The Council Tax was introduced throughout Great Britain in 1993 to replace the Poll Tax, which had obtained a high degree of political unpopularity. The reason for the Poll Tax’s unpopularity was obvious: as a lump sum tax, it taxed everyone with no regard for their ability to pay; relative to the domestic rates it replaced, it was a regressive change with, on average, increases in the tax burden for those on low incomes, and reductions for those on high incomes. The political economy of the Poll Tax was all wrong.
However, the Council Tax has also always been criticised for the relatively low spread of charges between the tax levied on the most and least valuable properties. The Council Tax is actually a regressive tax despite its bandings, because Council Tax payments are a larger proportion of household budgets for households in the lower and middle income deciles than they are for those in the upper deciles (even after Council Tax benefits). In addition to the regressive nature of the Council Tax, its use of 1991 valuations makes the levied charges increasingly arbitrary and unrelated to any rational basis for taxation. It is therefore no surprise that discussions and proposals to reform or replace the Council Tax are a feature of the political landscape.
In Scotland the moves to reform or replace the Council Tax have taken on a more concrete form with The Commission On Local Tax Reform established jointly by the Scottish Government and the Convention of Scottish Local Authorities (COSLA), which is studying options and may propose new policies for local tax. Two common proposals which could replace the Council Tax, are a Local Income Tax, and a tax on the market value of property. In order to replace the council, we estimate that a Local Income Tax needs to be set at an additional 4.5% across all tax bands, while a property tax needs to be set at 0.7% of market value.
Both a Local Income Tax and a tax on property values, are progressive policies relative to the current council tax. But there are strong efficiency reasons for favouring a property tax over another tax on income. Property taxes are favoured relative to income taxes because the supply of land and property is less elastic than the supply of labour. Further, a reformed property tax should remove the distortionary subsidies, within the current Council Tax and Non Domestic Rates system, that are given to underused, vacant and derelict land and property – which would encourage an efficiency enhancing increase in the supply of land and property. Another feature in the property tax’s favour is that it avoids, to a very large extent, tax competition between local authorities (the existing stock of property being immobile). However, which proposal does the political economy favour?
Income taxes are, obviously, levied upon those with the ability to pay, so that’s a point in the political economy calculus that likely favours a local income tax. Another point which leads the political economy to favour of a local income tax is that income taxes are already part of the tax system, whereas a property tax, even one which is an alternative to and which raises the same amount as both the council tax and the local income tax, is likely to be looked upon as a new tax. And this new tax is likely to be particularly unpopular with homeowners as it is a tax that is directly levied upon the single largest component of most households’ wealth – and adults from homeowner households make up a majority of the electorate.
The efficiency reasons for favouring land and property taxes relative to labour taxes mean that the average household should be better off in an economy with a property tax rather than one with a local income tax. But will an individual, when presented with their property tax bill, believe this? Relative to the hyper-rational homo-economicus that populates economic models, real people underweight diffuse and uncertain future benefits and overweight immediate and certain costs, when choosing between options. Especially given the high level of home ownership, is the political process going to go for a property tax?
If the political process does not choose a property tax, then the public sphere in Scotland perhaps loses a one-time opportunity to make such a potentially efficiency enhancing policy change. This is because the replacement of one property tax (the Council Tax) with another in a revenue neutral manner, does not change the aggregate value of property in Scotland. It will of course impact upon individual property values, with higher taxes than the current Council Tax on more expensive properties, and lower taxes than currently on less expensive properties, but these impacts offset each other, such that the aggregate property value is unaffected. This means that home-owners, as an entire class, should not be against a revenue neutral switch from the Council Tax to a property tax. However, if property taxes (in the form of the Council Tax) are abolished in favour of a local income tax, we can expect property price rises, relative to where they otherwise would be, of 15% – 20%. If the government was then to try to re-implement a property tax at some time in the future, then these price rises can be expected to be reversed as price falls. At this point almost every home-owner in the land can be expected to oppose the change and the political economy becomes impossible.
The political economy, now, may favour a local income tax, no matter the benefits that technocratic economists may claim for property taxes. But if a local income tax is chosen, then the political economy likely ensures the death of property taxes in Scotland, irrespective of their potential benefits, for the foreseeable future. One small behavioural quirk that may favour a property tax however, is simply that 0.7% is a smaller number than 4.5%!