Marked drop in mortgagee sales

Economic historians must often be disappointed when they look back at contemporary reaction to a seminal event. If they dig up this week’s news they will see little sense of the significance of last Sunday’s announcement of a capital gains tax. They will find a range of views on whether the tax will succeed in restraining the pace of Auckland house prices but no excitement or foreboding, nothing that reflects how deeply the idea of taxing capital gains has been demonised in New Zealand. Future generations may have no idea why this country was without an effective tax on unearned wealth for so long.

It was a peculiar bent in our politics that remains hard to explain. Taxation is a fairly simple principle: everyone has to contribute a fair share of their wealth for the services we need in common. But for reasons I could never fathom, our forefathers drew a firm distinction between wealth that came as income and wealth that accumulated as capital. I could see sense in exempting gains that would be reinvested in additional economic activity, but not the profits of rising values of rental houses or unimproved land. Yet the slightest suggestion those might be taxed was guaranteed to bring a tirade of indignant opposition that didn’t try to hide its self-interest.

It seldom offered cogent arguments. Capital was in a different book-keeping account and therefore somehow not morally taxable. That was just the way it was and any political party that toyed with the notion of taxing capital gains would deserve what was coming to it. Both major parties took the threat extremely seriously, afraid to utter the words capital gains tax. Even the fourth Labour Government that tackled several other sacred cows would not go near this one. David Lange said a capital gains tax was something you did if you wanted to consign your party to opposition for the next 20 years.

John Key did his utmost to make his announcement last Sunday less than historic. No National Prime Minister wants to be remembered for a tax. He said it wasn’t a capital gains tax, then he said it wasn’t new because we already had one. The Government was merely giving Inland Revenue a “bright line” to apply the existing tax to rental houses bought and sold within two years. The line could shine brightly in the historical record. When it starts in October it will turn a notional tax into an enforceable one. The principle is more important than the limited period of liability. Two years is probably just the beginning. This is the green light for a tax that can change the national pattern of investment for the better.

The likely benefits go far beyond helping the average Aucklander afford a house to live in, wonderful as that would be. An effective tax on rental property offers the possibility of more and cheaper capital for productive ventures. It means lower interest and exchange rates, boosting export returns, tourism and competitive domestic products and services. It is the most significant economic step the Key Government has yet taken, and probably the most significant it will take.

Much of the credit might be owed to the Reserve Bank which took its own unprecedented steps against Auckland rental housing three days earlier. The bank had given the Beehive due warning. Its Financial Stability Report last week explained that the loan to value ratio it had imposed on all residential property lending from October 2013 was effective in restraining prices, it believed, until this past summer. Over the summer the pace of price rises in Auckland broke all previous bounds of lending risk.

The bank was imposing a new 30 per cent deposit requirement on mortgages for rental residential property in Auckland from October this year. Owner-occupiers could continue to borrow on the 20 per cent deposit of the earlier loan to value rule and now they alone could comprise the 10 per cent of each bank’s home loans that could be issued on a lower deposit. It was a remarkable change of heart by the Reserve Bank. When it announced the 2013 loan to value restrictions, governor Graeme Wheeler had resisted pressure from the Prime Minister, publicly and privately, to exempt first home seekers. This time he was expressly favouring them.

He now believed that residential rental investment posed a greater risk to financial stability. If that is what finally convinced the Government to tax investment demand, it is one more blessing we’ve received from an independent central bank.

The full effects might not be felt until next summer but I’m picking the one-two punch will stun the market and the second, a capital gains tax, will be with us for good.

– NZ Herald John Roughan


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