Taxing the family home

A report in The Australian today that the government is considering dropping the capital gains tax exemption on homes worth more than $2 million. Now there are lots of details missing including the important one of whether that means $2 million at purchase or $2 million at sale. It is also safe to assume that there would be mortgage interest rate deductions accompanying such a change. Put simply, if not then there can be no pretence of it being to remove a housing distortion as opposed to being some sort of luxury tax that would have distorting impacts on the rental market, etc.

So let’s suppose that it is to move to a more US-style system. It is hard to say what the impact on tax revenues will be but, apart from some crazy retrospective tax grabs, it seems to me that a move to this system will be providing a significant benefit to owners of high-end homes. Those houses face the greatest asset price volatility. So what the Government would be offering is to absorb not only part of that risk but also the risk on the loan cost side by allowing interest rate deductibility of variable interest rates. It is like one big equity sharing arrangement with the likely implication that it will push up the price of such homes as household risk is reduced. This might be one of those golden political opportunities whereby the government could claim to be slugging the rich but actually giving them a gift.

8 thoughts on “Taxing the family home”

  1. oh josh, you could not be more on the money. while i will write much more about this for Business Spectator on Monday, the Treasurer came out today and said there is not a snowball’s chance in hell of doing this (the poor old Oz has had a real tough time breaking accurate stories of late).

    journos and some academics love to complain about the CGT exempt status of owner-occupied housing, but they forget that it is the only asset-class where investors do not get the benefit of interest deductibility. so lumping CGT on housing while also allowing deductibility, which is what some tax theorists would say you should do, is likely to just be a ‘wash’. in fact, it could actually be revenue negative while incenting undesirable behaviour.

    of course, we already have a working precedent: investment property. now the same journos and academics like to complain about negative gearing. but the govt is bending over backwards to encourage more investment in rental housing–all of which currently comes from those private investors who negatively gear–given the record low rental vacancy rates.

    taxpayers have committed $500 million to subsidising rental investors further through NRAS, which has not been a great success to date (ironically, the same academic who complains about the tax treatment of housing is the one who proposed NRAS–which is just another even more distortionary subsidy).

    so it is nigh on impossible to conceive of the government actually going out there and seeking to dissuade property investors and accentuate the existing rental shortages.

    as i will explain monday, Australia’s approach to taxing owner-occupied housing (no CGT, but also no deductibility), which is more or less exactly what you see in the UK, Canada, NZ, France and Germany, may actually be a lot safer than the US system (whereby like most other asset-classes you have interest deductibility but also CGT on capital gains > $250k).

    the key problem with applying conventional tax rules to owner-occupied housing is that it encourages the use of higher levels of leverage (probably one of the reasons why our mortgage default rates are a fraction of US levels, amongst others).

    i’ve gotta say, the media coverage of Australia’s housing market has been just abysmal. the RBA Governor explicitly rules out raising interest rates to target house prices on Friday and today’s papers say he is going to do just that. this evening on the news one channel led with the story that record numbers of buyers were going to open houses today despite the spectre of higher rates. another led with the story that buyer turnout had been very low because they had been spooked about the RBA’s statements.

    and they were statements on Friday by Glenn Stevens that clearly communicated that he does not believe Australia has a housing bubble. Stevens was at pains to point out that his policy concern is the inelasticity of the supply-side and the future risks that this might pose.



  2. I don’t see why there should be interest deductions associated with a capital gains tax on owner-occupied housing. If we were to tax imputed rent from owner occupation then there should be deductions for interest. But (real) capital gains are on top of imputed rent. Unless we tax both imputed rent and capital gains, we should not allow interest deductions.
    Owners of investment properties can offset interest against rent income, but not against capital gains.


  3. Bruce – I’m not sure interest is not deductible.  Sure, it’s not taken into account when calculating the actual capital gain, but the calculated gain amount is just added to other assessable income.  From that point, any allowable deductions (including interest related) come off the total (including the capital gain).


  4. Spog: Any tax deduction reduces taxable income from any source, so in that sense you are correct. However, this doesn’t provide a rationale for the deduction.
    For rental investors the full tax package includes taxes on rental income, tax on capital gains, and offsets for interest costs. To apply the same model to owners would imply taxes on imputed rent, tax on capital gains and interest offsets. Only applying the last two does nothing to reduce the subsidy for owner-occupation.
    Interest offsets are generally less than imputed rent (ie the net imputed rent estimate in the National Accounts is positive and large). So homeowners would still be better off than rental investors (on average) if capital gains were taxed and there were no interest offsets.


  5. I read ‘dropping the capital gains tax on homes’ as the tax being dropped from a great height onto the family home 😉


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