Originally posted on Business Post 16 May 2021.
The wholesale purchase of estates is a serious problem, but there are many reasons for the high cost of homes, and the most important is lack of supply
Beware of name-calling. Pension funds, clearly, are good; so-called cuckoo and vulture funds, clearly, are bad. However, pension funds, vulture funds and cuckoo funds are all versions of the same thing.
Large investments call for the large-scale pooling of resources, or otherwise the investments could not happen. That can be done by the state, or by the private sector and one way for the private sector to do it is to form a company. The company raises money through issuing shares, corporation tax is paid on the profits and whatever is left gets taxed a second time when dividends are paid to the shareholders.
Another way is to create an investment fund where the income from the investments gets taxed only once. That is when the returns are paid out to the unit holders of the fund.
This is undoubtedly a big benefit to the unit holders. Yet if property investment funds did not have this kind of tax arrangement, it is likely there would be less capital in the Irish property market to build houses, just as if pension funds did not have such tax arrangements, putting aside money for retirement would be even more expensive than it is now.
This is not to suggest that the wholesale purchase of housing estates, as highlighted by this newspaper, isn’t a serious social and political problem. An investment fund, by definition, will have far more purchasing power than any individual first-time buyer.
The purchasing power of Irish Real Estate Funds (Irefs) and Real Estate Investment Trusts (Reits) was most evident in the commercial property sector up until relatively recently, but that has changed. Foreign investors in the Irish property market who use investment funds are more likely to pay tax in their home country rather than here, which is also a legitimate cause of unease.
Nevertheless, the cost of housing is a result of many factors, the most important being supply. The behaviour of investment funds in the Irish residential property market is not purely because of tax incentives. It is because the Irish residential property market is currently a solid investment opportunity. Not only is it a good bet now, but it is also likely to remain a good bet over a five- to ten-year horizon because it will take time for supply to ramp up.
If tax policy has not created the current problems, it is unlikely to fix them either. Successive Irish governments have aggressively used tax policies in attempts to manage the residential property market since the early 1980s. That we still have supply problems shows how futile these attempts have been.
We started in the 1980s with capital reliefs for investment in residential property. The supply improved, but the quality arguably did not. The availability of cheaper money in the mid-1990s resulted in a rapid rise in property values, leading to the then notorious Bacon report which called for increases in stamp duty and reductions in tax reliefs.
After all that, we still couldn’t avoid a property crash in 2008, but now changes to the property tax regime are on the government agenda yet again.
Based on the experience of the last 40 years, tax measures on their own will be ineffective in resolving the current crisis. Over the decades, the costs of construction have gone up for a myriad reasons. Construction standards are far higher than they once were and having planning permission is no longer a reliable signal that construction can commence.
Additional taxes, either on property purchases or on rental property returns, may well swell government coffers in the short term but they won’t do anything to bolster supply.
It is worrying to hear opposition parties call for tax increases and restrictions on the activities of investment funds with apparently little thought for anything other than the political optics of the situation. A primary reason for the introduction of the Reit was to attract new sources of non-bank financing to the Irish property market. If that was the case at the time of its introduction, in 2013, it is even more the case now in the context of the withdrawal of Ulster Bank and KBC from the Irish market.
Any tax policy changes should be aimed at promoting supply by reducing development costs rather than punishing investment, whether those investments are made by investment funds or, for that matter, anyone else.
A tax payment holiday for developer PAYE and Vat costs could be offered until a housing development is fully completed and sold. There might be merit in allowing enhanced tax deductions against the cost of training workers in the construction industry or for providing safety equipment. An upfront tax deduction for the capital cost of the heavy plant and machinery required in the industry, as operated in the 1980s, could also be reintroduced.
Such tax changes can only help, but not completely solve, the dilemma of providing affordable housing. The ultimate answer lies in either directly providing additional state funding for property development, or the state facilitating its supply; one such model is the government’s Home Building Finance lending facility. It does not lie in name-calling investors, nor in short-term tax hikes to quieten political opponents.
Dr Brian Keegan is Director of Public Policy at Chartered Accountants Ireland