Widespread concerns about unequal wealth accumulation and growing government expenditure obligations have led many to call for increased taxation of personal wealth. Some see wealth tax reform as a means of funding essential government services, at the same time as supporting equality of opportunity through wealth redistribution. However, when implemented in the past, certain wealth taxes have proven to be inefficient, distortive and inequitable and have consequently become less popular. Given this history, a hasty and illconsidered revival of old wealth taxation policies could do more harm than good. The essay below sets out points that are beneficial to bear in mind when determining whether a wealth tax warrants further consideration, based on a particular country’s fiscal and social circumstances.
Wealth tax — a brief background
Any worthwhile decision on tax reform needs to be informed by the current context, bearing in mind the challenges of current global fiscal policy. Wealth taxes may directly address the general issues of imbalances in wealth accumulation, and specifically the issues of wealth accumulation through real property (arising in part out of population growth), and rising health and welfare expenditure. However, not all kinds of wealth taxation can address these problems totally or even partially.
The term ‘wealth tax’ could actually be applied to several different types of taxes, all of which are conceptually distinct. Taxes on land, capital gains, inheritance, and lifetime gift receipts each address certain elements of wealth, while ‘net wealth taxes’ are explicitly designed to be levied on total taxpayer wealth.
While net wealth taxation may at first seem to be a logical, broadbased means of taxing wealth, it has historically been only a minor contributor to revenue.
Considering the wealth tax alternatives
While net wealth taxation may at first seem to be a logical, broad-based means of taxing wealth, it has historically been only a minor contributor to revenue, and has created neutrality, efficiency and equity issues when implemented in OECD member countries. This is principally because net wealth taxes take no account of any return on wealth (i.e. they are akin to taxes on a notional or fixed return on wealth). So, asset-rich/cash-poor taxpayers earning little or no income on their wealth are treated in the same way as taxpayers who earn large returns on their wealth. Furthermore, it is hard for net wealth taxes to allow for circumstances where assets decline in value. As a result, there has been a global ‘retreat’ from wealth taxation among policymakers, which the OECD set out in the paper The Role and Design of Net Wealth Taxes in the OECD (2018). Whereas 12 OECD countries had net wealth taxes in place in 1990, this number dropped to three in 2018. As such, in many cases, net wealth taxation has generally been experienced as too economically burdensome compared to the revenue that it raises.
Net wealth taxes have also created a cottage industry out of tax avoidance involving both domestic and offshore tax planning, partly due to the complexity of wealth tax laws. This can exacerbate the effects of capital flight for the jurisdiction imposing wealth taxes, which ultimately undermines economic growth (i.e. by taxing wealth, governments chase wealth away, and ultimately end up with less wealth to tax and less revenue generating economic activity).
An alternative approach to taxing wealth is implementing a lifetime gift tax, which is sometimes seen as preferable to an inheritance tax. However, taxes of this kind are often highly unpopular politically, and plagued by issues around how difficult it is to define a gift, and how to apply workable compliance measures.
In contrast, real property taxes have proven to be a relatively efficient means of taxing wealth as they have a lower negative impact on long-term economic growth when compared to other wealth taxes. Taxation on real property also tends to redistribute wealth from older, wealthier, property owners to younger people, while raising additional revenue needed to fund recurrent government expenditure. Real property taxes are also not as susceptible to avoidance strategies and capital flight, as the property is immovable. Investigating the optimum scope of real property taxes may therefore represent a sensible starting point for an analysis of possible wealth taxation policy changes.
Mitigating property tax downsides
Real property taxes may have a particular impact on cash-poor, older property owners who have high-value property because they have owned property for decades. Therefore, any good property tax should be designed to minimize the particular burden on such property owners. We believe a ‘reverse mortgage’ system can be effective in this regard, whereby cash-poor property owners could pay a property tax out of the equity in their property, with total tax payable for the period in which the property is owned to be capped at 30 to 40 percent of a property’s value.
A common argument against real property taxation is that it treats different classes of wealth differently (by taxing property over and above other asset classes). This is viewed as an undesirable distortion by many, however, there are also strong arguments in favor of taxing land, as it is finite, where other forms of wealth are not.
Consideration of real property tax reform is an opportunity to consolidate and streamline all taxes that are levied on real property, including domestic rates and real estate transaction taxes in jurisdictions where these taxes are legislated. Real estate transaction taxes have a very high marginal excess burden. There is merit in considering abandonment of transaction-based taxes and myriad other property taxes for a single, progressive, annual property tax.
Redistributing property tax revenue
For the tax to achieve its intended aim, property tax revenue should be redistributed very carefully. For example, a maximum of two-thirds of the proceeds could be spent locally, to provide for essential local services, with one-third consolidated into an equalization fund that could be spent throughout a jurisdiction.
Conclusion
In summary, while wealth taxation will always carry equity, efficiency and neutrality concerns, real property taxation reform is a means of minimizing these, while maximizing efficiency and addressing squarely some of the current fiscal policy concerns facing governments.
It should also be acknowledged that great progress has been made toward reducing wealth inequality between countries. This has led to considerable gains in productivity and elevated the living standard of some of the most disadvantaged members of the global community.
Whatever future reforms are undertaken as a result of the current debate around wealth and tax policy should recognize the extent to which existing policy positions have fostered absolute, as well as relative, economic benefits across the globe.
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by Grant Wardell-Johnson
Grant is currently Head of Global Tax Policy at KPMG International. Prior to this, he took on the role of Head of the Australian Tax Centre at KPMG Australia. He has a background in providing tax advice relating to international and domestic tax structuring, international cross-border acquisitions and initial public offerings. Grant has been the lead Tax Partner on many high-profile projects in the Australian and international markets, including the Wesfarmers acquisition of Coles Limited, Macquarie Group consortia...