An Analysis of Proposals For A Mansion Tax: Taxing Luxury Property

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Four years after first being proposed, details of a possible mansion tax remain surrounded by uncertainty. Liam Bailey, Knight Frank’s Global Head of residential research, says it is time to cut through the guesswork and provide some clarity on its likely impact.

http://www.knightfrank.co.uk/

What do mansions look like, and where do you find them?
As Stephen Williams MP notes on the opposite page, there are parts of the UK where a £2m property could be fairly described as a mansion. However in many areas, especially those where most £2m properties are located, they can be anything but. In the following graphic we confirm the distribution of £2m+ properties, by size, type and location.

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An Analysis of Proposals For A Mansion Tax: Taxing Luxury Property

  1. 1. residential RESEARCH TAXING HIGH VALUE HOMES AN ANALYSIS OF PROPOSALS FOR A MANSION TAX, SEPTEMBER 2013
  2. 2. AN ANALYSIS OF PROPOSALS FOR A MANSION TAX september 2013 Assessing the proposal key facts The Liberal Democrats have proposed the introduction of a mansion tax on properties worth £2m+. The tax would apply to the portion of residential value over £2m, at a rate of 1% annually. The proposal is supported by Labour, and both parties have stated their objective for the tax to raise between £1.7bn and £2bn annually. Based on an investigation into official data our conclusion is that the mansion tax, as currently proposed, will raise approximately £1.3bn annually, before exemptions. In order to raise the targeted revenue the value threshold for the tax would need to be reduced from £2m to either £1.5m (to raise £1.7bn) or £1.25m (to raise £2bn), and potentially even lower once exemptions and the cost of collection are allowed for. Reducing the threshold from £2m to £1.25m would more than double the number of properties affected from 55,000 to 140,000. The tax would be levied overwhelmingly on London and the South East of England, with 86.4% of all £2m+ properties located in those two regions. Heritage properties would be targeted, with 16% of all £2m+ properties being listed buildings compared to less than 2% of all sub-£2m properties. With a £2m threshold nearly one in ten properties defined as “mansions” would be one and two bedroom flats. If the £2m threshold were adopted and not increased in line with house price inflation, over the next 25 years a total of 775,500 properties would be dragged into the mansion tax net, including all properties with a current value of £540,000 or more. This means that some first time buyers buying through the government’s help to buy scheme (upper limit £600,000) would be paying a mansion tax before they finished their mortgage term. Four years after first being proposed, details of a possible mansion tax remain surrounded by uncertainty. Liam Bailey, Knight Frank’s Global Head of Residential Research, says it is time to cut through the guesswork and provide some clarity on its likely impact. The idea of introducing a new annual tax on high value property was first discussed in September 2009 by the Liberal Democrats. Their initial proposal was for a 0.5% annual levy on all residential property value over a threshold of £1m. It was estimated the tax would apply to around 240,000 properties, and would raise around £1bn each year. 1 In November 2009 this initial proposal was amended, so that a 1% levy would apply to the portion of a property value over £2m, which was estimated to apply to around 70,000 properties. This proposal was formalised in the 2010 Liberal Democrat Manifesto, with an estimate that it would raise around £1.71bn in tax annually. 2 In February 2012 the Labour Party announced their support for an annual 1% levy on properties worth £2m and above. The Labour Party’s objective of raising £2bn annually from the tax was confirmed in the House of Commons debate in July 2013.3 We therefore have two current proposals, one from the Liberal Democrats and one from Labour, which would tax residential property values above £2m, with the aim of raising between £1.7bn and £2bn annually. How much will the mansion tax raise? At first glance there is a fairly straightforward calculation to make in assessing the annual tax take from the mansion tax. Count all £2m+ properties in the UK, establish their average value, and calculate 1% of their combined value above the £2m threshold. After deducting costs and exempt properties you have your result. In reality, however, every part of this calculation is problematic. 1 2 Step 1: How many £2m+ residential properties are there in the UK? Our own calculations point to there being around 50,000 £2m+ properties in the UK. However, since the mansion tax was first mooted, figures of between 35,000 and 74,000 have variously been put forward by interested parties. Helpfully, we now have the official estimate. David Gauke MP confirmed in the House of Commons that “our assessment…is that there are 55,000 properties worth more than £2m in the country. We have the finest minds in the Treasury working on this… ”. 4 This same estimate was confirmed in response to a series of questions raised by Lord Oakeshott of Seagrove Bay during House of Lord’s Questions on 25 July 2013. 5 We made enquiries of HM Treasury to review the details of their calculation. While we were not permitted access to review the research, for the purposes of this note we have assumed the Treasury’s assessment to be accurate and we have adopted 55,000 as the total number of £2m+ properties in the UK. Step 2: What is the average value of a £2m+ property? There are two official sources which can provide an estimate of the average value of the 55,000 £2m+ properties. First, HM Revenue & Customs produces an annual summary of residential property transactions by price band. The most recent data for 2012 reveals that there were 3,280 sales of £2m+ properties, with a total value of £16.75bn. The average value of last year’s transactions was therefore £5.1m. 6 Second, the Land Registry publishes its own data on residential property transactions. http://www.ft.com/cms/s/0/22cb5388-a6b4-11de-bd14-00144feabdc0.html#axzz2bl5Xntq8 3 Hansard 1 July 2013, Columns 648-650 2 Liberal Democrat Manifesto 2010 Hansard 1 July 2013, Column 650 4
  3. 3. AN ANALYSIS OF PROPOSALS FOR A MANSION TAX september 2013 We have assessed their Price Paid Dataset for all £2m+ properties for the 12 months to June 2013. These 1,661 transactions have a mean value of £3.6m. There are several reasons for the differences in both average prices and sample size. The Land Registry’s Price Paid Dataset generally under-reports the number of high value residential sales. One key reason for this relates to the fact that a sizable portion of high priced houses often come with a large area of land, and this land element means the sale is not included in the strict definition of the residential Price Paid Dataset. These missing sales provide at least one explanation for the difference in average value between the HRMC and Land Registry average values. In most cases landed properties will have the value of the house, land and associated property treated as a linked transaction and will therefore be included in the above HMRC figures as an aggregate of residential and “non-residential” values. The Land Registry information removes these transactions and reports a more accurate net “residential” value. This factor points towards the Land Registry’s lower average value figure as being more appropriate for the purposes of our calculation. Before we conclude on this point it is worth noting that there is also a tendency for high value sales in London to be missing from the Land Registry’s Price Paid Dataset. For this reason we have reviewed both datasets together with additional market sources and have concluded on a figure of £4.4m as the average value for a £2m+ property in the UK, and have adopted this figure in this paper. Step 3: How many properties will be exempted? Details of potential exemptions to the tax do not appear to have been worked up by either Labour or the Liberal Democrats. However we did get an insight into Labour thinking from Chris Leslie MP, who confirmed in the House of Commons that the list of exceptions to the recently introduced Annual Tax on Enveloped Dwellings (ATED) “…may well serve as a guide as to how a mansion tax could work in future”. 7 The exemptions for the ATED are fairly wide ranging and include those properties owned 5 Hansard 25 July 2013, Column WA240 6 however, changes to the behaviour of owners could have further unforeseen consequences for overall tax take. and used by charities or social housing providers, farmhouses and some properties used by businesses to house employees. More significantly the list of exemptions includes properties rented to third parties. Will purchasers reduce their bids for £2m+ property and would prices fall? They might do, and if they did it would cause a substantial problem for the taxman. While a fall in value would be considered irritating for home owners, the structure of the tax means that a fall of say 5% in average £2m+ property values would have a disproportionate impact on tax revenue reducing the tax take by 9%. Removing exempt properties will obviously reduce the number of chargeable properties and the associated tax take, potentially significantly. Without a final list of exemptions it is an impossible task to assess the significance of this issue. Step 4: Estimating the annual receipts from a mansion tax In figure 1 we have set out our conclusions on the annual revenue generated from a mansion tax, taking into account the assumptions made above. Our conclusion is that the proposed threshold and tax rate would deliver a gross annual receipt of £1.3bn, 24% below the Liberal Democrat estimate of £1.7bn and 35% below Labour’s £2bn estimate. This represents an average annual payment of £23,595 per property. As noted above, our estimate excludes the impact of exemptions and the cost of collection, which could have a significant negative impact on revenue. There are two further issues which will have an impact on the final tax take; the behaviour of owners and purchasers. How would owners react to the tax? Would they look to split properties into multiple smaller units? The temptation for a cash poor owner of a £4m property to create two £2m units would be fairly strong. As we note below Step 5: Conclusion – how do you raise £1.7bn or £2bn annually from a mansion tax? It is clear from our investigation of official data that a £2m threshold is too high to deliver a tax take of £1.7bn, let alone £2bn. In table 1 we provide an analysis which points towards a threshold of £1.5m in order to reach the Liberal Democrats £1.7bn target, and £1.25m to reach Labour’s £2bn target. The main issues informing the above assessment include the estimate of the number of £2m+ properties and their average value. If either turn out to be too low, then obviously tax take would rise. But note that we have set out a gross position. Even if the gross tax take were to exceed £1.3bn, the impact of exemptions, valuation shifts, changes to owner behaviour and the cost of collection and valuation would be need to be accounted for and would contribute to a lower net tax take. Figure 1 Mansion tax thresholds and potential gross tax take, split by value band £2m threshold £1.5m threshold £1.25m threshold Properties Gross tax take Properties Gross tax take Properties Gross tax take (£) (£) (£) Sub-£2m - - 44,500 86,750,000 84,500 224,160,000 £2m-£3m 24,200 98,450,000 24,200 219,450,000 24,200 279,950,000 £3m-£4m 11,000 155,920,000 11,000 210,920,000 11,000 238,420,000 £4m-£5m 7,150 171,700,000 7,150 207,450,000 7,150 225,320,000 £5m-£10m 8,800 393,890,000 8,800 437,890,000 8,800 459,890,000 £10m+ 3,850 477,750,000 3,850 497,000,000 3,850 506,630,000 55,000 1,297,710,000 All 99,500 1,659,460,000 139,500 1,934,370,000 Source: night Frank Residential Research K http://www.hmrc.gov.uk/statistics/transactions/annual-transactions.pdf, Table 3 7 Hansard, 1 July 2013, Column 673 3
  4. 4. AN ANALYSIS OF PROPOSALS FOR A MANSION TAX september 2013 What do mansions look like, and where do you find them? As Stephen Williams MP notes on the opposite page, there are parts of the UK where a £2m property could be fairly described as a mansion. However in many areas, especially those where most £2m properties are located, they can be anything but. In the following graphic we confirm the distribution of £2m+ properties, by size, type and location. 4 Forecasts for £2m+ properties in 10 and 25 years time assume no indexation in the £2m threshold (see figure 6 for full analysis).
  5. 5. AN ANALYSIS OF PROPOSALS FOR A MANSION TAX september 2013 Parliamentary Constituency REGION Kensington Chelsea and Fulham Cities of London Westminster Westminster North Hampstead and Kilburn Esher and Walton Richmond Park Wimbledon Finchley and Golders Green Holborn and St. Pancras Runnymede and Weybridge Putney Beaconsfield Hornsey and Wood Green Hammersmith Tooting Windsor Battersea Poole Sevenoaks Hitchin and Harpenden Chesham and Amersham Islington South and Finsbury Oxford West and Abingdon Brentford and Isleworth Twickenham Reigate Hertsmere Chipping Barnet Altrincham and Sale West London London London London London South East London London London London South East London South East London London London South East London South West South East East of England South East London South East London London South East East of England London North West Local Authority REGION Kensington and Chelsea City of Westminster Camden Elmbridge Hammersmith and Fulham Wandsworth Barnet Richmond upon Thames Merton Haringey Windsor and Maidenhead South Bucks Runnymede Poole Sevenoaks Islington St. Albans Chiltern Kingston upon Thames Guildford Southwark Hounslow Reigate and Banstead Hertsmere Brent Trafford Waverley Ealing Oxford Lambeth London London London South East London London London London London London South East South East South East South West South East London East of England South East London South East London London South East East of England London North West South East London South East London Source: Knight Frank Residential Research Source: Knight Frank Residential Research £2M+ PROPERTIES % OF ALL UK £2M+ PROPERTIES 7,675 5,824 5,329 2,870 2,671 2,277 1,786 1,700 1,622 1,594 1,053 953 702 647 589 571 569 567 541 484 446 446 390 380 361 354 351 350 335 332 14.0% 10.6% 9.7% 5.2% 4.9% 4.1% 3.2% 3.1% 2.9% 2.9% 1.9% 1.7% 1.3% 1.2% 1.1% 1.0% 1.0% 1.0% 1.0% 0.9% 0.8% 0.8% 0.7% 0.7% 0.7% 0.6% 0.6% 0.6% 0.6% 0.6% £2M+ PROPERTIES % OF ALL UK £2M+ PROPERTIES 11,955 8,119 3,973 2,746 2,103 2,078 2,073 1,839 1,696 646 625 597 578 540 502 495 482 445 429 426 396 361 350 349 340 332 331 315 312 297 21.7% 14.8% 7.2% 5.0% 3.8% 3.8% 3.8% 3.3% 3.1% 1.2% 1.1% 1.1% 1.1% 1.0% 0.9% 0.9% 0.9% 0.8% 0.8% 0.8% 0.7% 0.7% 0.6% 0.6% 0.6% 0.6% 0.6% 0.6% 0.6% 0.5% “ he mansion tax, as T the name suggests, is a tax on mansions. If a farmhouse was of mansion proportions and was valued at more than £2m, it would fall within the scope of a mansion tax.” Stephen Williams MP 8 Hansard, 17 Apr 2013, Column 349 8 5
  6. 6. AN ANALYSIS OF PROPOSALS FOR A MANSION TAX september 2013 Taxing issues The debate around the mansion tax over the past four years often seems to have generated more heat than light. This is unfortunate, as the proposal raises key practical questions which are in need of an analytical approach. The following briefing has been designed to fill the knowledge gap. Why a mansion tax? “ ithout indexation, all W houses currently worth more than £539,000 would be paying a mansion tax 25 years from now, meaning that rather than covering 55,000 properties, the tax would extend to cover around 775,500 properties by 2038.” There is a view in some political circles that owners of expensive houses have been underpaying their fair share of taxes. As Nick Clegg said in a radio interview in February this year “the underlying issue which could not be ducked was that properties worth tens of millions of pounds were paying the same council tax as ordinary family homes”. 9 potentially be directed at affordable or intermediary housing investment. The fact that London in particular will be the main target for the tax, with five local authorities (Kensington Chelsea, Westminster, Camden, Hammersmith Fulham and Wandsworth) contributing well over half of all potential proceeds, highlights the growing trend for Londoners to contribute more in tax than is returned in local spending, an issue raised by the So why not reform council tax? London Finance Commission. 10 If a tax is thought to be flawed it might be better to fix it rather than create a new tax. However, one argument in favour of Will a mansion tax be extended? the mansion tax is that a reform of Our calculations earlier in this report, point to the council tax is too complex and too the real threat of the mansion tax threshold expensive. This seems surprising, bearing being lowered substantially in order to meet in mind the Welsh Assembly completed stated revenue targets. the same exercise in 2005 by adding a new council tax “band I” for higher value property owners in Wales. A detailed reading of recent commentary suggests that the real problem with a reform of council tax is that increased revenue will flow to local government, whereas proponents of the mansion tax are looking to raise revenue centrally. Even if the threshold is not lowered, there is another route for the extension of the tax. Bearing in mind the proposed threshold has remained at £2m since 2009 (since when the UK has seen close to 10% price growth) it seems a fair assumption that the threshold would not be raised in line with future house price inflation. Over the past 10 years house prices have Wouldn’t a local tax be better? risen by 69%. Assuming a similar rate of growth in the future, all houses worth more than £1,185,000 today would be paying a mansion tax 10 years from now, meaning that The fact that higher-valued properties are illustrates, over the next 25 years, the same properties) points to a strong argument time frame as a new mortgage term, the for a local solution. Local authorities in total number of properties covered by the these areas have made the point that it is mansion tax would rise to 775,500 – being precisely these regions where housing all properties currently valued at or above affordability is most stretched where £540,000. Once you understand this process additional council tax revenue could 9 triple from 55,000 to 157,300. As figure 6 South East of England (86.4% of all £2m+ 6 the number of homes covered would nearly so concentrated in London and the you begin to see the tax’s political appeal. http://www.bbc.co.uk/news/uk-politics-21523314 10 http://www.london.gov.uk/sites/default/files/Raising%20the%20capital_0.pdf
  7. 7. AN ANALYSIS OF PROPOSALS FOR A MANSION TAX september 2013 Will the UK’s built heritage suffer? We mentioned earlier that some owners High value properties are disproportionally likely to be listed by English Heritage, suggesting that they are more likely to form There is a potentially larger group of part of the UK’s built heritage. Figure 5 conservatory, a swimming pool or a garden confirms that, while at most around 1% to makeover risks adding significant value to a 2% of sub-£2m residential properties in the property – it would also add to the owner’s UK are listed, the figure rises rapidly to more mansion tax liability. might be persuaded to divide properties into smaller units to reduce their liability. than 31% of all £10m+ properties. Overall 16% of £2m+ properties are listed. The imposition of an average annual tax charge of £23,595 sits awkwardly with the obligation for owners of listed buildings to maintain and protect their properties for future generations to enjoy. Exempting all listed buildings would reduce the potential tax take by nearly a quarter to around owners who might decide to put their home improvements on hold. If an extension, a Calculating the impact of deferred improvements on lost income taxes, VAT payments and more broadly weaker economic activity from reduced demand for builders, architects, pool installation and maintenance companies, garden supply firms etc – would be a challenge but would be necessary to give a true “net” position on the total tax take. £0.98bn. Will the economy and tax revenues suffer from a lack of home improvements? What to do with “cash-poor but equity-rich owners”? The unusual nature of the proposed mansion tax means that there is no transaction revenue or income stream to Figure 5 tax. This creates a problem for people with Listed buildings by price band % of all residential properties listed Grade II or above On the face of it this is a neat solution. However, depending on the structure of the provision it could create a significant increase in overall tax charge. Assuming an interest rate of 5%, you only need to defer payment 20 years and the final tax charge would be 65% higher than for those able to pay annually. Is the mansion tax fair? Rather than adding more words to the thousands already written on the fairness or otherwise of a mansion tax, we thought we would end by considering the “lifetime” tax position for a purchaser who is fortunate enough to be able to buy a £3m family home from earned income. Income tax and NI paid on the £3,000,000 of net income required to buy the property £2,660,000 Stamp duty paid on the purchase (7% on £3,000,000) £210,000 Annual mansion tax for 35 years (1% on £1,000,000) £350,000 Inheritance tax on sale £1,070,000 proceeds (40% on £2,675,000) Total tax take on lifetime ownership of £3,000,000 property £4,290,000 low incomes who own valuable properties. Not wanting to promote forced evictions, the Liberal Democrat response has been to 35% suggest that older owners would be able to 30% paid from their estate when they die. 11 roll-up the annual tax, which would then be 25% Figure 6 20% When does your home become a “mansion”? The impact of “fiscal drag” on the number of properties affected by a mansion tax 31.4% 15% 24.5% 10% 15.5% 5% Introduction year All £2m+ £10m+ £5m-£10m £2m-£5m Source: night Frank Residential Research, K English Heritage 11 Current value of properties caught by a static £2m threshold Number of properties caught by a static £2m threshold 55,000 0% £2,000,000 5 years 1.9% Sub £2m 0% 12.1% Number of years Cumulative house following the introduction price growth* of the mansion tax 30% £1,540,000 95,200 10 years 69% £1,185,000 157,300 15 years 120% £910,000 240,900 20 years 185% £700,000 419,200 25 years 271% £540,000 775,500 Source: night Frank Residential Research, Land Registry, HMRC, Nationwide K *Assuming the same level of future growth as seen over the past 25 years. http://www.independent.co.uk/news/uk/politics/nick-clegg-suggests-retirees-could-defer-mansion-tax-payments-8503896.html 7
  8. 8. residential RESEARCH Recent market-leading research publications Global Development Insight 2013 Residential Research Liam Bailey Global Head of Residential Research T +44 20 7861 5133 liam.bailey@knightfrank.com PRESS OFFICE John Williams Head of PR T +44 20 7861 1738 john.williams@knightfrank.com GLOBAL BRIEFING For the latest news, views and analysis on the world of prime property, visit KnightFrankblog.com/global-briefing Crossrail Report 2013 Housebuilding Report 2013 Asia Pacific Residential Review July 2013 The Wealth Report 2013 Prime Central London Sales Index July 2013 Prime Central London Rental Index July 2013 House Price Sentiment Index (HPSI) Aug 13 Knight Frank Research Reports are available at www.KnightFrank.com/research Knight Frank Residential Research provides strategic advice, consultancy services and forecasting to a wide range of clients worldwide including developers, investors, funding organisations, corporate institutions and the public sector. All our clients recognise the need for expert independent advice customised to their specific needs. © Knight Frank LLP 2013 This report is published for general information only and not to be relied upon in any way. Although high standards have been used in the preparation of the information, analysis, views and projections presented in this report, no responsibility or liability whatsoever can be accepted by Knight Frank LLP for any loss or damage resultant from any use of, reliance on or reference to the contents of this document. As a general report, this material does not necessarily represent the view of Knight Frank LLP in relation to particular properties or projects. Reproduction of this report in whole or in part is not allowed without prior written approval of Knight Frank LLP to the form and content within which it appears. Knight Frank LLP is a limited liability partnership registered in England with registered number OC305934. Our registered office is 55 Baker Street, London, W1U 8AN, where you may look at a list of members’ names.

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