In a bold move that has sent a few shockwaves through the real estate industry, the Victorian government has announced the implementation of a new land tax levy.
The levy — a part of the COVID debt levy included in this year’s budget — aims to raise $4.7 billion by reducing the tax-free threshold for general land tax rates on properties that are not considered principal places of residence. (The details are here.)
While the measure is intended to ease the burden on the state’s finances, it has understandably sparked discontent among landlords, who will bear the brunt of the increased taxes.
Predictably, therefore, property lobby groups wasted no time in denouncing this new levy as an assault on hardworking ‘mum-and-dad’ investors, warning that it will inevitably lead to skyrocketing rents.
However, let’s set the record straight: the notion that landlords can effortlessly pass on land taxes to renters is nothing but a fallacy!
Land taxes fall solely on the shoulders of the landowners themselves and cannot be transferred onto tenants at a whim.
If they could — why would landowners be howling? Higher taxes would be of no consequence.
The truth of the matter is that rental prices are determined by the principles of supply and demand within the local market and are tied somewhat to wage growth.
If there is an abundance of available properties, landlords cannot unilaterally raise rents.
In fact, it is reasonable to assume that landlords are already charging as much as the market can bear.
Higher land taxes do not alter this fundamental dynamic.
Instead, they will have the marginal effect of lowering land prices (all else being equal) as new purchasers will take the higher tax rates into account when assessing their budget for new sites.
They will also likely reduce competition from speculators who will favour investment in states where land tax thresholds are higher.
After all, that’s the disgruntlement that the property industry has with these measures.
The potential for it to lower prices and deter investment.
They’re not concerned about higher rents.
If they were, higher land taxes would no doubt be seen as good. In so much as they can stimulate supply by encouraging vacant sites to be employed into use — as well as reduce land prices assisting some renters to become buyers.
As a land cycle investor, it’s vital to grasp this concept if you’re going to play the market like a pro and truly understand how land tax can either inflate or diminish market gains.
Therefore, to explain the rationale behind land taxes and why economists have favoured them over the centuries and continue to do so, we must delve into the realm of ‘Georgism’.
It’s a philosophy popularised by the illustrious 19th-century economist and social reformer Henry George (1839–97), who held a profound belief in the fairness and efficacy of land taxation.
You see, to George, land tax was more than just a means of generating revenue; it was a powerful tool for addressing societal inequalities and fostering economic prosperity.
In his seminal work, Progress and poverty, An Inquiry into the Cause of Industrial Depressions and of Increase of Want with Increase of Wealth… The Remedy (published 1879), George argued that land, as a resource provided by nature, should be treated as a common heritage belonging to all people.
As such, he saw the taxation of land as a fair method of recapturing the economic value created by the community.
But in doing so, he saw other forms of taxation — those that fall on labour income and productivity as robbery!
Think of it this way — in George’s world, taxes would be levied on what you don’t earn (monopoly rents), not from the genuine earnings of work and toil.
Hence why renowned economist Milton Friedman famously referred to land taxes as the ‘only good tax’, recognising their ability to avoid penalising hard work and innovation.
Take a look here — he explains it well.
For some, it still may be a hard concept to grasp.
Therefore, I often tell a simple story that goes a fair way of encapsulating why George was so passionate about a single tax.
Look at it this way…
A man walks into a real estate agency…
He’s new to the country and its policies.
He tells the realtor he wants to buy a plot of land for his factory.
He gives the agent an idea of his budget and land size needed.
‘Sure, sir’ replies the agent. ‘I have just what you are looking for.’
The realtor takes him in her car to the outskirts of Melbourne.
They drive up a muddy track, through some empty fields, to a block of land.
Its dimensions are neatly marked out with wooden stumps.
‘Here you are sir, exactly what you’re looking for, 1,000sqm and the cost is $10,000,’ smiles the realtor.
The man gets out of the car and looks around. ‘Is this the only road to access this plot?’ he asks.
‘Yes, sir…’ she replies, pointing, ‘Your closest neighbour is a few kilometres further down the track that way, along with the local primary school and a few village shops.’
‘Oh!’ the man responds, ‘This will never do! How will my workers get here on time, and where will my customers come from?’
Noting the man’s reaction, the agent thinks for a moment.
She ushers him back into the car. ‘I think I understand what you need, sir…’
Driving back into the outskirts of town, they come across another plot of land, exactly the same size and dimension as the first.
Exiting the car, the realtor exclaims excitedly,
‘This is perfect for you, sir!
‘See the school over there? That school is SO good that people pay $200,000 or more just to live in the “zone”!
‘Over there is the local hospital…it has some of the best surgeons in Melbourne.
‘It’s very popular and the staff that work there, they use this shopping mall all the time.
‘Down the road is the train station where your employees can commute to work, and as you can see, the local bus stop is right outside.
‘And crime? Crime is very low. The police patrol this street every 15 minutes….’
‘Oh!’ said the man excitedly, ‘This is exactly what I am looking for!’
He reaches for his chequebook…
‘How much is it?’
‘$1,000,000’, replies the agent.
‘$1,000,000!’ says the man, aghast, ‘but it’s exactly the same size and proportion as the other block!’
‘Sir, you’re not thinking!’ replied the agent, ‘Look at what you’re getting! The location will attract plenty of business to your factory.’
Pondering for a moment, the man agrees — ‘You’re right, the price is worth it to me. I just have one question, who do I make the cheque payable to?’
The agent looks confused.
He explains further, ‘The high school, the police station, the hospital, the public transport company?’
‘Oh no, sir!’ laughs the agent, ‘You make it out to the vendor. He’s in Florida, he’s going to retire on the profit from this sale!’
‘Then who pays for the facilities that give the land its value?’ says the man confused.
‘Well, sir, when you set up your factory, employ your workers, and start producing goods into the economy…you’ll pay income tax, GST, Payroll tax, Property tax on the building…’
‘But that’s not fair!’ exclaims the man.
‘I’m paying twice! Once in the land price to a private owner, and once through taxes on my goods and labour for all the services that give the land its value!’
Most recently, Warren Mosler, a prominent figure in the world of economics — a seasoned financial professional, author, and founder of Modern Monetary Theory (MMT) — has also leaned in the direction of Henry George’s thesis, with the advocacy to remove all taxation other than a property tax.
He explains his theory here.
But back to reality — we’re not likely to see changes such as this in Australia.
The higher land tax is an additional levy.
Therefore, investors looking to maximise land price gains as we approach the peak of this cycle should consider the potential price impacts higher land taxes may have on the real estate market.
It won’t be higher rents, but it may be lower overall land price gains.
For further guidance and insights into what could affect land price gains, be sure to subscribe to Cycles, Trends & Forecasts.
Editor, Land Cycle Investor