Land Value Taxation campaigning pitfalls

Thursday, 04 September 2008 05:57
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The Campaign holds to the concept of Land Value Taxation as proposed by Henry George in Progress and Poverty. This is not out of quasi-religious reverence for the words of a great prophet. It is simply that deviation from that concept will lead to failure. At one time, most LVT supporters were familiar with the underlying theory. This seems to be less the case now. Material has been, and continues to be published, based on a poorly understood grasp of what LVT involves and what its implications are. The main effect is to make it more difficult to campaign effectively, especially since opponents operate by spreading fear, uncertainty and doubt. It does not help, either, to claim support from prominent individuals who also do not grasp the idea. When anyone says, for example, that they are in favour of LVT “as part of a package of taxes”, one can be certain they their understanding is shaky, that they are not reliable supporters, and that in office, they would allow through legislation that was so flawed as to set back the cause for LVT by decades. This was the effect of both the pre-World War 1 legislation and the 1931 Finance Act provision for LVT. Campaigning for LVT requires that those involved in this work are fully conversant with the theory. Classes such as this on-line course are available, there are these evening classes, which offer plenty of opportunity for discussion, and the Henry George Foundation has a programme of meetings and courses in London. The HGF activities are a useful opportunity to meet, talk, and keep our ideas fresh.

The Campaign argues for an annual ad valorem tax on the annual rental value of land, based on its optimum permitted use. The valuation is a market valuation and excludes buildings and any other development. All land is subject to the tax, including vacant sites and agricultural land.

This is a simple modification of the British rating system as it applied until the introduction of the Community Charge (Poll Tax) in 1989/90, and still applies for business premises. At present, the valuations for the business rate are carried out by the Valuation Office Agency (VOA) which measures the values of the land and buildings separately and adds the two figures together. (This was stated by VOA representatives at a meeting held at the RTPI around the year 2000) The usual deviation from the original concept is to use capital value assessment – the selling prices of land. This makes it more difficult to get the tax adopted, and sows the seeds of its eventual watering-down and abolition. It is the first and biggest mistake that LVT advocates make and is the reason why the proposals for LVT get watered down and compromised from the very outset.

The usual arguments are that people do not understand rental values and that they are too difficult to measure. A more sophisticated argument is that people do not rent bare sites. The first of these might be valid in a situation where there was not a free rental market, or if there was little property being rented. But this has not been the case for many years in the UK, where business premises have always been rented and the market in residential rented property operates freely. There is no shortage of rental evidence. The usual way to extract the land value is to de-capitalise the value of the buildings and deduct from the total. This is known as the residual method of valuation. It is used in conjunction with evidence from land sales; “smoothing” and other standard valuation techniques are used to establish a self-consistent set of values. This is a straightforward matter especially given the state of modern information technology using geographical information systems.

The first valuation will be the most difficult, but absolute values are not required. What is important is that the values are in an accurate relation to each other, both nationally and locally. The process will be iterative, beginning with the establishment of “landmark” valuations for key sites. Indeed, it would be possible to conduct the initial valuation only by publishing key valuations and using self-valuation for the rest, to create a provisional valuation list; it has even been proposed that owners carry out their valuations on the condition that the sites would be subject to purchase on a figure based on those valuations, which would discourage deliberate under-valuation of their own sites to attempt to foil and discredit the system. Since the vast majority of sites consist of small plots of land identical with all the others in an urban street context, the number of “difficult” sites is, it has been suggested, less than 10% of the total.

The problem with capital values stems from the fact that they are derivative. The purchase of land is the purchase of an income stream – its rental value. Rental values are fairly stable, though of course subject to long term trends. The relationship between the rental values and capital values depends in the first instance on interest rates, which of course are variable over time and extremely difficult to forecast reliably. But to this capitalisation of income must be added a second factor, the expectation of future higher income. A third factor then comes into play – expectations of rises in capital values. There are further speculative factors too. There are expectations of inflation (debasement of the currency) and the prospects of changes in planning allocations to permit “higher” land use? All these factors piled on top of each other encourage borrowing and lending for land purchase, on the security of land prices already pumped up by expectations. The easy availability of finance further pushes up land values. The borrowing/lending cycle grows at an accelerating pace into a classic bubble, to the point that actual rental incomes are far short of the cost of servicing the debt, which people have taken on in the hope of unending growth. When the rental income from a property purchase is far less than could be earned in interest by putting the money in a bank account, the bubble is due to burst.

These cycles have proved deadly for land value taxation based on capital values, as people find themselves paying tax on artificially inflated assessed values that could never be realised in the aggregate. They feel, quite rightly, that it is unfair to be expected to pay a tax on such values. This was one reason for the downfall of the Danish land value tax and the Swedish property tax (which was a composite value tax).

With capital value assessment, all this hope value has to be stripped out. In addition, problems over valuation arise when trying to establish what the value of an underdeveloped site would be. With annual rental value assessment, there is no question. It is the use for which full planning consent has actually been given. With capital values, the valuer must somehow calculate what proportion of the price would be due to expectations of a planning consent for change of use. All sorts of formulae have been devised such as “fullest and best use”. Then comes the argument over speculations about what the planners might permit under their zoning regulations. With annual rental value assessment, these are irrelevant. The assessment is the optimum economic use achievable within the actual planning consent. If a factory owner knocks down a building voluntarily, the tax liability is on an assessed site value use assuming the factory was still in place. Agricultural land in green belt land where there was speculation over possible re-zoning would continue to be liable for site value tax on the basis of agricultural use value until the consent had actually been granted. In this way, no-one is expected to pay a value that cannot be realised. Failure to appreciate this point is one reason why LVT is criticised as unfair. The unfairness is inherent in capital value assessment. If a farmer decides to leave a field to grow thistles, that is his decision, since by leasing out that field for grazing, the tax liability can be met.

Once the speculative froth values have been deducted from these capital values, yet a further adjustment has to be made, to discount the effect of the existing taxes levied on land and buildings, which in reality depress the capital values. This adjustment requires that the capitalised value of current taxes on land plus developments must be added on to the land values as measured, in order to determine what the true capital values would be in the absence of these existing annual taxes. Given that it is possible to convert annual value to capital value in this way for this purpose, it is equally obvious that the reverse calculation may be applied to convert capital values to annual values. This makes nonsense of the claim that annual rental value is “too difficult”.

One of the practical problems of capital value assessment is that the values are subject to strong cyclic variation. If a valuation for LVT purposes had taken place, beginning at the start of 2007, the subsequent collapsing prices would have made the valuers’ task almost impossible. On the other hand, rentals have hardly changed since then and there would have been no difficulty in establishing a reliable data set.

Because of the problems that capital value assessments give rise to, the tax then needs to be watered down to alleviated the problems caused. Homestead allowances, for instance, are an example of this unnecessary watering down of the concept of LVT before it has even been given a proper airing. The notion, which, to judge by its title, seems to have come from the USA, is that LVT would be too high for pensioners and poor people who live in houses which have become much more valuable than they were when they were first purchased. This problem is indeed one that is greatly aggravated by capital value assessments. On the other hand, with annual rental value assessments, the effect of the house price bubble is irrelevant. People are being asked to pay a tax based on current use value only, not on some hypothetical bubble price. Where the problem is low pensions, then the obvious answer is to tackle the problem directly and put pensions up, which apart from anything else, is good politics.

Dual rate taxes are a further unnecessary compromise, again of USA origin. Since all taxes come ultimately out of land value, to levy the charge on a value that includes buildings and other developments is to penalise owners of sites with buildings in comparison with owners of vacant and underdeveloped land. The ultimate in misguidedness was a comment in the Lyons Report on Local Taxation published in 2007, when the author said that whilst land value taxation was a good idea, it was an even better one to widen the tax base by including buildings! Again, dual rate taxes open the way to levying the same amount on both land and buildings, and in any case, what is the point, when the same amount can be raised by levying a higher rate of LVT, which in practice means that owners of developed sites pay slightly less than when taxes are charged on the composite value of land + buildings

To conclude. If you are campaigning for LVT - make sure you fully understand the theory and hold fast to the original concept of the tax as a direct charge on the economic rent of land, with no exceptions or concessions.
 

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