Copyright: David Lawson – appeared Property Week Nov 1998Home page
Shock waves have pulsed through the property industry since the government raised stamp duty in the last Budget. It was the second in a few short months, effectively tripling the rate to 3%, and insiders fear another could be sprung on the industry next spring. But the Chancellor could shoot himself in both feet if he continues to rachet up taxes in the guise of harmonisation with the rest of Europe, according to research commissioned by the British Property Federation.
A 1% increase would wipe as much as 43bn pounds off the value of UK property, reducing the ability of occupiers to borrow against assets. The government also faces a price much closer to its wallet. Just when it is aiming to raise income by selling state assets, this small increase in duty could slash as much as 11bn off the value of public sector property.
It was inevitable that the property industry would would fight back after two quick-fire increases in stamp duty. Major names like British Land and Great Portland complained almost immediately that capital values had been hit by the increases and City analysts began to take pruning shears to balance sheets right across the sector. The market was buoyant at that time, however. Investment values continued to rise, blunting the attack.
Now the industry faces greater peril as the sector subsides. One of the main reasons why property shares have collapsed this year has been investors' fears that potential further increases in duty will make bricks and mortar less attractive. This time around the industry has a potent defence. Gut feeling - plus experience going back three decades - that higher taxes do not necessarily raise public income has been backed up by hard evidence. Arthur Andersen, along with David Currie and Andrew Scott at the London Business School have calculated the impact of another 1% rise in duty. They don't just come out against an increase: they say the current level is already too high.
Ironically, consultants Arthur Andersen made a major contribution to the research. This is the same firm which is understood to have produced a study for the European Commission on harmonising VAT and stamp duty across the 15 member states. The proposals to impose VAT on shares which substitute for direct property holdings would block the escape route being planned to escape UK stamp duty increases.
Special Purpose Vehicles are common in France, where each building is made an independent vehicle to avoid hefty tax rates. They have been adopted by the Swedish-owned UK investor CLS for almost 50 properties. Schroders took this off-shore route after teaming up with Pillar and SITQ, the North American investor, to pay more than 205m pounds for Fosse Park. Similar schemes are understood to be in the pipeline, as companies look at shifting portfolios into property funds based in the Channel Islands.
Three major findings come out of the study:
The BPF could not have dreamed of a better club for beating Treasury mandarins than the potential impact on smaller firms. Governments are resigned to the fact that they can never satisfy housebuilders, farmers, fishermen and the property industry. But mention small businesses and the lights come on. Andersen, Currie and Scott show that property is the key to general economic expansion because it backs between 35% and 75% of borrowing. They estimate a likely figure of around half of all loans - or around 100bn pounds.
If property values fall, risks of a credit crunch rise. 'It thereby exacerbates the risks of a severe recession,' says the report.
And that would happen with only a 1% rise in stamp duty, let alone warnings that the government wants to push rates as high as 15% to harmonise with other European nations. Ministers might argue that the tax applies only to transactions, which make up only around 8.5% of the stock. But the whole sector is valued by these deals, says the report. When transaction costs rise, the worth of the whole stock is reduced.
To add to the pain, an added tax creates more volatility in the market. This increases the premium that sellers must offer to cover higher risks, further reducing values. A 1% rise in duty would therefore gear up to cuts of between 4.6% and 7.7% in values, slashing overall figures by between 26bn and 43bn pounds..
And if property becomes less attractive, transactions will fall. 'Because higher stamp duty depresses both property values and the volume of transactions, and through both routes depresses the effective tax base on which the stamp duty is levied, it is an ineffective way of raising tax revenue,' says the study.
It estimates that pushing up the rate to 4% would produce a mere 200m pounds to set against massive reduction in capital values - including losses of between 5bn and 11bn pounds on the 110bn of public sector assets. An increase in stamp duty therefore 'makes no financial sense'.
In fact, it would make better sense to cut levels. 'A low and stable level of stamp duty is most likely to promote stability and long-term growth,' says the study.
The UK property sector might appear less tax-burdened than many other European countries and, therefore, able to withstand a move to closer harmonisation of tax rates. But this view is flawed, says the study.
The overall burden by the sector is much higher - more than 10% of GDP compared with an average of around 4% for the other 14 EC members. Some 10.5% of UK tax revenue comes from property - well over twice the EU average and exceeded only by areas like Japan and North America. One reason could be that the UK does not allow depreciation to be set against taxes.
This means harmonisation of tax rates would actually increase disparity with the rest of Europe.
European Real Estate Tax Rates (%)
stamp duty transfer tax
Austria 1 3.5
Belgium n/a 12.5
Denmark 1.2 n/a
Finland n/a 4
France n/a 15.4
Germany n/a 3
Greece charge per page 13
Ireland 6 n/a
Italy n/a 8
Luxembourg n/a 6
Netherlands n/a 6
Portugal 8 10
Spain 0.5 6
Sweden 1.5/3.0 n/a
UK 1.0/3.0 n/a