• Wed
  • Dec 24, 2014
  • Updated: 11:29pm
PUBLISHED : Thursday, 15 August, 2013, 12:00am
UPDATED : Thursday, 15 August, 2013, 3:31am

Hong Kong government must change the way it taxes property

The lump-sum land-premium system should be replaced with a scheme whereby rental income is collected from leaseholders

In his budget speech earlier this year, Financial Secretary John Tsang Chun-wah painted a grim picture of Hong Kong's economic future, and of the outlook for the government's finances.

"With an increase in the number of the elderly, a shrinking working population, reduction in the number of taxpayers and decelerated economic growth, I expect that the growth of government revenue will drop substantially if our tax regime remains unchanged," he warned.

"Meanwhile, expenditure on welfare and health care will soar. We may not be able to make ends meet."

The government should [be] collecting revenue over the whole lifetime of property projects

Tsang quickly ruled out plugging the gap by drawing down the government's accumulated reserves, which if you include the exchange fund's accumulated surplus and the sums squirrelled away in accounts like the lotteries fund, now amount to some HK$1.5 trillion.

"Recurrent expenditure must be funded by sustainable revenue," Tsang declared, saying he would set up a committee "to explore ways to make more comprehensive planning for our public finances".

Many observers concluded that Tsang was paving the way for another government attempt to impose a goods and services tax on the city.

But there are far better ways to retool Hong Kong's revenue regime to meet the demands of future health and welfare spending than hitting the population with a tax that it has already been rejected once before.

One obvious way would be to change the way the government raises money from Hong Kong's property market.

Last year, the government raised HK$85 billion, a fifth of its total revenues, from property sales and land premium payments, the fees developers pay for a change in land use.

Yet, although these are major income sources, the government is reluctant to use the money, classifying it as capital revenue, and insisting it can only be spent on capital projects.

That might have been a sensible attitude in the 1970s, when Hong Kong badly needed infrastructure investment.

But these days the artificial distinction between recurring and capital revenues looks out of date, leading the government to lock away vast sums of public money while prompting officials to waste a fortune on gold-plated construction projects like the Zhuhai bridge, for which there is little, if any, demand.

Instead of booking its land revenues as capital income - which it then fritters away on wasteful investments that will never generate a positive economic return - the government should move away from demanding up-front lump sums from developers and towards collecting steady revenue streams over the whole lifetime of property projects.

There are several ways it could do this. One suggestion is for the government to turn to a property value tax, which would be set as a percentage of current market value, to be paid annually by property owners. In effect this would mean raising existing property rates from their current 5 per cent of annual rental value to, say, 20 per cent.

That would provide a steady income stream, and with the gain in recurring revenues offset by lower land premiums, it would encourage Hong Kong's property barons to develop more of their land banks.

But there are disadvantages to the idea. Firstly, replacing a hidden tax on householders, which is what land premiums amount to, with a visible tax in the form of higher rates would be highly unpopular, even if there was no net change in government revenues.

What's more, the government would be able to change the tax rate arbitrarily, which would discourage private investment. And any investments that increased nearby land values, like a new MTR rail line, would penalise existing owners who chose not to cash in.

A better solution would be the one outlined by governance watchdog David Webb, who three years ago called for the government to abandon lump-sum land-premium payments in favour of collecting regular rental income from leaseholders.

With the terms fixed in advance, annual rents would not be subject to arbitrary change (although they would still be linked to rateable values).

In addition, by lowering the barriers to entry in the real estate market, switching from premium payments to regular rents would increase competition among developers and, consequently, reduce home prices.

Above all, by emphasising rents over up-front lump-sum payments, officials would no longer be sucking money out of Hong Kong's economy either to lock it away as unneeded capital reserves or to waste it on unnecessary building projects.

Instead, the government would secure a steady revenue stream which is largely immune to swings in the economic cycle; just what it needs to fund the future welfare obligations John Tsang is so worried about.



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This article is now closed to comments

Yes, that is a very sensible proposal. Another added benefit would be that it would grant to the government more actual control over land supply. This, because it would no longer be economically feasible for developers to leave plots lying idle for long times until they they see the right, profitable time has come to develop them.

I am sure the government has got this proposal somewhere in a filing cabinet marked 'Very Sensible Proposals - DO NOT TOUCH.' At best, you can hope that they will dig it out, convene some panel to study it (sorry, I meant- 'shape a consensus'), and then put it back into that cabinet after three years, mumbling something about 'opposition from certain commercial constituencies.'
(1) You are missing the point entirely. The goal is not to "ensure developers would fairly pass the entire cost reduction to lease holders", but (among other things) to increase land supply by eliminating absurdities such as developers hoarding farmland in the New Territories while 100,000s rot in cubicles and cages.
(2) So what? The government needs to be financed, and maintenance needs to be paid for. The question is how to do this in a way that is fair and efficient.
(3) The fact that all sorts of reasonable reforms are not happening is an indictment of the political system, not an excuse to continue doing nothing.
Pursuing policies which relegate vast tracts of land to inefficient uses is not "prudent", it is wasteful.
I am agreeing with Tom Holland's observation that land premium revenue no longer requires complete segregation from funding recurring expenditure. My argument is that he and others should focus their efforts on lower-hanging fruit: convincing government to spend some of the revenue earned from land premiums on current expenditures. The cash is on hand and can be quickly disbursed as annuities that resemble future cash flows from alternative tax policies -- an intermediate step, if you like. Without prejudice to your own argument, the kind of policy changes he and you are recommending aren't likely to come quickly or easily. Is it worth delaying expenditures on, say, getting people out of cage homes while the tax policy issues are being haggled over?
Your points 2 and 3 are unquestionable.
But I’d doubt if LVT as proposed is an effective means
to resolve subdivided dwelling and NT land hoarding
If developers aren’t to deduct total land premium from retail pricing
in effect individual property owners would be paying >100% land premium
We may first discuss the limits of public responsibilities
A formerly well-off person living in HK Island has become poor
or a Shenzhen family just granted an one-way permit
now faces the choice of relocation to a rental NT village house or
squeezing the family into a cubicle in HKI
Even if LVT could help the immigrant’s acquisition of a residential unit in NT
or the impoverished family to stay in HKI
would it be fair that the middle class thus has to pay >100% land premium?
Never a fundamental believer in market arbitration
I’d nevertheless wonder if we should defy the realities
of comparative advantage and division of labor
To what extent may policy (politics) intervene demographic mobility?
In metro planning, should HK be treated like West Berlin?
How many more poor families could be squeezed into the NT?
In fact, it may not take too long
for checkpoint Lo Wu to go the way of Charlie
Most metro governments regulate living conditions
But I’d wonder if any would attempt
reallocation of property ownership
by way of raising effective land premium on the middle class
Start from first principles: an increase in the quantity land (or any other economic input) to the economy increases the income and welfare of society taken as a whole.
Let me make sure I understand your concern. Is it: how do we know developers will lower prices under the new regime, rather than capturing all this value for themselves? Because 1) LVT increases the carrying cost of land, so market prices will go down, and 2) more importantly, elimination of conversion premia will increase (prospective) supply, bringing property prices down.
Your (1) and (2) points may be reasonable arguments
on the basis of ceteris paribus
I do appreciate the theoretical “benefits” of LVT
and have no personal interest to oppose it
My doubts concern its realistic practicability
Like you I’m unhappy about land hording in the NT and cage living
For arguments outlined in my previous comments
I tried to explain why I think LVT may be neither necessary
nor most effective as a resolution
Thank you for your patient explanations
If the LVT proposal get support to move forward
maybe I could learn more about it then for more detailed discussion.
I'm afraid I have to agree we are unlikely to get an LVT-based overhaul of the premia system any time soon. The good news is there is a big free lunch out there in the form of underutilized land holdings. Even a messy political compromise could potentially make a lot of people better off.
The government must change the ways it’s doing a lot of things
But your proposed "necessary" change in property tax is nebulous
unpractical and impracticable
(1) “to abandon lump-sum land-premium payments” and
to impose “regular rental income from leaseholders”?
How to ensure that in pricing developments
developers would fairly pass
the entire cost reduction to lease holders?
(2) HK property’s current holding cost
expressed as Property Tax less Rate
plus G rent and management
already amounts to 20% of rateable value
(3) For all sorts of unreasonable reasons in HK
even something simple and widely in practice elsewhere like land registration
can’t seem likely to replace conveyancing in foreseeable future
The vague talk of a new property tax system
whether you like it or not
is like mid summer night’s dream
some irrelevant pastime
under the greenwood tree
Come hither, come hither, come hither,
Heere shall he see no enemie,
But Winter and rough Weather
I agree with JT’s economic outlook
and the need for prudence
Letting property buyers pay land cost to government by using a means like a mortgage is reasonable if it is a fix installment on a long term (30 years). However, the scheme comes a bit late. If implemented, government revenue will be drastically reduced – it will get only 1/30 for the first year. If the government can’t live with the shortfall (I believe it can with its trillion reserve), it has to increase the number of buyers by 30 fold. In other word, Hong Kong must hop on back to property development as a means for government revenue.
I still think it is a good idea. Let the reserve works its way into the scheme without depending on more buyers hence more property development to generate revenue shortfall. I see this as a workable correction of how property tax is collected.
Don't get bogged down in the politics of taxation. Stick with the core observation that the government's treatment of land premiums (accounting merely being another form of policy) causes a liability mismatch and introduces moral hazard. Since price is the present value of future cash flows, it is conceptually trivial to work backward and distribute those revenues as recurring annuities. The rub is, as always, in the willingness to do so.




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