As we reported in New Build: Foundations for a successful housing policy? the Autumn Statement heralded significant reforms to Stamp Duty – the UK tax on house purchases. The result is the introduction of a graduated system of tax, along the lines of the income tax system. A similar regime will continue to operate in Scotland when the Land and Buildings Transactions Tax replaces Stamp Duty next April. Here we consider the impact on the effective rates of tax following the changes to Stamp Duty.
Under the old system any house purchase involving a property whose value was £125,000 or less incurred no Stamp Duty liability. Thereafter, one of five tax rates applied: 1% above £125,000 to £250,000, 3% above £250,000 to £500,000, 4% above £500,000 to £1m, 5% above £1m to £2m and 7 per cent for properties over £2m. The important point was that the whole of the purchase price was subject to one of these five progressively higher tax rates.
The new system sees the introduction of a graduated system of tax which means that the amount paid by house purchasers will be dependent upon the proportion of the value of the property that falls in each of the tax bands. Again, for properties up to £125,000 there will be no liability. There will then be four bands: 1% above £125,000 to £250,000, 5% above £250,000 up to £925,000, 10% above £925,000 up to £150,000 and 12% above £150,000.
One significant impact of the changes is that the liability will be more proportionate to the value of the property. To see this we can compare the average rate of tax under the new and old tax system. The average rate of tax is simply the amount of the tax liability relative to the price of the property.
From Chart 1 we can see how the new average rate of tax under rises progressively with the price of the property. (Click here to download a PowerPoint of the chart). Under the old system, the profile of the average rate of tax looks like a series of steps with a slab at each tax rate. Unsurprisingly, the system was sometimes referred as the ‘slab system’.
A second significant change will be the removal of the significant spikes in the marginal rate of tax around each of the tax bands. For example, the tax liability on a property costing £125,001 was £1,250.01 compared with a zero liability on a property costing £125,000. Therefore, a £1 rise in the price of property was accompanied by a £1,250.01 rise in the purchase tax. In percentage terms this is a marginal rate of tax of 125,001. Chart 1 shows how the marginal rates now match the progressively higher tax rates that become payable between each threshold.
The principle of removing the significant distortions to pricing created by the old system of Stamp Duty is likely to receive general approval. However, there may be some unease around the short-term implications for house prices of the bands and rates under the new system. This is largely because nobody purchasing a property at £937,000 or less will see their tax liability rise. The reduction in the liability raises concerns about a potential boost to house prices.
Chart 2 show the percentage change in the Stamp Duty liability for properties of up to £2.5 million. (Click here to download a PowerPoint of the chart.) The average UK house price, excluding London, is currently £235,000. The stamp duty saving in this case is £150 or 6.4 per cent.
But there are more significant savings than this from the reforms, including in London where inflationary pressures in the housing market have been more significant. Here annual price inflation ran at close to 20 per cent in the second and third quarters of the year. Given that the average house price in London is currently £510,000, this means a Stamp Duty saving of £4,900 or 24 per cent. Of course, for premium London markets (and other similar markets elsewhere) a quite different effect could arise. The liability on a £2m property rises by 53.75 per cent. Nonetheless, for most markets it is the boost to prices that is most concerning.
In the East Midlands, which is a good barometer of the market in the rest of the country, there will be a saving of £610 or 32 per cent on the current average property purchase of £189,000. Therefore, even in markets where house price inflation is more subdued there is the potential that the changes to the Stamp Duty system will, in the short term at least, boost housing demand and fuel house price growth.
Stamp Duty/Land and Buildings Transactions Tax
Rates and allowances: Stamp Duty Land Tax Gov.UKLand and Buildings Transaction Tax Revenue Scotland
Autumn Statement: documents Gov.UK
The home owners cashing in on stamp duty reforms Telegraph, Dan Hyde (2/12/14)
Christmas comes early for estate agents after stamp duty changes Guardian, Nigel Bunyan (7/12/14)
Stamp duty: House price boom and mansion bust Telegraph, Anna White (6/12/14)
£200m house deal stampede by wealthy to beat stamp duty hike: Reforms spark one of busiest periods for estate agents in 25 years Daily Mail Online, Louise Eccles and Ruth Lythe (5/12/14)
Stamp duty changes boost housing market and push up prices Guardian, Hilary Osborne (5/12/14)
Stamp Duty revamp blow to SNP property tax reforms Scotsman, Tom Peterkin and Jane Bradley (4/12/14)
Autumn Statement: What do stamp duty changes mean? BBC News, (3/12/14)
House Price Indices: Data Tables Office for National Statistics
- What is the tax base of Stamp Duty and the Land and Buildings Transaction Tax?
- How does Stamp Duty distort choices?
- Under the old Stamp Duty system, why might a seller be reluctant to put their property on the market at £251,000?
- What is meant by the average and marginal rates of tax?
- What is meant by a progressive tax?
- What is the connection between the average rate of tax and how progressive a tax is?
- Calculate the marginal rates of tax (in percentage terms) under the old Stamp Duty system following a £1 rise which results in a property’s value moving into the next tax band (start with a £1 rise from £125,000 to £125,001).
- Using a demand-supply diagram show the effect of the Stamp Duty reforms on house prices in most UK housing markets. What characteristics of supply would make the change in price particularly large?
- Are there any housing markets where demand could fall following the introduction of the reforms to Stamp Duty? Illustrate the possible effects using a demand-supply diagram.
- How might an economist go about evaluating the Stamp Duty reforms? What factors will affect the judgement formed?
The housing market was at the heart of the 2014 Autumn Statement. Perhaps most eyecatching were the reforms to stamp duty. Stamp Duty is a tax on house purchases. Overnight we have seen the introduction of a graduated system of tax, along the lines of the income tax system – similar to the model to be adopted in Scotland from next April under the Land and Buildings Transactions Tax. For the rest of the UK, there will be five tax bands, including a zero rate band for property values up to £125,000. The total tax liability will be dependent upon the proportion of the value of the property that falls in each taxable band.
But, alongside the Stamp Duty announcement, the Autumn Statement was noteworthy for its references to new build. New build is clearly central to UK housing policy.
The Autumn Statement reaffirmed the government’s wish to see house building play a central role in easing pressures on the housing market. Over the past 40 years or more UK house prices have been characterised by considerable volatility and by a significant real increase. This can be seen clearly in the chart. Actual (nominal) house prices across the UK have grown an average rate of 10 per cent per year. Even if we strip out the effect of economy-wide inflation, we are still left with an increase of around 3.5 per cent per year. (Click here to download a PowerPoint of the chart).
The economics point to supply-side problems that mean demand pressures feed directly into house prices. The commitment to build has now seen the announcement of a new garden city near Bicester in Oxfordshire. This is set to provide 13,000 or more new homes. The government has also pledged £100 million to the Ebbsfleet Garden City project to provide the infrastructure and land remediation necessary to bring in more private-sector developers to help deliver an expected 15,000 new homes.
An interesting development in housing policy is the willingness of government to consider being more actively involved itself in house building. The development of former barracks at Northstowe in Cambridgeshire will be spearheaded by the Homes and Communities Agency which will lead on the planning and construction of up to 10,000 new homes. This signals, at least on paper, that government is prepared to think more broadly about the way in which it works with the private sector in helping to deliver new homes.
The desire to facilitate new build appears to make some economic sense. But, the politics of delivering on new homes is considerably more difficult since the prospect of new developments naturally raises considerable local concerns. Furthermore, it does not deal with fundamental questions around the existing housing market stock. In particular, how we can further increase investment in our existing housing stock, especially given the significant land constraints that face a country like the UK. As yet, the debate around how to improve what we already have has not really taken place.
Autumn Statement: documents Gov.UK
Autumn Statement: Government will build tens of thousands of new homes Independent, Nigel Morris (2/12/14)
Government could build and sell new homes on public sector land Guardian, Patrick Wintour (2/12/14)
Bicester chosen as new garden city with 13,000 homes BBC News, (2/12/14)
Nick Clegg reveals coalition plan for new garden city in Oxfordshire Guardian, (2/12/14)
State to build new homes for first time in generation Telegraph, Steven Swinford (2/12/14)
House Price Indices: Data Tables Office for National Statistics
- Explain the distinction between real and nominal house prices.
- Would you expect real house price inflation to always be less than nominal house price inflation?
- What factors are likely to affect housing demand?
- What factors are likely to affect housing supply?
- Show using a demand-supply diagram the impact of rising incomes on the demand for a particular housing market characterised by a price inelastic supply.
- Would we expect all housing markets to exhibit similar characteristics of housing demand and supply?
- What is the economic rationale for the government’s new build policy?
- What other measures could be introduced to try and alleviate the long-term pressure on real house prices?
- How might we go about assessing the affordability of housing?
- Would a policy which reduced for the stamp duty payment of most buyers help to curb inflationary pressures in the housing market? Explain your answer using a demand-supply diagram.
10 of the 17 eurozone countries have agreed to adopt a financial transactions tax (FTT), often known as a ‘Tobin tax’ after James Tobin who first proposed such a tax back in 1972. The European Commission has backed the proposal, which involves levying a tax of 0.1% on trading in bonds and shares and 0.01% on trading in derivatives.
The 10 countries, France, Germany, Austria, Belgium, Greece, Italy, Portugal, Slovakia, Slovenia and Spain, and possibly also Estonia, hope to raise billions of euros from the tax, which will apply whenever at least one of the parties to a trade is based in one of the 10 (or 11) countries.
On several occasions in the past on this site we’ve examined proposals for such a tax: see, for example: Pressure mounts for a Tobin tax (update) (Nov 2011), A ‘Robin Hood’ tax (Feb 2010), Tobin or not Tobin: the tax proposal that keeps reappearing (Dec 2009) and A Tobin tax – to be or not to be? (Aug 2009). Tobin taxes are also considered in Economics (8th ed) (section 26.3) and Economics for Business (5th ed) (section 32.4).
As we noted last year in the blog Is the time right for a Tobin tax?, the tax is designed to be too small to affect trading in shares or other financial products for purposes of long-term investment. It would, however, dampen speculative trades that take advantage of tiny potential gains from very short-term price movements. Such trades account for huge financial flows between financial institutions around the world and tend to make markets more volatile. The short-term dealers are known as high-frequency traders (HFTs) and their activities now account for the majority of trading on exchanges. Most of these trades are by computers programmed to seek out minute gains and respond in milliseconds. And whilst they add to short-term liquidity for much of the time, this liquidity can suddenly dry up if HFTs become pessimistic.
Supporters of the tax claim that it will make a major contribution to tackling the deficit problems of many eurozone countries. Critics claim that it will dampen investment and growth and divert financial business away from the participating countries. The following articles look at the arguments.
EU Commission backs 10 countries’ transaction tax plan Reuters, Jan Strupczewski (23/10/12)
EU ‘Robin Hood’ tax gets the nod fin24 (23/10/12)
European financial transaction tax moves step closer The Guardian, Larry Elliott (23/10/12)
Financial transaction tax for 10 EU states BBC News (23/10/12)
Rejecting a Robin Hood tax would be a spectacular own goal The Guardian, Max Lawson (11/10/12)
More than 50 financiers back Robin Hood Tax The Robin Hood Tax (23/10/12)
Topical Focus – Transaction Taxes Tax-News (23/10/12)
Could a transactions tax be good for capitalism? BBC News, Robert Peston (3/10/11)
A Tax to Kill High Frequency Trading Forbes, Lee Sheppard (16/10/12)
- Explain how the proposed financial transactions tax will work.
- Why would many parties to trades who are not based in one of the 10 participating countries still end up paying the tax?
- What are likely to be the advantages and disadvantages of the proposed tax?
- Is it appropriate to describe the proposed FTT as a ‘Robin Hood Tax’?
- How does a financial transactions tax differ from the UK’s stamp duty reserve tax?
- Explain why the design of the stamp duty tax has prevented the flight of capital and trading from London. Could a Tobin tax be designed in such a way?
- What are HFTs and what impact do they have on the stability and liquidity of markets?
- Would it be desirable for the FTT to ‘kill off’ HFTs?
Calls for a simplified tax and benefit system have been ongoing and many see the Coalition’s plans for a Universal Credit as a step in the right direction. However, a second suggestion set out in a report by lobbying groups is to introduce a single rate of income tax at 30%. The argument is that it will simplify the system, help lower income earners and boost growth.
As well as the introduction of a single rate of income tax, The 2020 Tax Commission’s Report also suggests an increase in the personal allowance to £10,000; scrapping National Insurance Contributions, stamp duty, inheritance tax and air passenger duty, as well as cutting fuel duty by 5p. For the typical tax payer, it may sound great – the difference between your gross and your net pay would narrow, but the wider consequences must be considered. Although a single rate of income tax would undoubtedly simplify the system, the impact on government finances must be considered. The commission predicts that overall borrowing would fall by £35bn after 15 years, but that the national deficit would increase by £49.1bn in the first year. Perhaps not an ideal solution given the current state of the national deficit!
The report does contain some radical change, but the idea of simplification is well-recognised as a necessary principle of any tax system. As the Chairman of the Commission, Allister Heath said:
It is time for Britain to make a vital choice between tweaking the status quo and letting our economy continue to be crippled by complex and punitive taxes, and drastically changing course with a radical but realistic plan for a tax system fit for the 21st century.
The 2020 Tax Commission has set out that plan and would ensure that income is taxed once at a single, much more reasonable rate. It could create the conditions to establish the UK as a global trading hub, generating renewed prosperity for all those who live and work here.
The current system is complex and many people end up paying an extremely high rate of tax, once everything has been paid. The Guardian article below gives a nice illustration. “If you earn income from shares, first corporation tax is taken out of the profits. Then you pay taxes on the dividends. Then because those profits drive up the share price you pay capital gains tax as well.” With a simpler and fairer tax system, the Commission argues that it will boost the competitiveness of the UK economy and help boost its struggling growth rate. How many, if any, of these proposals will be incorporated into the government’s plans is anybody’s guess, but it definitely presents an interesting solution and problem.
The Single Income Tax The 2020 Tax Commission (May 2012)
Why it’s time for a single income tax Guardian, Matthew Elliott (21/5/12)
Business backs income tax rate of 30% Financial Times, Martin Sandbu (21/5/12)
Calls for single 30% income tax rate BBC News (21/5/12)
Single 30% tax rate ‘essential’ for growth Sky News (21/5/12)
Osborne urged to introduce 30pc income tax for all The Telegraph, Tim Ross (20/5/12)
Tax shake-up urged to empower consumers and kickstart growth Independent, Russell Lynch (21/5/12)
The Tax Reform Britain needs Wall Street Journal, Matthew Sinclair (20/5/12)
- What are the key principles of a tax system?
- Explain why simplicity is so important when reforming a tax system. How can it affect the incentive to work?
- Would a 30% single rate of income tax be equitable?
- If the reforms set out in the report were to go ahead, what do you think would be the impact on goods and services provided by the government, such as the NHS, education, roads?
- Using indifference analysis, illustrate the effect of a cut in the basic rate of income tax. How does it affect the decision to work more or less? You should consider the income and substitution effects in your answer.
- Why does the report argue that the reforms they suggest would help boost growth?
- How might the proposals affect government finances in both the short and long term?
The housing market has long been seen as a crucial element in stimulating the British economy. For this reason various incentives had been introduced to encourage people to buy properties. (Click here for a PowerPoint of the chart.)
One such strategy was the stamp duty holiday. Stamp Duty Land Tax is paid by the purchaser of a property against a purchase price and the cost of it will rise through each price band. The stamp duty holiday meant that first-time buyers were free from the 1% stamp duty on homes that cost under £250,000. However, this holiday is due to end from March 2012, as according to the government, the holiday has been ineffective. Indeed, in the Autumn statement documents, the government said:
‘The government is publishing analysis showing that the stamp duty land tax relief for first-time buyers has been ineffective in increasing the number of first time buyers entering the market.’
The government has said that instead it will focus on other strategies that provide better value for money. Such schemes include a mortgage guarantee scheme and the FirstBuy scheme launched last year, both of which aim to help those struggling to finance the purchase of their first properties.
According to the Land Registry, property prices have fallen by over 1% over the past year, so fewer properties will face the stamp duty land tax, but this data does little to instill confidence in the housing market being the stimulus that the economy needs. By stimulating the housing market, construction jobs should be created and this in turn should create a much needed multiplier effect helping to boost other sectors within the economy. The following articles consider this latest development.
Stamp duty rush boosts January valuations Mortgage Strategy, Tessa Norman (11/2/12)
New deals for buyers as stamp duty holiday ends BBC News, Susannah Streeter (11/2/12)
Autumn Statement: Stamp duty concession to end BBC News (29/11/11)
First-time buyers boost mortgage market activity FT Adviser, Michael Trudeau (9/2/12)
When shared ownership turns sour Guardian, Rupert Jones (10/2/12)
- Why does the housing market play such a crucial role in the economy?
- What is the multiplier effect? How will new jobs in the construction industry help other sectors in the economy?
- Why has the stamp duty holiday been ‘ineffective’ in stimulating the housing market?
- How have the other schemes introduced by the government created incentives in the housing market?
- Why have January valuations improved? Use a demand and supply diagram to illustrate your explanation.