by D.J. Webb
Libertarians support low taxation on principle, in order to free people and the economy from the burden of the state. If the writings of Adam Smith and John Stuart Mill are anything to go by, however, there is an important exception: land taxation. Land taxation is not just a necessary evil that affords the state some revenues with which to perform the very few necessary functions of government; it is a positive good, in that it tackles monopoly and speculation, and should ensure efficient use of land. If land taxation had remained the key source of government revenue in the UK, the current economic crisis would not have taken place.
The Common Law and taxation
English Common Law is the fundamental “law of the land” in England, and by extension, in the other common-law jurisdictions founded by English settlers (Australia, America, Canada, New Zealand, etc). Parliament’s right to sit and pass laws, and the Queen’s right to approve legislation, are ultimately based in the pre-Conquest traditions of the Anglo-Saxons, where Parliament is an extension of the pre-Conquest folkmoots and Witanagemot and the current House of Windsor the heirs of the ancient Royal House of Wessex. Statutes passed to institute “income tax” and “corporation tax” and the like are a considerable overturning of the Common Law, which provided for no such exactions or impositions. Rather, the king was required to live “of his own”. The royal lands provided the king with an income, part of which subsidised his lifestyle and part of which was used to finance the Royal Court.
Beyond the king’s own income, there were feudal duties and a number of customs duties. The first record of an “income tax” was the graduated tax on certain incomes levied only twice in mediaeval times as far as I can tell, in 1435 and 1450, but these were unusual developments at the time, and the modern income tax dates back rather to the tax levied on and off since 1798. Understood correctly, in time of war or other extraordinary turmoil, Parliament could supplement the Common Law by statute to allow for the continuance of the nation: the Napoleonic war income tax can be understood in that light. But a permanent imposition of a tax not provided for in the Common Law in peacetime and in good times as well as bad amounts to a coup d’état by the political élite of this country against our Constitution.
What is different about land taxation is that it is based on the feudal duties that vassals owed to their lords in ancient times. Land in England has never been absolutely owned by the freeholder. Freehold property is property held “of the Crown” in fee simple: it is not allodial title to the land, i.e., land held without reference to any superior lord. This provided the basis for feudal duties, such as knight service, often commuted into a money rent, forming the basis for land taxation to this day.
The Crown has no general right to enquire as to our sources of income, but land title is held of the Crown, and the Crown does have the right to establish ownership of land and impose a levy on such ownership. English Common Law is based on natural relations within society, and not arbitrary decrees and statutes, and so it can be seen that the right to assess landed property for a land-related payment is merely a recognition in our law that land ownership cannot be absolute, that land anywhere in the world existed before any human society was formed, that the land that we live on forms a common social resource, and so it not genuinely “ownable” by anyone in any country, society or time period.
Land and other common social resources
Land ownership presents a conundrum to someone in the twenty-first century faced with a situation in England where the majority of land is owned by the aristocracy. How did they get it? How can they own it? In each case, if traced back to its original, you would find that land ownership had descended via a long series of purchases from land originally granted by the Crown, or has been held by virtue of such an ancient Crown grant without sale since. The original land grants made to Norman nobles could only be made in the context of English Common Law, which provided for exactions to be made by the Crown. It is clear that a common social resource—the land—a resource that naturally exists, is not the product of investment or the application of human skill and is generally not something that more can be produced of—has become monopolised by a few. This does not change the fact that land ownership can only ultimately be vested in society as a whole, as represented by the Crown, and that that land has to be the source of revenue for the upkeep of society.
The colonial societies founded by English settlers have transplanted our system of ownership overseas. Clearly, land in those countries was not originally owned by anyone in England before our conquest of those territories, and so we have been able to see, in the historical period, the process by which “ownership” of that land has been established and created. If the Crown had the right to make land grants in America, Canada and Australia, etc, it was only by virtue of its conquest of those territories, and even to this day native title to the territories remains a bitterly contested area. In fact, what we have seen in Australia and other places is merely a modern incarnation of how the Norman nobles established their rights to our common social resource—the land—nearly 1,000 years ago.
We can broaden this out to other common resources. In addition to the land, there are minerals, forest resources, fishery resources, and even the electromagnetic spectrum, all of which are valuable economic resources, but all of which are grounded in an original gift of nature. There is nothing unusual about the fact that mineral extraction rights and rights to the use of the electromagnetic spectrum are controlled by licences from the state that aim to create revenue for the Exchequer—the uses to which such revenues are put are open to much more searching questions—as ownership of these rights creates an incumbency advantage for the holder, when in fact none of these things was created by human agency in the first place.
It is right therefore that the state attempt to extract as large a proportion as possible of the economic rent derived from possession of land, minerals, forestry and fishery resources, and the electromagnetic spectrum, and land taxation should be seen in this light. Given the fact that land is a common social resource, it is doubtful whether the word “taxation” is correctly applied to a land levy. What we are talking about here is not taxation of income or profits or the restriction of economic activity, but a levy that is based on the fact that no original ownership of the common resources ever existed. The land value tax that is the subject of this article is therefore a levy or an assessment, rather than being a real tax.
Benefits of a land tax
In addition to the fact that land is a common social resource that has always been recognised by English Common Law as a source of public revenue, libertarians have always supported land assessments rather than other forms of taxation for a number of other reasons. The most important of these is that other forms of taxation impose deadweight economic losses. Income taxes and profit taxes deter economic activity—and can lead to the flight of labour and capital overseas to less greedy jurisdictions. If there were no income taxes or corporation tax, then it is undoubtedly the case that the economy would be much larger, as the take-up of investment or labour opportunities is influenced and therefore deterred by the fact that sometimes well over one-third of the economic benefit is exacted to fund the state.
Land-based taxation creates no deadweight economic losses. Because the tax does not fall on labour or capital, economic activity in a society that opted for land-based taxes would be higher than in a society that deterred investment and employment via taxes on capital and labour. Land taxes are a a a lump sum levy with a marginal tax rate of zero on economic rent, which is essentially an economic windfall. A land tax base cannot flee abroad, like labour and capital, and there is no way of using creative accounting (such as basing head offices abroad) to avoid the liability.
Much of the wealth of the country is tied up in property, and so the land value tax can raise large revenues, but its positive economic effect is also felt in that it allows for a reduction in taxes on production and consumption. Net wages increase as income taxes fall and unemployment is borne down on as employment of labour attracts a lower tax burden. Public services and infrastructure provision have a positive effect on the value of land sites that benefit from such services. This brings us to an important aspect of the land value tax: that it allows for the recapturing of the public outlay on infrastructure and services, by imposing a levy on the freeholders who have benefited therefrom in the form of higher property values. It is far superior to pay for a new London Underground line by a levy on the properties surrounding the new Tube stations—freeholders who benefit from an unexpected windfall as a result of public expenditure—than to expect all taxpayers to pay out of their incomes and profits, effectively in order to boost the property values of a few.
This brings us to a key advantage of the land value tax: its encouragement of efficient use of land and its discouragement of speculation in land. We are currently labouring with the effects of a property bubble pumped up by central banking policy errors. But the subjection of all land holdings to an annual charge, based on the unimproved value of the land, would impose higher levies on prime land sites, for example, those in central London, thus encouraging development elsewhere where land values are cheaper, with positive results in terms of regional development. Property developers would be incentivised not to hold onto large land banks without building on them, and land, as a scarce social resource, could not be hoarded or put to inefficient use without incurring regular annual levies. Furthermore, exponential increases in land values would attract higher annual levies, helping to restrain soaraway property bubbles in the same way that higher interest rates bear down on inflation; in the case of inflation, the imposition of higher interest rates depends on good central banking practice, whereas an annual land value levy based on a percentage of land values would be an automatic mechanism to ward off bubbles and speculation.
Land values would be discounted owing to the prospect of paying annual levies. In the initial period, this ought to lead to a fall in property values, although it needs to be emphasised that in the long run land values could also be enhanced, as in Hong Kong, by low income and profit taxes, creating a virtuous scenario where economic activity was not deterred by deadweight losses, and rapid economic growth still allowed freeholders to benefit from rising demand for their land. This would help to keep revenues from land value taxes high, continuing to support the few government services that are needed.
It is important to emphasise that the land value tax cannot be shifted to tenants in a way that would add to business costs. This requires some explanation, as many would argue that landlords would simply pass the annual charge onto tenants. However, classical economists, including David Ricardo, argued that rent is not a real cost of production, but merely a price determined by demand for the land, as shown by the fact that commercial rents fall in a recession. Rent does not independently affect the cost of products produced by industry, but rather amounts to the capturing of part of the value of the output created by the outlay of capital and labour by the landowners. Attempts by landowners to capture a larger part of their commercial tenants’ revenues by requiring tenants to cover all taxes and charges incurred by the landowner would, over the long run, not push up business costs, but reduce the profitability of using the land, causing tenants to go elsewhere where site valuations were lower.
This reflects the fact that landowners cannot go elsewhere—the locations of their land sites are fixed—whereas their tenants can move their businesses out of prime location sites. Excessive demand for prime land would fall, and less favoured locations, in the North of England and elsewhere, would attract more investment, with positive social repercussions. The introduction of a land value tax could also include compulsory renegotiation of rental contracts, allowing tenants to walk out of excessive rents and go elsewhere, thus forcing landowners to shoulder the burden of the land value tax and thus share the economic rent with the state.
Most proposals for a land value tax would apportion the tax between freeholders and long-term leaseholders, as long-term leaseholders have leases that are long enough to give them an interest in the value of the land and gain from an increase in land site valuations. In terms of economic theory, these freeholders and long-term leaseholders are already extracting the maximum possible rent already—this is axiomatic in a free market—indicating that over the long term, a land tax could not be passed on as a cost to tenants.
That libertarians have traditionally supported land taxation is shown by the views of Adam Smith and John Stuart Mill on the subject. Adam Smith wrote,
Both ground-rents and the ordinary rent of land are a species of revenue which the owner, in many cases, enjoys without any care or attention of his own. Though a part of this revenue should be taken from him in order to defray the expences of the state, no discouragement will thereby be given to any sort of industry … Nothing can be more reasonable than that a fund which owes its existence to the good government of the state, should be taxed peculiarly, or that it should contribute something more than the greater part of other funds, towards the support of that government. [Adam Smith, The Wealth of Nations, Book V, Chapter II; see http://www.econlib.org/library/Smith/smWN21.html%5D
John Stuart Mill was of a similar mind, and his comments below indicate that a land value tax is superior to stamp duty and other transactional levies, which may be avoided (by delaying sales) and which tend to obstruct the flow of land resources into the hands of the most productive:
All taxes must be condemned which throw obstacles in the way of the sale of land, or other instruments of production. Such sales tend naturally to render the property more productive. A seller, whether moved by necessity or choice, is probably someone who is either without the means, or without the capacity, to make the most advantageous use of the property for productive purposes; while the buyer, on the other hand, is at any rate not needy, and is frequently both inclined and able to improve the property, since, as it is worth more to such a person than to any other, he is likely to offer the highest price for it. All taxes, therefore, and all difficulties and expenses, annexed to such contracts, are decidedly detrimental … All taxes on the transfer of land and property should be abolished; but as the landlords have no claim to be relieved from any reservation which the state has hitherto made in its own favour from the amount of their rent, an annual impost equivalent to the average produce of these taxes should be distributed over the land generally in the form of a land-tax. [John Stuart Mill, Principles of Political Economy with some of their Applications to Social Philosophy, Book V, Chapter V; see http://www.econlib.org/library/Mill/mlP67.html%5D
We should add here that in addition to stamp duty, conveyancing taxes on land transactions include capital gains taxes and inheritance taxes on probate transactions. Capital gains tax is a clear example of a confusion between gains produced by passive benefiting from property bubbles and gains from genuine investment in capital and labour. Real investment in industry should be encouraged, and gains from such investments (including profits on loans and stockmarket gains) should not face a capital gains tax; passive gains from property are by no means the result of an “investment”, and the land value tax would restrain soaraway gains and capture them for the public revenue.
The confusion between passive gains and gains that are the result of initiative and investment is found all the way through our current taxation system. Income tax and corporation tax are assessed on all income and profits, without attempting to break out the proportion of the earnings that relate to the three factors of production: land, labour and capital. Some income is passively gained, and some profits are passively made on the back of misguided central banking policy to promote property bubbles. By contrast, a great deal of income and profits is the result of hard work and initiative, and by obscuring the difference between the gains from land, labour and capital—three categories kept quite distinct in the analysis of the classical economists—we are unable to promote investment and hard work and deter speculation in property.
Inheritance tax would also be abolished under the proposed land value tax. In fact, at present, inheritance tax tends to be a way of trying to capture increases in land values for public revenue, but in a way that is avoidable, and in a way that leads to continual calls by landowners for the increase in their land values to be ringfenced for their estates and not be tapped to pay for their nursing home bills. Yet such increases in land values are created by social investment in infrastructure and not by personal investment.
Let us imagine the owner of a house in a northern town with a building reinstatement value of £200,000 and a market value of the property of £250,000. Let us also imagine the condition of the building is less than perfect—it is not new—and that the value of the land is £100,000, and £150,000 is the value of the ageing building. The site location value is the value of the unimproved site. A very similar house in London, also of the same condition, also with a building reinstatement value of £200,000, has a site location value of £1,850,000, with the value of the ageing building also £150,000, giving an overall property value of £2m.
Let us further imagine that the northern house has not risen in value since purchase a number of years ago, and that all other aspects (the reinstatement value, the condition, etc) remain unchanged. Upon resale at £250,000 there is no increment as a result of an increase in the site location value. Yet the same house in London, purchased at £1m before the Docklands regeneration was announced, undergoes an increase in market value—as a result of public expenditure on infrastructure in the Docklands—over the same period to £2m. The increase in the site location value is £1m. Clearly, the freeholder would try to claim this £1m increment was the result of his own “investment”, despite the fact he spent little on the house to do it up. He would like to capitalise it into his estate and leave it to his children as a legacy, even asking for his nursing home fees to be covered by the taxpayer so that this site location value increase, paid for by public investment, can be passed on as a “legacy” as a result of his “investment” to his heirs.
This is clearly fraudulent, and yet such profiteering on the back of social investment forms a large part of the “assets” of Middle England. There is a difference between a genuine investment, whether in a business or in stocks and shares, and capital gains realised from property as a result of an increase in site location values, which are not the result of the landowner’s investment. An annual site location levy would restrain such passive capital gains from property. The owner would lose nothing, as he could not expect the taxpayer to pay for the Jubilee Line and the Docklands Light Railway without recovering some of his outlay. Property owners seem to be the main beneficiaries of government policy over the long term. If we are going to deal with welfarism, we need to stop freeholder’s benefit—which is what site location value increments as a result of public expenditure amount to—this is nothing but a disguised form of social scrounging.
Consequently, land value taxation allows for a reduction in income and profit taxes, which currently restrict economic activity. It also allows for the abolition of stamp duty, capital gains taxes and inheritance taxes. This promotes the productive use of the land by not impeding property transactions. The key to this is to establish an annual land value tax on the unimproved value of land sites. This would hold property values down over the long term, allowing the young to buy properties, allowing banks to extend mortgages without a constant cycle of property boom and bust, and this would also allow more of people’s incomes to be devoted to consumption, instead of spending the majority of their incomes on taxes and mortgages to finance an economic model based on public debt and property bubbles. Genuine hard work would not be penalised as it is at present; passive profiteering would become more difficult, although some increase in land values based on strong demand in a low-tax economy could still take place, as it does in Hong Kong.
How an annual levy would work
As a common social resource, land refers to the actual site location of a piece of land. The value of a site location is entirely separate to the value of the building erected on it, which alone is the product of an individual’s entrepreneurial investment and initiative. Let us continue with our example of two properties. Both have a building reinstatement cost of £200,000. That is what it would cost to rebuild the property were it to fall down. One is located in the Docklands area of London not far from Canary Wharf, and has an estimated property value of £2,000,000, and the other is in a northern town with an estimated property value of £250,000. What is the difference between the properties? The difference is entirely the result of location. The site location values in favoured parts of London are much higher than in northern towns, and this is entirely the result of social activity. The fact that London is a large city that has good job opportunities and cultural attractions raises demand for property in London.
In fact, site valuations are often directly the result of public investment. The building of a London Underground line or other such infrastructure improvement raises the site location values of properties nearby, and by a much greater margin than the cost of the original infrastructure investment. Let us say that the value of the property in the Docklands was originally low, but once Canary Wharf had been established as a major financial centre, and once the Jubilee Line and the Docklands Light Railway had been built to that part of London, the value of the property (in our example) rose from £1m to £2m. This is not the result of the freeholder’s investment. It is a windfall that resulted entirely from public investment, paid for by many, including people who live hundreds of miles away from the area who will never visit the Docklands. It should be added that private-sector investment in shops, cinemas, gyms and cultural outlets also raises demand for property in a location, allowing freeholders nearby to benefit passively from other people’s economic activity.
Clearly, therefore, there are two components to a property value: the site location value and the the value of the building (the building reinstatement value perhaps depreciated to reflect the age and condition of the building). “Property” is an economic category that confuses these two things. Someone who invests in a property, for example, by improving the building, adding an extension or a conservatory, has indeed increased the value of the building, and can rightly expect to benefit from that. Suggestions that property values in the council tax database be adjusted by sending an army of snoopers to scout out conservatories and other improvements are therefore quite objectionable. The benefit from an investment in the building should accrue to the owner; an improvement in the site location value is not the result of the owner’s investment, and should accrue to the public and be captured via an annual levy.
Given therefore that land value taxation does not take account of improvements to the land, a valuation database should be easy to build. Conservatories and extensions become an irrelevance, and in the main all houses in the same street would face the same levy per square foot. In our example, the property in Northern England, with a land value of £100,000, could face an annual levy of 1%, or £1,000, to replace council tax, inheritance tax, stamp duty and capital gains tax. The same property in the Docklands in London, with a land value of £1.85m, would face an annual levy of £18,500. Such levies would be updated annually in line with movements in land prices.
Clearly, the political problem is that the current council tax format, which is not based on the value of unimproved sites and not designed to prevent property bubbles, imposes a much lower tax on owners of expensive properties than it does in the case of owners of low-end properties. The middle class insists on gaining from the current economic model, which still prioritises the pumping of the property market by government policy. An £18,500 levy would be high, but would price in use of a scarce social resource—land, which cannot be genuinely “owned” by anyone—and force those with cash to explore real investments instead of the tired buy-to-let supposed “investments”. Land prices in prime locations would probably ease as a result of the levy, with householders “blocking” prime land sites required to pay the annual levy, or take out a financing vehicle to cover the charge to be recovered by the financing companies from their estates after their deaths. It is clear from consideration of the furore that would result from such a policy that discussion of welfarism and benefits scrounging is quite skewed in this country: a much larger swathe of the well-to-do have benefited from a flawed economic model that has plunged the global economy into crisis, and yet they refuse to recognise the origin of their wealth, believing simply they have made wise “investments” in land locations, although unimproved land cannot be the result of an investment.
There should be no exemptions for residential property, as this would tend to defeat the purpose of the land value tax and prevent the role of the land value tax in restructuring the economy towards real investment, production and consumption. Neither should there be a graduated levy based on land use: an exemption for agricultural land would lead to distortions, including speculation in agricultural land near urban areas, and possibly attempts to rezone land. All land should pay the land value tax, with an exemption only for public land. Libertarians are already concerned about fake charities, and I would oppose any attempt to exempt charities from the land value tax, while their directors creamed off the majority of charitable donations in their salaries and pensions. Finally, land in investment portfolios should not be exempt from the land value tax either. Those who do not pay the assessment would face the docking of their bank accounts or salaries. It must be emphasised that this is not a real tax—which is an attempt by the state to defraud people of the results of their own initiative—but a levy based on the use of a resource, land—unimproved land—which cannot be the result of a person’s initiative.
Finally, a similar levy on resources that are the gift of nature would include minerals, oil, fisheries, forests and the electromagnetic spectrum. As with landholdings, the possession of the rights to any of these amounts to an incumbency advantage to those who have gained control of a common social resource. The current assessment of royalties on mining discourages the mining of low-grade ores, but a site valuation levy that took account of the depletion of resources in the form of a charge on the change in the site valuation occasioned by the extraction of resources would be an improvement on per unit or ad valorem taxes on resources.
Prospects for land taxation
We read constantly of Liberal Democrat plans for a “mansion tax”, although this is not the same as the land value tax proposal, as it is levied only on some properties, and on the whole value of the property, and not just the site location. Such a proposal is based on envy and not a constructive economic theory. Nevertheless, given our recent property bubble, interest in the land value tax proposal is growing, and the Green Party MP for Brighton, Caroline Lucas, has sponsored a private member’s bill in Parliament that would
require the Secretary of State to commission a programme of research into the merits of replacing the Council Tax and non-domestic rates in England with an annual levy on the unimproved value of all land, including transitional arrangements; to report to Parliament within 12 months of completion of the research; and for connected purposes [See http://services.parliament.uk/bills/2012-13/landvaluetax.html%5D
This bill received its first reading in Parliament on June 25; the second reading is scheduled for November 9. Nevertheless, scepticism is in order regarding the likelihood of the introduction of a land value tax, as landowners have spent centuries in England trying to get out of their land-based levies. Interestingly, a land-value tax was introduced in Parliament in 1931 by the Labour Chancellor of the Exchequer, Philip Snowden, only to be repealed by the Conservatives before the valuation work could be completed.
As long as taxation is geared towards repression of incomes and profits, economic activity in this country will be held back. Financial services, property and the public sector are keeping our economy sluggish. Libertarians who support low taxation, and in particular, forms of taxation with low or zero deadweight effects, should support land taxation as a way of moving to a more sustainable model of economic growth.