Two-and-a-half cheers for Adam Schwab. Yes, the states are “addicted to property taxes”. Yes, those taxes are “largely in the form of stamp duty.” But the revenue from stamp duty is roughly proportional to turnover, which is price times volume of sales, the latter being more volatile and therefore more of a threat to revenue. The “loss-leader” strategy — offering the buyer a grant, which is then more than recovered through stamp duty — is immediately aimed at maintaining volume: to get the grant, you have to make the market click over. While the states are indeed “addicted to the property boom”, they are more particularly addicted to turnover, which in practice means mostly volume.

It wouldn’t be so bad if the states were merely addicted to property prices, because the related revenue device — land tax — stabilises the prices on which the revenue depends. When prices rise, the holding tax rises, causing pressure to sell, which checks the price rise; and the reverse when prices fall. A sufficiently high land tax also makes it prohibitively expensive to hold land for speculative purposes without putting it to work. The auto-stabilising effect and the discouragement of speculation help to avoid bubbles and bursts.

Paradoxically, a sufficiently high land tax enriches property owners by giving the government the ability and the incentive to do things that sustainably increase land values — such as investing in infrastructure. Thus property owners get windfalls that they would not otherwise get, due to infrastructure projects that would not otherwise proceed. Their land tax bills don’t rise unless their land values do, and their land values don’t rise unless the market judges that they are better off despite of the tax implication. And all this is achieved without blowing bubbles.

Neither would it be so bad if the states were merely addicted to capital gains in the property market. Constitutionally, there is nothing to stop the states from redesigning stamp duty so that it is payable by the vendor and proportional to the real capital gain on the land since acquisition. This, too, would dampen speculative demand — by reducing the attractiveness of capital gains relative to current income, so that investors would concentrate on the latter. This would encourage the states to invest in infrastructure, because the states would get some of the resulting capital gains. This would enrich property owners, who would get the after-tax portion of the uplift in land values.

Contrast this with the present stamp duty, for which Schwab rightly says that governments “provide virtually no service in exchange”. The present duty is payable regardless of whether the buyer subsequently makes a capital gain or a capital loss, and regardless of whether government decisions contribute to that gain or loss. Thus it can turn a profit into a loss, or increase a loss. Apportioning the duty to the capital gain would prevent such injustices, and should therefore be preferred by every rational property owner. The lock-in effect would also be much reduced, because each successive sale would not create a tax liability, but merely realise a liability that has accumulated since the last sale, so that home owners who move more frequently would not proportionally increase their lifetime tax liability.

Contrary to superficial appearances, this reform would not shift the burden from the buyer to the vendor. The obvious reason is that the vendor would be compensated by the abolition of duty on any subsequent purchase. But the fundamental reason is that, in the haggling of the market, any tax on a property transfer will be shared between the buyer and the seller in inverse proportion to their bargaining power, regardless of which party nominally “pays” it to the government. But it’s easier to make the seller responsible because the seller already knows the base price on which the tax will be calculated.

It is easily shown that an increase in either the holding charge on land or the capital-gains tax on land is essential for financial stability. A simple formula for the “rational” price of land in terms of rent, interest, appreciation and tax indicates that for realistic values of the parameters, under present tax policies, land prices should be … ahem … infinite. In practice, this means land prices are limited not by the “fundamentals” of the property market, but by the capacity of buyers to service loans. When the “rational” behaviour of the land market collides with the limits of the financial market, you get a financial crisis.

But the same formula shows that P/E ratios of land can be reduced by higher holding charges or by higher taxation of capital gains relative to current income. So part of the mechanism by which these measures stabilise land prices is by bringing “rational” prices within reach of the financial system. But the associated investment in infrastructure would also extend that reach, so that property owners can be winners overall.

In the past four years I have written several submissions suggesting that stamp duty and development/infrastructure levies (and, in some versions, payroll tax as well) be replaced by a vendor duty on the capital gain — to no avail. I can understand why the idea of trading off stamp duty for higher land tax gets nowhere. While the increase in the land value confers capacity to pay more land tax, that capacity is not automatically realised as a cash flow for all owners (and let no one dare suggest that they turn their windfall into cash by borrowing against it, as they do when they want a holiday or a giant plasma TV). So the owners claim to be suffering because their assets have increased in value, and the property-industry-dominated press reports their suffering while somehow managing to keep a straight face.

No such “problem” arises with a vendor stamp duty, which is payable on a cash flow and — unlike the present duty — payable by the party who gets the cash. So, while the refusal to increase land tax can be explained by political timidity, the refusal to place stamp duty on a capital-gains base can only be explained by insolent incompetence.