Gareth Morgan’s tax policy

Economist and commentator, Gareth Morgan, has begun releasing the policy platforms that his new party, The Opportunities Party, plans to contest next year’s election on.  Fairness seems to be his watchword and –  within limits –  who can argue with that aspiration?  But whatever “fairness” means, it doesn’t automatically translate into an obvious set of policy prescriptions.

The first policy he announced was that on tax (document here, and lots of FAQs here).  The centrepiece of the tax policy is to apply a deemed rate of return to  (the equity held in) all productive assets (including all houses) and tax that deemed rate of return at the owner’s marginal tax rate.  Own a million dollar house freehold and if the deemed rate of return was 3 per cent, you’d have an additional $30000 added to your assessed annual taxable income and those on the top marginal tax rate would have to pay, for example, an additional $10000 per annum.   The promise is that any revenue raised from this tax would be fully used to cut income tax rates, with a focus on those on below-average incomes.  In their own words, they expect this policy would

a. Make the tax system fairer;

b. Make housing more affordable over time;

c. Lead to more sensible investment of capital (everyone’s savings);

d. Make capital more readily available for productive businesses that create jobs  and pay wages;

e. Encourage a lot more “trickle down” from those who have stockpiled wealth courtesy  of this loophole; and

f. Reduce New Zealand’s reliance on foreign investment and debt to finance our growth.

I’m sceptical.

No doubt tax accountants and lawyers will have their own detailed concerns (some interesting issues were raised in this post from former Treasury and IRD tax adviser Andrea Black).

At the heart of the policy is a concern that the returns on houses are not appropriately taxed.    There are two strands to that.  The first, and most important in their thinking, is that the imputed rents on living in your own home aren’t taxed.  Everyone will, more or less, accept that that is something of an anomaly.  After all, if you rent an equivalent house and put your equity in a bank deposit, the returns to that deposit will be taxed.    The second is that capital gains typically aren’t taxed (and capital losses typically aren’t deductible).    There is much more room for debate about even the theoretical merits of taxing capital gains –  to say nothing of the practical problems.  But over the last 15 years in most of the country there have been large capital gains associated with housing.  Many rental property owners have not been declaring positive net taxable income, but have still made good overall returns through capital gains.

TOP eschew a capital gains tax –  rightly in my view –  but they appear to believe that their deemed rate of return policy will make future (untaxed) capital gains –  house price booms – less likely.

The idea of a deemed rate of return approach to taxing asset income isn’t new in the New Zealand debate.  Such an approach is already applied to holdings of foreign equities, and only a few years ago the government’s Tax Working Group reviewed the option as an approach to changing the taxation of housing.

Here are some of the reasons why I’m sceptical.

First, Gareth claims that a big part of the economic problem in New Zealand is an over-investment in housing, and that imposing a heavier tax burden on housing will reduce that.  As a result, so it is argued, more resources will be attracted towards business invesment.

This is old ground, but there is simply no evidence of systematic over-investment in housing.  Real investment (gross fixed capital formation) in housebuilding has,if anything, been less –  over recent decades- than we might have expected given our rate of population growth.  Countries with lots more people need lots more housing.  Most indications are that we haven’t built enough new houses.  And perhaps the best indication of that is the high price of houses and urban land.  Over-investment in something is usually consistent with low prices over time, not high prices.

But perhaps TOP have in mind something other than a national accounts meaning of “investment”?  They hint at a belief that houses make up more of household overall asset portfolios than is the case in other countries.  First, that factoid has been substantially discredited since the Reserve Bank last year introduced new and more comprehensive household balance sheet data.  Second, even to the extent it is true it partly reflects (a) overall modest rates of total household savings (people still have to live somewhere), and (b) the extent to which our tax system does not work to bias the ownership of the housing stock towards corporate or funds management entities (often tax-preferred in other countries).  And third, for every housebuyer there is a seller –  typically, from within the household sector.

Is there reason to think that New Zealand in some sense devotes “too many” real resources to housing.  The only one I can think of is that the average size of New Zealand houses –  like those in Australia and the United States – is quite large (much larger than in Europe).  Perhaps there is something in that, although since TOP argue that we need this policy partly because other countries (including the US and Australia) already deal with the distortions in other ways, it isn’t overly compelling.  Nor is it probably great politics to suggest smaller houses –  as we get richer – rather than more houses.

TOP claim that their tax policy will “reduce New Zealand’s reliance on foreign investment and debt to finance our growth”.  They don’t explain what they have in mind here.  Since, as I’ve pointed out, we already devote fewer real resources to building houses than one might expect given our population growth rate, it can’t really be through a channel of less housebuilding.  All else equal, less investment would reduce the current account deficit but……the TOP policy document argues we would see more business investment if their policy was adopted, so it isn’t even obvious why the current account deficit would narrow.

I think they must have in mind a wealth effect from high house prices onto consumption.  If high house prices encourages more overall consumption then, all else equal, that will widen the current account deficit –  although, contrary, to Gareth’s speaking notes at the launch of the policy, not since 1984 have these deficits involved “our political leaders trotting round the world with the begging bowl out”.    But as I have noted on various occasions previously, the evidence for a material wealth effect from higher house prices just isn’t very strong.  Here is a chart from a post I ran a few months ago showing consumption as a share of GDP over the last 30 years or so.

household C to GDP

Almost dead-flat (the red line is the full period average), and if anything edging slightly downwards, even as house prices have gone crazy.   That isn’t surprising: high house prices don’t make New Zealanders as a whole richer, they just redistribute wealth from one group to another (and in most cases –  since people want to stay living in the same house –  even the redistribution is more apparent than real).

In principle, of course, taxing an asset more heavily will tend to reduce its value.  Adopting the TOP policy could be expected to reduce house prices, to some extent.  But it won’t change the fundamental imbalances in the housing and urban land market (regulatory restrictions on land use the most important, but running head on into sustained government-induced population pressures).   And I wonder quite how much there is in the TOP policy proposal.

When the Tax Working Group looked at these issues a few years ago, they could talk loosely about a deemed rate of return of 6 per cent, something like the 10 year government bond rate at the time.  These days, having rebounded somewhat in the last few months the 10 year government bond rate is not much above 3 per cent.  And the Reserve Bank assures us that its modelling of long-term inflation expectations shows that they are firmly anchored around 2 per cent.    Real interest rates –  the real risk-free benchmark rate of return in New Zealand are very low.  And even then, our interest rates are still materially higher than those in most countries abroad –  and, as everyone accepts, that isn’t because productivity growth and real opportunities here are so much better than those abroad.  In the UK for example –  with a better long-term productivity record than New Zealand, much more government debt, and a similar inflation target –  the 10 year bond yield is around 1.3 per cent.

One of the problems with the TOP policy document is that there are no details.  They say that is all to be negotiated once they get into Parliament, but it makes a lot of difference whether they plan to use a real or nominal risk-free interest rate, or even a short or long-term rate.  Much discussion has tended to assume that a nominal long-term rate should be used.  I could make a strong –  stronger I think –  case for using a real short-term interest rate.

One of the flaws of our tax system –  or at least its interaction with our monetary policy inflation target –  is that all of nominal interest is taxed, and where interest is deductible all of nominal interest is deductible.  That is so even though the portion of the interest that simply compensates for inflation  –  maintains the real value of the asset – is not (in economic terms) income at all.  As a parallel, inflation raises the nominal value of your human capital to maintain the real value of that asset, but it is only the returns to that higher nominal asset value (any increase in annual wages) that is taxed.  Economists tend to quite like the idea of inflation-adjusting the tax system, while tax administrators hate it (for practical reasons).  It is already more of a problem in New Zealand than in most countries (because we fully tax –  and thus double tax –  all interest income).  But it would be a major new distortion, on a much more serious scale, to impose a nominal deemed rate of return across a much much larger stock of assets (than just fixed income assets that are already over-taxed).

So to me if the TOP policy were to be adopted the logic of using a real interest rate as the deemed rate of return (or fixing the zero lower bound and lowering the inflation target) seems pretty clear.

What about the short-term vs long-term rate issue?  No doubt, defenders of using a long-term rate would note that these are typically long-term assets.  But… has to assume that the deemed rate of return will change over time (even long-term bond rates do).  And it seems unlikely that if I buy a house today, Gareth’s policy would offer me tax certainty –  say, using today’s 10 year bond rate for the next 10 years.  If not, and if the deemed rate of return is subject to, say, annual review at each Budget, then using something like a one year government bond rate would seem a reasonable approach.    But the one year government bond rate is around 1.9 per cent at present, and year-ahead inflation expectations aren’t much lower than that.  A real risk-free government bond yield in New Zealand at present is around 0.5 per cent. And it is even lower in other, generally more successful, economies.

Now a reasonable rejoinder might be that the times are exceptional, and that these rates can’t last for ever.  If I were a betting man, I would probably agree.  But……our interest rates are higher than those in the rest of the world, and one of the goals of the Business Growth Agenda is to see that gap close.  And we aren’t in the depths of a recession: best estimates are that the output gap might be somewhere near zero, and yet our Reserve Bank expects no change in the short-term policy rate for the next few years.  If one is taking a policy to the electorate over the next 12 months, one surely has to work on the basis that the interest rates we have now might be around for some time.

If real short-term interest rates are the conceptually and practically appropriate rate to use in a deemed rate of return model, the tax on that million dollar housing equity would be around $1666 per annum, even for those on the top marginal tax rate.  That would be an annoyance to homeowners but –  especially with some income tax relief on the other side –  hardly likely to materially transform the housing market.   From Gareth’s perspective, that could have an upside –  an unthreatening introduction, and then when/if real interest rates return to “normal” it begins to bite much harder semi-automatically.  But it is a hard sell to make big changes in the tax system for such small potential payoffs at anything like current interest rates.

What else makes me uneasy (more briefly):

  • one of my objections to a practical CGT is that it tends to make government revenue even more highly pro-cyclical, encouraging unsustainable spend-ups as asset booms go on.   The deemed rate of return approach seems to face very similar problems.  Because a lot of housing assets are leveraged, the equity in housing changes more than proportionally with changes in houses prices.  A 20 per cent annual increase in house prices –  perhaps at a time when interest rates were rising anyway  –  might induce a 25 per cent rise in annual revenue from this tax.  While it is all very well to talk of full offsets in income tax reductions, it is very unlikely that would happen year by year –  or else, there will be material increases in income tax rates in the middle of asset busts, which again seems highly unlikely.  So, it looks like a policy that will tend to undermine spending discipline just at points of cycles when it is most needed, and undermine government revenue just at the point of the cycle when it is most valuable.
  • it is a systematic tax on Aucklanders  (most of the asset-based revenue will be raised in Auckland, but income tax rates are national and low income people aren’t concentrated in Auckland).  As a Wellingtonian that might not unduly bother me, and as an economist there might be a plausible argument for it, but there are awfully large number of voters in Auckland.
  • Valuation issues seem more substantial than TOP allow for.  In their FAQs there are blithe descriptions of how house values might be triangulated, but if I am facing a large annual tax on the imputed rent on my house I will likely care much more about the assessed value being used than I will in respect of local body rates.  The compliance costs seem non-trivial –  and that is before getting into business assets.
  • There is a reasonable economic case for a pure land tax. The quantity of unimproved land is fixed, and so taxing that value doesn’t change the supply of land.  But this isn’t a land tax.  It would apply to business assets as well, as –  in effect –  an underpinning minimum tax (if existing income tax liability is lower than the deemed rate of return).  But many businesses fail –  they never succeed in making much taxable income.  And while we want a strong stream of highly profitable businesses, one of the ways one gets there is to have plenty of entrepreneurs take risks, and often enough fail.   The TOP document talks about the ability of firms to   “allow those businesses facing a temporary or cyclical earnings downturn to defer their minimum income tax for a period of up this to 3 years (use of money interest to be charged)”.  But that doesn’t seem to deal with businesses that never succeed at all.  Imposing a fixed minimum tax, even if it can be deferred for a few years, is an increased tax on entrepreneurship.  What you tax, you get less of.    And yet TOP talk of encouraging more “productive” business investment and more entrepreneurship.

In the end, I think my assessment of the TOP policy is that a very high level it isn’t necessarily inappropriate, but would be hard to make work well, doesn’t offer very much in a low (real) interest rate world, and is misconceived as a structural answer to either our housing price problems or our sustained economic underperformance.

Next week I will write about TOP’s new immigration policy, which I strongly agree with parts of, while being quite sceptical of other parts.  To their credit, it is a more serious engagement with the issues than we’ve seen from other parties to date.

21 thoughts on “Gareth Morgan’s tax policy

  1. Gareth Morgan has adopted Labours anchor policy.

    “Vote for me and my party and I will ensure that I will tax everything you own”

    Labour has already proven that voters do not support capital gains tax and Lange’s immortal words continue to ring true.

    “Former Prime Minister David Lange is reputed to have described a capital gains tax as the sort of tax you introduce if you want to lose not just one election, but the next three! And he should know since the Fourth Labour Government considered a capital gains tax back in 1988, eventually rejecting it as being too difficult.”

    National’s 2 year Bright test is not a Captal Gains Tax but a speculation Income Tax, pretty much a tightening of the Intent test already around. Andrew Little intention to move that to a 5 year test is going to test voters loyalty. Well they are already showing that they are abandoning Labour.


  2. A wealth tax is nothing new… Norway, Switzerland, Italy and France have some form of them, and Diocletian, I think, introduced the iugum. What’s interesting is that so many nations have abandoned them in the past 20-odd years, including Austria and Denmark (1995), Germany (1997), Finland (2006), Luxembourg (2006) and Sweden (2007). I wonder how effective they were why they were rejected.


  3. I guess it depends on the motivation. As one source of revenue a low wealth tax might well have some appeal (esp in ye olden days when collection systems were less sophisticated). But that is a different set of motives than the ones Gareth advances. Personally, I’m attracted to a progressive consumption tax as best combining efficiency and equity.

    Recall that we had a land tax here, that was progressively eroded over more than a century.

    Liked by 1 person

  4. The social consequences of taxing the equity in owner-occupied dwellings would be appalling, especially for the elderly on fixed incomes who would receive little or no compensation by way of income tax cuts. Morgan’s suggstion that the elderly take out mortgages to pay his tax is simply flip: apart from the injustice he would create, the elderly would be exposed to every kind of rort by predatory lenders. Home ownership is an essential thread in the fabric that holds New Zealand together; Morgan would unravel it.

    His proposals on immigration are nothing new but are generally sensible. Out of control immigration is one of the main pressures on house prices making it hard for the young to achieve home ownership. The contribution made by immigration towards increasing productivity in New Zealand is very doubtful. The impacts on infrastructure and the environment are largely negative.


    • I think the elderly are a political obstacle, but perhaps not a huge economic one. After all, as I note, at low real interest rates, a pensioner with a modest income (NZS plus a bit more) and say $500000 equity in a house, would be up for a few hundred dollars a year, and would benefit from the lower income tax rates (if it worked as Gareth proposes). From memory, he talks of mortgages to the IRD to deal with the cashflow effects.

      It all becomes much harder if we ever get back to the sort of real interest rates we had in the decade prior to 2007/08.

      Liked by 1 person

    • Thanks for the link. HIs point about the 5% rate not having been changed is interesting, but I can’t imagine the mass of NZers being very relaxed about a deemed rate on their house staying high even as actual interest rates (of whatever term) collapsing. If one takes the RB projections as some sort of basis (and admittedly I’m usually reluctant to) you’d have to think an OCR of around 1.75% wasn’t far from some medium-term normal.

      Liked by 1 person

  5. The “land provisions” in the Income Tax Act 2007 already subject certain land sales to income tax.

    Land which becomes significantly more valuable if proposed zoning changes are adopted could be subject to a tax on the gain in value from rezoning, if the land is sold within 10 years of purchase.

    This rule provides that a gain on the sale of land is taxable where:

    1. the person disposed of the land within 10 years of acquisition, and
    2. at least 20 per cent of that gain was attributable to one of a number of factors relating to the land, occurring after the acquisition of the land by the person. Significantly, the identified factors include gains attributable to a change, or a likely change, to the rules of an operative district plan under the Resource Management Act 1991 – which the Unitary Plan would amount to once implemented.
    In short, the rule could apply where a person sells land within 10 years of acquiring it and 20 per cent or more of the gain they realise is attributable to a change in zoning set out in the Unitary Plan.


    • Yes… a very well understood rule in commercial investment property sectors… you have to own it for 10 years to be safe… and if you structure your portfolio in that way then no problem…


  6. I have to say the whole Gareth Morgan proposal makes me very uneasy… It is a very difficult sell to people to say that they might have to pay a tax on an income that may or not eventuate… so if they sell their property for a loss (it does happen!) do they get a tax write off? Logic would say so, which makes the whole basis of the tax quite iffy…

    And it is not that owning a house is free? In many countries the interest on mortgage payments is tax deductible, but not in NZ so home buyers are using after tax income to pay their interest, rates, r&m etc etc.. so maybe if the gain is in excess of these costs on an annual basis then the tax would be against a true deemed gain… but most younger home owners will owe quite a lot to the bank which is a cost that has to be taken into account if the aim is to tax the gains at the deemed rate…whatever that will be…

    Also, there is an interesting angle in terms of the idea of ‘free’ goods… Taking an admittedly extreme example what about a situation where one person visits the local knock shop and shells out cash for a good time… whereas another person has a steady relationship and in effect gets the same good time for free… so should the person in the relationship have to pay tax on the avoided cost of not having to go the knocking shop??

    There is a certain equivalence between this example and the housing example… and a steady relationship requires investment also…

    Nice idea on a spreadsheet but a terrible idea in reality…


  7. Fat bastard, quite so.
    The problem Gareth and all these socialists have and Gareth is a modern day rich socialist with other peoples money is that they are captured by the idea that we must tax as much as we can and hand out to every man and his dog that same money usually in the form of pork barrel politics. Student loans and so on.
    IMHO it would be better to move to more and more user pays (which no one likes any more than they like paying tax) and reducing the States need to grab tax.
    The local councils are the same. e.g. once the ratepayer never paid for bus companies to transport other people on our money, now its all the rage so the rate payer via these socialist institutions pays for non working bus services to transport other people in an inefficient manner.
    Currently in the BOP the subsidy is 80% of fares and probably more if the truth were known.Worse is that the bus services go where the numpties in an office declare they need to rather than the customer setting the choice. (it’s a whole other subject something akin to Uber that needs deregulating).

    Taxation needs reducing and people need to learn to use their incomes more wisely.

    ” Many rental property owners have not been declaring positive net taxable income, but have still made good overall returns through capital gains.”

    The main reason that rental properties have not made to much taxable income is well tied to your own arguments re interest rates and the state of the economy. To make a profit expenses such as interest, rates have to be contained and the record there is dismal. I was paying 10.5% interest several years back so it takes a lot of rent to cover that. That at a time when people were leaving NZ at a rate of 30- 40 thousand a year. When where we have our rentals the population were going mining and forestry was in a big hole.So renters were thin on the ground and in many cases were generally low quality resulting in empty houses and damage etc.High cost low return and before anyone says you should have sold them that market was stuffed as well so selling would have resulted in being underwater. Not what I invested for. Add to that the increasing local body rates and the loss from rentals was very real.

    Of course that has changed now with much lower interest rates and better tenants and much better incomes. The local body efforts are still increasing however. Apparently the dogodders in these places think that the ratepayer as opposed to the residents should pay for all the nice to haves for the residents to use and abuse. and don’t bother with the line that your rents reflect the fact because as above it is clear rents are for the rental of the dwelling not the ancillary services provided by various other outfits for their own aggrandizement.

    English was at pains many times to point out that the Govt.’s net income from rentals was positve and that will become much more so this next year and going forward. It’s a healthy sign of the business that rental properties are.

    The issue for people renting is rather one of their incomes and their spending, their oversea’s experiences and so on. Actually their failure to establish their life’s purpose and set goals that will get them their. Their problem not others.
    Now I never said it was easy but I see young people owning houses and I see older people who never do. It’s a choice one makes along with the sacrifices.

    While Gareth’s discourse is a good discussion it seems to me to point outjust how bad it could be rather than providing simple solutions that will benefit NZer’s and the productivity of NZ.


    • The government nets a cash return in excess of $1 billion a year from the removal of depreciation on building. Landlords are being made to even pay for renters use and abuse of buildings. In a commercial tenancy, renters have to return a property to the original new condition. But in residential property landlords are made to carry the burden of wear and tear, repairs and maintenance plus no tax relief from depreciation.


      • Yes, I thought the removal of depreciation on buildings was a disgraceful revenue grab. not grounded in any good analysis. It is land that has been rising sharply in value, and which doesn’t depreciate, not the buildings.

        Much though I sympathise re your other comment, presumably over time those judicial decisions will be reflected in higher residential rents, to cover the expected costs of the use/abuse?


  8. Thanks Michael and Andrea – both really interesting and useful commentary. I was a huge fan of The Big Kahuna. It was the introduction of a UBI that so excited me as being a positive and revolutionary social change – no more ridiculous abatements as a disincentive to work; no more discrimination based on circumstance; no more WINZ and its dehumanising effect on those already disadvantaged through circumstance; no more ‘partner policing’ of solo parents; no more preferential treatment of the elderly over the disabled, the displaced and the otherwise downtrodden in our society. People, all people, would be free to live and work where, when and for how much (or little) as they pleased without state interference in their lives. And for those in paid work – a flat, tax free threshold equivalent to the level of the UBI. Nothing could be more simple/advantageous to the low income worker.

    So to fund it, the tax base needed to be expanded, and Morgan and Guthrie suggested a comprehensive capital tax. It all made perfect sense.

    But now TOP have dropped the welfare reform side of the ledger. All of the above advantage is lost. The couple with young children on a single income already likely receive tax credits via WFF – many not paying any or much tax on their income as it stands. What they (and we/society) need is for the full time child-rearing partner to collect an income for their work.

    Hence, I don’t see this proposal benefiting many at all – and without having any numbers to ‘plug in’ (as was the case in the Big Kahuna), it seems to me to be an empty promise of social reform altogether. It’s a tax proposal and we have no idea of the real redistribution effects.

    Liked by 1 person

      • Yes, I read that reply, but isn’t that the whole point of a new social/political movement – that it deals to those abominable (his word) social issues of a time that no one else mentions, let alone tackles?

        To my mind, transformational change is just that: i.e., transformational – not incremental.

        The abomination/injustices of our current social welfare settings – and the solution to it (a UBI) – isn’t part of the TOP conversation – that’s a huge missed opportunity to my mind.

        Of the seven proposed policies, welfare isn’t one of them;

        Liked by 2 people

  9. Imputed rental value of owner occupied housing (net of mortgage interest and some expenses) should be taxed as income. This was the case in the UK until the 1960’s/70’s, and in various forms in many other countries. Clearly, failure to tax it amounts to subsidy to owner occupiers effectively capitalised into higher house prices. It is inequitable that rent payers effectively do pay tax at income tax rates on the rental value of the property they occupy (they have to find a gross amount of income and pay tax on that before having a net amount of income with which to pay rent). Until the 1980’s the scale of subsidies tended to be received by a significant proportion of rent payers (i.e. various kinds of government social transfer payments received by beneficiaries) tended to complicate the inequality equation. But those subsidies have since greatly reduced – thus greatly reducing that complication. Introduction would broaden the tax base, remove a subsidy capitalised into higher house prices and remove a gross inequity. Introduction could be “neutral” on total tax take – through reductions in direct taxes – e.g. in GST.


    • The tax working group had already put to the John Key National government that the preferred tax option is a tax on invested equity. However such a tax was disregarded as being unfair on the elderly who do not have an income to service the tax obligation and also unfair on those that have worked hard and saved towards paying off the debt of their homes.

      Homes owners pay interest on their homes which is significantly higher than the rent obligation of new home owners. A additional tax on home ownership is an additional burden when compared to a renter. Land tax and water rates is a form of home ownership tax that is already being paid for the use by renters.


  10. Gareth wants taxes on tourists and he wants taxes on land based industries polluting our waterways which is in line with my argument that 10 million milking cows generate only $10 billion but costs the taxpayer in dirty and polluted waterways and pollute the ozone, together with 4 million tourists this year and 18 million inbound and outbound traffic in Auckland Airport leads to congestion, congested motorways and congested accomodation in Auckland.


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