to the natural powers of the earth, but to all that remains of the work of past generations [Progress and Poverty, Bk.VIII, ch.4].
In other words, it doesn't greatly matter if you tax the value added to the land 50 years ago, by a bulldozer whose tracks have disappeared; but it does greatly matter if you tax the value added by a house built 10 years ago and still standing. The new site-value system recognizes that distinction, and thereby avoids unnecessary inquiries into the history of your property.
So, with minor exceptions and adjustments, the principle of rating the value of the land, excluding improvements, has persisted in Queensland for 121 years.
Nevertheless, local councils retain other revenue options, which offer loopholes for those who want to dilute or override the site-value principle.
- Some of those extra charges amount to de-facto taxes on improvements. An example is a minimum “waste service charge” of $229/year per dwelling (last year), or $286/year for the first wheelie-bin, or a waste management levy of $69/year per rateable valued parcel, or a water access charge of $407/year per rateable parcel (this year) — or $593/year per (commercial) toilet pedestal.
- These things are not to be confused with a reasonable charge for the parts and labour used in connecting a service.
- And they're not to be confused with a usage charge of so much per unit, reflecting the so-called marginal cost of usage — that is, the cost of the next unit of consumption. It's fair enough that you pay for the water that you flush down the toilet. But it's a bit rich when you also pay for the mere presence of the toilet — year after year, whether you flush it ten times a day or once a month.
- But all of those extra charges weaken the nexus between the land value and the owner's contribution to the treasury. Hence:
- they weaken the incentive to use more valuable land more intensively;
- they reduce the public capture of uplifts in land values caused by public projects, and therefore increase the unfair subsidy of those projects by ratepayers who don't share in the benefits;
- they reduce the correlation between rates bills and capacity to pay; and
- they make home ownership a bigger gamble.
But the master loophole, which makes all the others redundant, is the “minimum general rate” — more accurately described as the minimum bill because it's not an ad valorem rate (or a “rate in the dollar”); it's a fixed amount.
- Because the “minimum rate” is levied on additional dwellings, it includes the evils of a per-dwelling service charge.
- Likewise it includes the evils of the per-dwelling “base charge”, which has been widely imposed in New South Wales.
- But it's worse than both because it doesn't merely add a constant to the result of the ad valorem calculation; it obliterates the nexus between the land value and the rates bill over the lower range of land values.
- For Sunshine Coast Regional Council in 2010-11, the minimum of $912 applied to residential land worth up to about $250,000 [Gympie Times, 28 Jul 2010]. Below that limit, no matter how little your land was worth, you paid rates as if it was worth $250,000, so that people whose land was worth more than that could pay a lower rate in the dollar.
- For Gympie Regional Council, the minimum was $833.30 [loc.cit.]. For South Burnett the standard minimum was $530. For Bundaberg it was $710. For Mackay it was $955. For Townsville City it was $950; and so on.
As Adam Smith wrote, “There is no art which one government sooner learns of another than that of draining money from the pockets of the people” [Wealth of Nations, V.2.114,124].
- In Fraser Coast Region, the minimum rate for a single residence was $730 for rural residential, or $905 for residential worth under $50,000, or otherwise $1005 (last year). If there had been a uniform general rate on the site value, the rate would have been 0.73762 cents in the dollar [Fraser Coast Chronicle, 22 Jan 2011]. So you can work out whether you would have paid more or less. And of course the Council can work out what percentage of ratepayers would pay less if the minimum were abolished.
Effect of services on land values
You might ask: What is the evidence that services increase land values?
- Of course we've all heard real estate agents and developers boasting that a certain property or subdivision is so many minutes' walk from this, or so many minutes' drive from that. So presumably those arguments have some effect on what people will pay.
- And most of us have done a bit of house hunting, so we know from experience how much more we're willing to pay, or able to pay, to be close to this or that.
- And some of us have seen property investors' magazines telling us to find out where the infrastructure is going and buy property in the locations that will be made more desirable. Presumably some people are paying attention.
But it gets a bit more scientific than that.
For example, in a paper presented in 2009 [“The Analysis of Urban Features That Affect Land Values In Residential Areas”, Proc. 7th International Space Syntax Symposium, Stockholm, 8–11 June], two academics named Mehmet Topcu and Ayse Sema Kubat mapped out the residential land values in Istanbul, and correlated them with proximity to certain landmarks. Here are some results:
Correlation Sport Activity Areas 0.339 Entertainment Zones 0.293 Cultural Zones 0.284 Open Zones 0.195 Children's Playing Fields 0.108 Public Transportation 0.103 .
Of course, correlation doesn't imply cause. If land values near a particular facility are high, it might be mainly because the facility is located where land values are high for other reasons. Speaking of which, the highest correlations found by Topcu and Kubat were 0.364 for the CBD, and 0.387 for the coast. But whatever causes land values to be high near a particular facility, if you rate on the land value, the people who live near that facility and consequently get the most benefit from it will contribute the most towards its cost.
Another example: Apparently the Hervey Bay Library extension consumed more than 3% of last year's Council budget.
Yes, there's a correlation between libraries and land values. Last year, a report from the Fels Institute of Government at the University of Pennsylvania [The Economic Value of The Free Library In Philadelphia, Oct.21, 2010, pp.12–13] studied land values in Philadelphia. It found:
- Being within a quarter-mile of a Library, controlling for all else, is associated with a home having a value that is 7.7% higher than comparable homes that are more than a quarter-mile from a Library.
- For homes that are one-quarter to one-half mile from a Library, the increase in value is a more negligible 0.5%.
That study attempted to tune out the other influences on land values. It didn't simply reflect the fact that libraries tend to be found in places where values are high for other reasons. So the clear implication is that rating on the land value is a reasonable way to pay for libraries according to the benefit principle.
Effect of rating on construction
You might ask: What is the evidence that taxing buildings reduces the amount of construction?
You might also ask why any evidence is needed. In most debates about tax, all sides would admit that if you tax an activity, you get less of it. I've noticed only two exceptions:
- Some people deny that taxing the values of buildings reduces construction and maintenance of buildings.
- And some people deny that payroll tax reduces the number of available jobs.
So if you want to defend taxes on buildings, that's the sort of company you're in.
But, to answer the question, there's a large body of literature confirming that if you levy rates on the land value alone, you get more construction than if you include buildings in the rating base.
- In its earlier decades, the Land Values Research Group in Melbourne was a major contributor to that literature, because in those days Melbourne was divided into a large number of local government areas (or LGAs) with different rating systems, and for the LGAs at about the same distance from the CBD, you could compare the construction rates in LGAs with different rating systems. And of course you could see how the construction rate changed after a council changed its rating system.
- Other studies in South Africa and North America tell the same story. Municipalities that rate site values have more construction than those that rate building values as well. If you change the rating system so as to take buildings out of the base, construction rises. If you change the system so as to put buildings in the base, construction falls. None of which is the least bit surprising.
But some people might question the relevance of those studies on the ground that while minimum rates punish construction, they don't do it by the particular method of including values of buildings in the rating base.
So let me offer two analogies.
- First: Suppose, perhaps optimistically, that you spend $80,000 upgrading your single house to a duplex. And suppose the Council thanks you by increasing your minimum rate bill by $800/year. That's equivalent to an extra percentage point of interest on the cost of construction. By way of comparison, the Reserve Bank typically adjusts interest rates by a quarter of a percentage point; and that, according to the commentators, enough to produce visible effects on the property market. What difference would a whole percentage point make? For that matter, how different would your past property purchases have been, if interest rates had been a whole percentage point higher?
- Second: Suppose further, again perhaps optimistically, that you expect a 10% return on your investment, in terms of increased rental income. Then the increase in the minimum rate is equivalent to a 10-percentage-point increase in the income tax on your rental income. Now I ask you: If Gillard and Swan were to increase the income tax on rental income by 10 percentage points, how would that affect property investment, and what would the Property Council and the Real Estate Institutes and the HIA be saying about Gillard and Swan?
Because you should be saying the same thing about the Fraser Coast Regional Council!
Dissecting the spin
Let's dissect a sample of the spin in favour of minimum rates. The Council's Budget Media Release for 2011-12 describes the current policy as “rate equalisation”, which is a misnomer whichever way you look at it.
- If the “rate” means the rate in the dollar, then “rate equalization” means putting everybody on pure site-value rating at the same rate in the dollar — which is a good idea but, unfortunately, not what's happening here.
- If the “rate” means the amount per year per property, then “rate equalization” means hitting 100% of ratepayers with the same bill, regardless of capacity to pay. But the Council only wants to hit 80% with the same bill, regardless of capacity to pay. (Isn't that generous?)
The media release says:
The concept of a Minimum General is to ensure that all properties regardless of land value contribute proportionally to the services provided by Local Governments.
So it ignores the fact that services are location-dependent and raise land values in the favoured locations, which tend to be locations where land values are already high for other reasons.
The media release says that minimum rates
... can minimise the impact of fluctuations in land valuations on individual property owners.
So it ignores the fact that the change in the rates bill is outweighed by the change in the value of the property.
And it ignores the fact that if the Council wants to avoid large increases in bills, then — under s.50 of the Local Government (Finance, Plans and Reporting) Regulation, 2010 — it can simply impose a cap on the percentage increase in the bill from year to year. That's the simplest, most direct, most complete solution to the alleged problem.
And it ignores the fact that if the change in the rates bill causes a cash-flow problem, then under Part 10 of the same Regulation:
- The Council can grant a concession to any ratepayer or class of ratepayers that it considers to be suffering from hardship — like the little old widow in the little old house on the high-valued site on the esplanade.
- And the concession can be a discount of any size. So the Council can give the widow a 90% discount or a 99% discount if it wants to. But for reasons best known to itself, it prefers to impose a minimum rate on everybody else.
- Or the concession can be a deferral of any period, or until any specified event. So, for example, there's nothing to stop the Council from deferring all or part of the widow's rates until the land is next sold, or until it's inherited, or until the first time it's sold after it's inherited.
So the Council isn't imposing minimum rates because of the widow. It's imposing minimum rates for some other reason, while using the widow as an excuse, and ignoring other options that would help the widow far more, with far less effect on other ratepayers.
(I think it was Robert F. Kennedy who said that in politics, where there is smoke, there is usually a man with a smoke machine...)**
And of course nobody weeps for the little old widow who doesn't own her home, and whose rent is pushed up because minimum rates are deterring construction and restricting the supply of accommodation. You don't qualify as a battler unless you own property. If you're a renter, you're trash.
The media release says:
... a high value property on the Esplanade does not receive more in services than a lower value property.
But it probably does. And that's probably part of the reason why its value is high. And what about owner's capacity to pay?
The media release says:
However, in some instances a variation in rates is recognised due to service levels; e.g., properties within rural areas are levied less than those in urban areas, which is reflective of the difference in service provision.
Well, because services are reflected in land values, the simplest way to achieve lower bills for people with inferior services is to levy rates on land values!
And then, if the Council thinks rural people are still paying too much, it can simply specify a lower rate in the dollar for rural locations.
The media release says:
Council was required as part of the amalgamation process to implement a single rating structure...
Site-value rating for the whole Region — without a minimum rate — would have met that requirement. Section 11 of the Regulation says: “A local government may fix a minimum amount...” It doesn't say: “A local government shall fix a minimum amount...”
The media release says:
A residential property with a land valuation of $100,000 in Hervey Bay is paying the same as a property worth $100,000 in Maryborough.
Well, funnily enough, that's exactly what would happen under pure site-value rating (if the latter $100,000 means the land value). What wouldn't happen under pure site-value rating, but does happen now, is that properties with different land values pay the same bill.
Probably the most respectable reason for a minimum rate is to extract a greater contribution from apartment owners. I have four responses to that.
- First, if the rating system gives preferential treatment to multi-apartment complexes, that's not entirely a bad thing, because it encourages efficient use of a finite resource, namely land — especially well-located land.
- Second, the mere fact that you have permission to build an apartment block on a site increases the value of the site; and if the valuers do their job properly, that will be reflected in the rates bills under site-value rating.
- Third, if the Council is genuinely concerned about the demand on Council services from apartment blocks, then it has ways of charging directly for those services without using minimum rates.
- Fourth, if the minimum rate were really intended to extract a fair contribution from apartment owners, the minimum would be a fixed amount per year per apartment. But it's not. In fact, if you look at the rates schedule for 2010-11 and check out the minima for various-sized apartment blocks, they make no sense at all.
- A second dwelling on the same site costs you an extra $758 in minimum rates.
- The 3rd to the 10th cost nothing extra.
- The 11th costs an extra $4231.
- The 12th to the 23rd cost nothing.
- The 24th costs an extra $16,326.
- The 25th costs nothing.
- The 26th saves you $14,194. (That's what it says!)
- The 121st costs an extra $43,756.
- And if you work out the minimum rate per apartment, it can be as high as $930 for 24 apartments, or as low as $125 for 120 apartments, with wild fluctuations in between.
Where's the equity in that?
So the Council isn't imposing minimum rates because of big apartment blocks. It's imposing minimum rates for some other reason, and, at best, using the big apartment blocks as an excuse.
- a “minimum general rate” doesn't solve any problem for which there isn't a better solution;
- it brings all the problems of including buildings in the rating base; and
- it waters down or obliterates the advantages of the site-value system.
It's not only a solution in search of a problem, but a new set of problems in itself.
I thank you for listening.
* I think I incorrectly said “120 years”.
** A shorter version is attributed to JFK.