The tax reforms no one wants to talk about

Do we need housing tax reform?

Policy makers know that inefficient taxes are contributing to Australia’s housing market being relatively unaffordable for people to buy or rent—an increasingly acute challenge. Current tax policy settings, which favour older and wealthier owner-occupiers and investors, accentuate intergenerational inequity, inflate housing prices, reduce mobility and lower housing affordability. 

Although a number of tax exemptions potentially distort the housing market, the main policy commentary has been on reducing negative gearing deductions; reducing capital gains tax exemptions; and replacing stamp duty with a universal land tax. AHURI research has found that most of the benefits of these tax provisions flow to more affluent households, thereby exacerbating existing income and wealth inequalities. 

How much do these tax exemptions cost Australian governments?

Negative gearing allows individual landlords to deduct ongoing expenses related to their investment property from their income. This includes the income they receive from that investment (i.e. rent) as well as other income such as salary and other investments. 

In 2020–21 (the tax years with the most recent data) over 2.2 million Australians (14.8% of all taxpayers) declared some income or costs associated with owning a rental property. Of those individuals, just over one million (1,056,951 people or 47.9% of rental property owners) declared a loss (i.e. rental income was lower than the costs of owning the property and making it available for rent). Research estimates that negative gearing reduced Australia’s tax revenue by $3.7 billion in 2014–15, and that half of this tax benefit was received by households in the top 20 per cent of income levels.

Capital gains tax (CGT) is a tax on the capital gains (i.e. profit) received from the sale of any asset including residential property. While homeowners pay no CGT when they sell their primary residence, a landlord selling an investment property that they have held for more than 12 months is taxed on only 50 per cent of their capital gain. 

In the tax year 2016–17, the 50 per cent CGT discount for an investment property meant that $6.84 billion wasn’t collected by the Australian Government.

Determining the amount states’ and territories’ obtain from stamp duty that is from residential property transactions is not readily available. However, to make up for the losses from replacing stamp duty would require a land tax to be applied to all land (based on the value of each parcel of land) so as to be revenue neutral (at best) for states’ and territories’ budgets. For example, in the 2023–24 Victorian Budget, Victoria received $8.2 Billion in land transfer duty; for the State to forego this amount of money from property stamp duties it would need to be replaced by a land tax levied annually on all residential, commercial and agricultural land in the State. 

What is stopping Australia from reforming its tax system?

AHURI research has articulated the entrenched barriers to reforming housing tax policy in Australia.

‘These barriers include political sensitivities, the influence of powerful lobby groups in defence of the policy status quo and prevailing cultural norms. Their effect is reinforced by the financial relationship between the Australian Government and the states, and deeply institutionalised relationships between major political parties and commercial interests which corrode capacity to implement reform proposals. These political challenges are compounded by a wider concern that Australia’s political leaders are no longer willing or able to promote economic reform in the national interest.’ - AHURI Final Report 301, page 10

In particular, research highlights that it is ‘difficult to build political support for reforms that seek to further the national interest over sectional concerns. An efficient taxation system is a ‘public good’, the benefits of which are dispersed and society-wide’ while people who are most negatively impacted by reforms have the strongest incentive to lobby loudly for the retention of current tax settings.
Nevertheless, AHURI research has proposed strategies to introduce tax reforms. 

What tax reforms could be made – and how?

Negative gearing and Capital Gains Tax 
Some of the distortions created by negative gearing and by capital gains tax exemptions could be minimised by targeted, incremental (and politically palatable) reforms to existing provisions, specifically:

• introduction of a cap on property-related tax deductions applied to negative gearing initially set at a generous level (e.g. $20,000 p.a.) and then scaled back incrementally over time (by $1500 per year) until it reaches a specific lower level such as $5000 p.a.
• an annual reduction in the CGT discount, from its existing level of 50 per cent to a lower level (e.g. 30 per cent). 

Introducing changes to tax policy incrementally means the rate of changes can be modified as governments closely observe the reaction of sections of the property investment markets. It will also help to avoid the risk of any sudden and disruptive market responses that would affect tenants on lower incomes renting lower priced properties.

As AHURI research highlights:

'The overall effect is to reduce the incentives embedded in the existing regime to leverage residential property as a speculative investment while ensuring that the transition for households (both investors and tenants) is both smooth and gradual. It also alleviates the need for politically-expedient but administratively complex ‘grandfathering provisions’ by ensuring that the short-term effect is comparable for both recent and prospective purchasers.'  - AHURI Final Report 301, page 25

The introduction of these reforms would have to be accompanied by a very broad community awareness, consultation and education program so as to ‘alleviate the risks of both a partisan politicisation of reform and an irrational, destabilising market reaction.’ 

Under such tax changes property investors will have reduced financial benefits than they have today. As a consequence, communication strategies must focus on the ‘benefits that will flow from change, for the housing market, the community and the broader economy’.

Stamp duty and a universal land tax
Having an ongoing universal land tax paid by all (or most) landowners brings an income for governments that is stable and efficient, and is fairer for citizens, with all who own land contributing to the state or territory treasury (and not just those who have bought a property very recently). Currently state/territory governments apply land taxes to less than 20 per cent of all properties, as two-thirds of properties are exempt due to them being the principal place of residence of the landowner. Politically, the impacts of moving from a stamp duty regime to a universal land tax is possibly more problematic as this tax change will affect all land owners, and not just investors as is the case with negative gearing and CGT changes for investment properties.

As with negative gearing and CGT reform, reforms to reduce stamp duty taxes and increase (or impose) universal land tax would need to be introduced incrementally. This would reduce concerns over double taxation (i.e. imposing land tax on households who have already paid stamp duty on the purchase of their property); reduce negative impacts on state/territory governments’ budgets; and minimise negative political outcomes for governments that introduce the reforms.

Successful tax reform will take time and require communication 

AHURI research modelling the adoption of universal land tax reveals the need for a long introduction period that relies, first, on a standard approach to determining land values across the country; and the establishment of a national property register. Following that, states and territories could move to a simpler and fairer revenue-neutral stamp duty. 

The modelling proposes that a 6 per cent stamp duty rate with a carefully designed minimum threshold (i.e. the level when the stamp duty would begin to be applied) would result in over 60 per cent of property buyers at the bottom of the dwelling price distribution paying less transfer duty. Over time the stamp duty could be incrementally reduced and ultimately replaced by an increasing universal land tax (probably over a 10-to-20-year period). 

The AHURI modelling shows that to decrease stamp duty costs by 10 per cent would require an annual land tax payment of between 0.0248 and 0.0383 per cent of the value of a median-value residential property, depending on which state or territory the property is in. Based on the median value of residential properties in 2015–16, that would mean land taxes would increase by between $47 (in Tasmania) and $129 (in NSW) each year over a ten year period before stabilising.

However, due to the political challenges of introducing a new broad-based tax, implementation will only be practicable ‘if the wider benefits for housing affordability, intergenerational equity and economic efficiency are widely promoted.’ The research reiterates that ‘the Commonwealth Government therefore has a key role to play ... In addition to providing national leadership the Commonwealth can provide administrative support, incentive payments and eliminate any disincentives associated with introducing a state-level broad-based property tax.’

Tax reforms: an ambition for the National Housing and Homelessness Plan?

The still-in-development National Housing and Homelessness Plan has the potential to be a conduit for states, territories and the Commonwealth to work together to address housing tax reforms. 

AHURI research highlights that ‘Australia’s system of concurrent federalism requires intergovernmental cooperation. A mission-oriented Housing and Homelessness Strategy could revitalise stalled discussions about institutions and principles for cooperation.’ In particular the strategy should ‘align housing-related taxation, finance, planning and development with the Strategy mission’ (which is to ensure everyone in Australia has adequate housing). 

The research also argues that an effective housing and homelessness strategy ‘should aim to shape and create the kind of housing markets we need, promote the right kind of innovation and channel resources to address pressing housing needs. This involves more than fixing market failures and filling the unprofitable gaps in the market.’ 

As AHURI research (and this AHURI Brief) shows, the National Housing and Homelessness Plan should consider including strategies to redress housing tax issues that are economically inefficient; lead to poor housing outcomes for first home buyers and tenants; and that also promote generational inequity.