The government’s recent housing package may work; will it do enough?
Trick Question: Does New Zealand have a capital gains tax on housing?
If you ask the Prime Minister she will say not. It is true that her government is increasing the scope of the ‘bright-line test’ on non-family homes to ten years. That means that any financial gain made on the sale of the property within the specified period is treated as income and can be taxed. The Prime Minister promised her Labour government would not introduce a capital gains tax so this change cannot be one, can it?
The Leader of the Opposition would have to agree. A bright-line test was first introduced by a National Government of which she was a member. National would never introduce a capital gains tax would it?
Harder Question: Should the Government subsidise investing in capital gains when there is not a capital gains tax?
You may not see the logic of such a subsidy, even though there was/is one. Purchase a house for tax-free capital gains, borrow to maximise the leverage, let it out to cover the cost of holding it, and you were allowed to deduct the costs of interest against your net income from the rent. The government is changing that.
Is that not going to put up rents to tenants? If it does then the deduction is really a subsidy to those leasing. If so, it is a funny subsidy because it only applies where the landlord has borrowed. Someone in a house whose landlord has not borrowed gets no such ‘subsidy’ from the government.
There are a group of landlords who say this argument does not apply to them. They are not there for the capital gain – that will be reaped after they die. They have invested in housing to get a better return than putting money in the bank; the new tax regime will cut back their return. True, if they have supplemented their purchase with borrowing, which would happen if they do not have enough to buy the dwelling they want to rent without borrowing. Is that fair? Perhaps if they agreed instead to pay a capital gains tax out of their estate, that would be even fairer. Ooops.
(Leverage investing – borrowing to supplement the capital – is risky. It was central in the destruction caused by the 1929, 1987 and 2008 finance crashes and the 2008 US housing crash.)
In effect, the new tax range is a hike in borrower’s interest rates on second houses. The difference is the additional costs go to the government (which may or may not use the funds to build more houses or subsidise renters and first home purchasers). If the hike came from higher market interest rates, then investors would get more from their bank. Hmmm.
Will the withdrawal of the subsidy result in higher rents and by how much? Who knows? But better to deal with this by increasing the rental subsidy for housing rather than the erratic impact of allowing interest to be taxed as a cost against income. (The government is threatening rent controls; at best they work temporarily.)
Actually it looks as though it would be more rational to have a capital gains tax on non-family housing. Wash your mouth out, Easton! There are lots of accountants and lawyers beaming at their fees for advice under this new regime.
The background is that there are two processes driving rising housing prices. One is the shortage of housing; the other is a speculative (Minsky) boom. The government package included measures to increase the supply of housing, but that will take time.
However, the main thrust of the package is to make the speculation less attractive, which will dampen the house prices for a while. We don’t know for how long; they may stagnate or fall briefly. But under current circumstances, assuming there are not massive increases in the stock of housing, the boom is likely to return some time in the future.
That is because householders have funds to invest. New Zealanders have a penchant for investing in housing, Where else are they going to invest?
No doubt many will get into collectables and cryptocurrencies. You do not make a capital gain out of bitcoin and the like until you sell – in effect your capital gain is the purchaser’s capital loss. Collectables are similar but if they are tangible you may enjoy the pleasure of possessing them. (There will also be some very risky schemes and even scams.)
The other big opportunity might be in shares. At least the company being invested in makes profits (one hopes) higher than the return on bonds or bank deposits. Most New Zealanders do not have much experience investing in shares. Recall how quickly they gave up their shares during the Rogernomic privatisations; the intention was to get people into the habit of share market investment. Perhaps this time more will learn.
There is an interesting possibility here. Allow me to speculate (with ideas rather than money). The Reserve Bank is requiring the trading banks to increase their capital in order to make them more robust to financial shocks. (Some argue that is not necessary, but the decision has been made and relitigation is unlikely to change the decision markedly.)
Where are the additional capital reserves to come from? Ultimately it is the public. For example, suppose the (usually) Australian owner was to set up a separate New Zealand bank which it listed on the sharemarket while holding the majority of the shares. The minority would be sold to the public and, presumably, (most of) the funds would be used to add to the bank’s capital – thereby meeting the RBNZ requirement. (There have been suggestions that Westpac – our third biggest trading bank – may do something like this.)
Would enough New Zealanders stump up the cash? Again one says ‘who knows?’, but investing in a bank is likely to be more profitable than a fixed interest deposit in it, although the shares will be riskier. It is probably not as profitable as investing in a housing bubble before it pops. (Mind you, given the recent changes to the bright-line tax and income tax rules, investing in housing will not be as attractive as it has been recently.) The advantage of the share investment is that management is not nearly as troublesome as being a landlord.
In summary then, the recent package will increase the stock of housing, but probably not by as much as needed – in the short term anyway. It will reduce the return of investing in housing, but we cannot be sure by how much, nor of all the consequences. However, the overinvestment in speculative housing is unlikely to go away in the long-run until new investment opportunities are taken up. One possibility would be investing in trading bank shares where they use the cash to increase their capital reserves,
If you are more certain about the future course of the investment market, you have not been following closely enough, Yet, if you have funds to invest, or already have them invested in the housing market, you are going to have to make decisions. Best of luck.
Note the column was discussed with Brian Crump on Nights 6 April, 2021