Property Bubble

Towards an orderly and long term solution of the property bubble in Auckland

Gareth MorganEconomics

Auckland’s revised Unitary Plan looks good – realistically up and out is the only way the supply bottleneck can be addressed. But supply failing to keep up with demand is not the underlying cause of the property bubble in Auckland. It is a periodically a source of ultra-stress but not the chronic, decades-long problem that has driven the house price-to-income ratio to giddy heights. That issue remains – it is over-stimulated demand.

Unitary Plan aims to fix supply

The general thrust of the Unitary Plan is right – building far more houses than the Council originally planned, 2/3 by building ‘up’ in existing suburbs, 1/3 by sprawling out. This is a good result, particularly compared to the original Council plan; we’ve previously discussed how sprawl is a false economy. The plan isn’t perfect – there are some concerns about the removal of rules governing energy efficiency, cultural sites and affordable housing provisions. Still, on balance the plan is progress, so now the Council needs to just get on and pass it.

Now that there is a concerted effort afoot to increase supply of housing, this is a good time to also bring in policy that addresses the cause rather than the effect of this permanent excess demand. Through changes to zoning, the Unitary Plan should simultaneously reduce the price of new houses but also add a lot of value to existing land values, as they can be redeveloped for more intensive housing. The new houses that emerge are no longer houses with a quarter acre section, they are infill housing – and they will be cheaper, albeit only for a while. The temporary relief only underscores the need to address what keeps pushing house prices up relative to income – not just in Auckland but across the country, not just when there a population burst but decade after decade.

It’s about taxing housing and land appropriately.

The demand side

The demand for property remains higher than it need be, decade after decade because of regulatory bias and tax breaks that keep it that way. The political conundrum of course is how to correct this without (a) causing a property price crash and (b) alienating the property-owning class who are thriving from the wealth transfer this phenomenon bestows on them.

The Reserve Bank is slowly but surely addressing the regulatory bias than underlies its culpability for the housing bubble. The belated rise of deposit to value and loan to income ratios are a somewhat clumsy response, but better than the nothing the Bank has done since the financial deregulation of the 1980’s kindled the bushfire that is our property market.

Tax reform

However, equally responsible for this phenomenon has been the tax break that is conferred to property owners by not taxing the benefit they enjoy from ownership of the asset. And I don’t mean capital gains. The fact that $100k in the bank attracts tax on the interest income, while $100k in a property doesn’t do the same to the benefit an owner-occupier enjoys, is a distortion in our income tax regime. That distortion has long been recognised by economists and tax experts but is in the ‘too hard’ box for political leaders.

In other countries there are imperfect methods used to address the benefit of this ‘imputed income’. They include wealth taxes, stamp duty, inheritance duties, capital gains tax, and so on. None of them work properly, primarily because of the exemptions that are made.

Yet there are ways to solve this problem if the political will can be found. An income tax reform that included in the definition of taxable income, the implicit income that asset owners enjoy from merely owning assets would remove the incentive to buy assets in order to minimise tax. And the closing of this loophole need not result in one single dollar of additional tax being collected – because it could be offset by cutting tax rates.

It looks like there’s about $750bn of non-financial (so excluding deposits, shares or superannuation) assets owned by people in New Zealand, net of debt. So at a tax rate of say 30%, levied on a deemed income of say 5% on those assets, this is $11bn of potential income tax per annum that should be being collected. This is roughly 30% of the income tax collect so such a windfall could be totally applied to cutting income tax rates by 30% say.

Such a policy would neutralise the tax system when it comes to property investment, meaning that demand for property would be more akin to demand for accommodation, rather than as it is now, driven by the demand to exploit the tax loophole. So that makes it fair but it also makes it far more economically efficient – we wouldn’t have the bias in capital investment we do now, businesses would compete for capital on a level playing field.


Of course there are the transition issues to address. Where does the cashflow come from for those who are over-invested in low income assets to pay the tax? What about older folk who are the most grossly over-invested in property – how might they rebalance?

Neither of these transition issues should be show stoppers and certainly do not outweigh the benefits to the economy from fixing this problem. In time people will rebalance their investment portfolios so that they can bear the tax load on their imputed (or deemed) rental benefit. As they adjust to that position their tax could be deferred or alternatively the switch to the new regime could be graduated over a few years to allow portfolios to be adjusted – i.e.; the tax rate on this income could step up over time to the full rate.

As for the impact on older folk already over-weighted in property, they could either be grandfathered out or at least given a longer period than the rest of us to adjust, have the annual tax simply accumulate as a charge against their property without compromising their right to occupy (like a reverse mortgage) – or a combination of all three transition policies.

The main point though is that closing this loophole in the income tax regime is essential to aligning property prices with the demand for accommodation and finishing this orgy of entrenched capital gains that are nothing more than a redistribution of wealth to the property-owning class, exacerbating inequality and affordable housing.

Nobody wants a property crash. But the serious issue of removing the tax-driven, artificial stimulant of demand for assets is yet to be addressed. Now is the time to do that, as a construction initiative temporarily takes the heat off the market.

Towards an orderly and long term solution of the property bubble in Auckland was last modified: August 15th, 2016 by Gareth Morgan
About the Author

Gareth Morgan

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Gareth Morgan is a New Zealand economist and commentator on public policy who in previous lives has been in business as an economic consultant, funds manager, and professional company director. He is also a motorcycle adventurer and philanthropist. Gareth and his wife Joanne have a charitable foundation, the Morgan Foundation, which has three main stands of philanthropic endeavour – public interest research, conservation and social investment.