A respected economic think tank has cast doubt on whether measures in the Budget designed to hit wealthy homeowners will actually work.
George Osborne's plans to hit rich homeowners with increased taxes have been criticised by a leading economic watchdog.
The Institute for Fiscal Studies (IFS) said that measures to up the rate of stamp duty for those purchasing properties worth over £2 million would ‘lock’ people into housing and encourage tax avoidance.
Experts said that the much-maligned ‘mansion tax’ may be a better option.
Exceptionally badly designed
George Osborne’s increase – announced in the Budget last Wednesday – will see the stamp duty band for properties worth more than £2 million move from 5% to 7%. This means that a £1 increase in a home’s value could potentially add £40,000 onto the overall sale price.
Senior figures at the IFS described the tax as ‘badly designed’ and ‘exceptionally damaging’ late last week.
Stuart Adam, a research economist at the think tank said the stamp duty rise was “a huge hit on a very small number of people”.
The IFS predicted that the property tax reform would cause transaction levels to drop and prices to fall – especially to values just under the £2m level.
Experts at the think tank also predicted that stamp duty avoidance – a practice the government were keen to crack down on – would increase as a result of the higher rates.
Avoidance
A further measure announced in the Budget was a considerable increase in stamp duty to 15% for properties worth over £2m that are bought through offshore companies. This is designed to reduce tax avoidance.
However the IFS said that the likely effect of the change would be to stunt transaction activity, rather than raise revenue. It also said the reforms were not a cure to tax avoidance, and left uncertainty as to what was reasonable tax planning.
Overall, the general message seems to be that the Budget’s property tax measures were far from the radical reforms many would argue the housing market badly needs.
IFS Director, Paul Johnson, said: “To see another Chancellor increase again such a poorly designed and distorting tax does not bode well for tax reformers.”
Mr Johnson also said that a move away from the ‘dramatically regressive’ 1991 values of council tax would be desirable.
“There is a strong case for charging more tax on expensive properties. Stamp duty is the wrong way to go about it,” he continued.
So what are the alternatives?
Mansion tax
The IFS cited the much-mooted ‘mansion tax’ as a preferable alternative that could raise more revenue than the stamp duty rise. The levy was initially outlined in the Liberal Democrat manifesto, but was met with hostility from the Conservative party.
Practically, a mansion tax enforces an annual levy on homes worth over £2m. As the tax is based on external valuations and is not restricted to transactions, it is far harder to avoid.
Supporters point to the proposal as a clear sign of a shift from taxing income to taxing wealth. Property is a particularly ripe target thanks to the rapid house price gains made by many homeowners throughout the boom years.
However it’s this very point that many opponents of the scheme cite when attacking the plans. The argument goes: why should gains incurred through market movements boost personal tax bills?
Detractors point to ‘equity rich, cash poor’ households that, unable to foot the tax bill, would be forced to move. A solution to this problem laid out by the IFS is to build in legislation allowing mansion tax to be deferred until sale or death. Encouraging affected homeowners to remortgage; sell part of their property or take in a lodger to foot the tax bill are further possible solutions.
Another downside is that the introduction of such a tax would require a mass revaluation of all properties. Although many groups – including the IFS – see this as long overdue for council tax purposes anyway.
A rise in stamp duty is easier to introduce in the current fragile climate, easier to sell to those with high-value homes and – according to the government – will still bring in a good chunk of revenue. Whether it’s a sufficient answer to the many legitimate calls for reform in the housing sector is quite another issue.
Forget this Budget - the 2010 Budget is just about to hit home