What should replace the flawed council tax?
Almost everyone agrees that council tax is unfair, flawed and has no long-term future – but how should it be replaced?
Jerry Jones
An earlier version of this article was first published in Morning Star, 27 April 2005.
Council tax leapt into the headlines last week with the Tories announcing that they would stop the revaluation of domestic properties now in progress in England, scheduled to take effect in 2007. As with everything else about their campaign, this is blatantly opportunist.
Already a deeply unpopular tax, they are seeking to capitalise on people’s fears that the huge escalation of property prices since the last valuation in 1991 would mean that they are in for a sharp increase.
As it is, since 1997, council taxes on average have jumped 70 per cent and unlike income tax, which is deducted from earnings, it is in your face when the annual bill comes.
However, it is not absolute property prices that determine the level of council tax, but relative prices, so following revaluation, there will be winners and losers according to whether people’s properties go down or up a band or two.
The losers will be households in areas where house prices have risen more than the national average.
In Wales, where revaluation has already taken place, for 57 per cent of households there was no change, because their properties remained in the same band, 8 per cent found that they would pay less, because they had moved down a band, and 35 per cent more, because they had moved up a band or two.
Meanwhile, council tax, on average, accounts for only 25 per cent of local authority revenue. Around 45 per cent comes direct from central government, mainly in the form of the revenue support grant.
A further 22 per cent comes from the national non-domestic rate, often called uniform business rate, which is levied on business properties. This is, set by central government, collected by local authorities, then pooled and redistributed to local authorities on a per capita basis.
Finally, 8 per cent comes from various fees and charges.
It is widely recognised that this arrangement for local government finance is deeply flawed, particularly with regard to the council tax (see below).
Many people, therefore, advocate replacing council tax with a local income tax. Indeed, that is the official policy of the Liberal Democrats and also the Communist Party.
But this is not straightforward. First, because so many people live and work in different jurisdictions, its collection would be considerably more complex and costly compared with council tax, especially if it included unearned income not covered by PAYE.
It would also be more costly if local authorities themselves became the tax collectors instead of the Inland Revenue, in the unlikely event that central government would allow that.
Furthermore, it would be hugely inequitable because of the huge difference between the mean income in more affluent areas and in poor areas.
Finally, getting rid of the council tax, as a Morning Star reader pointed out last week, would get rid of our only widespread wealth tax – that is, apart from the mis-named inheritance tax, which, because it is easily avoided by those with good advisers, ends up only being paid by 3 per cent of those to whom it should apply.
One approach would be to make the council tax less regressive, by increasing the number of bands, especially at the top end, and raising the ratio of tax paid by those in the top band and those in the bottom, from the current 3:1 to, say, 30:1.
However, far better would be to replace both the council tax and the uniform business rate with a land value tax (LVT), or what really is a location rent, since it is not so much a conventional tax as a charge for the space we occupy.
The value of land is created not by landowners but by what nature provides, and by its position in relation to public utilities, communications and population.
In other words, it is created by society, and, therefore, it should be society as a whole that receives the benefit.
As discussed in my series of columns on LVT in June to August last year (now reproduced in a pamphlet, see below), it is relatively easy to assess the value of land, which involves discounting the value of buildings and other improvements, and taking into account its optimal permitted use in accordance with planning regulations.
Since then, Oxfordshire County Council has completed a detailed study in its Vale of White Horse District, which demonstrated that it is perfectly feasible to replace the council tax and uniform business rate with a local land value tax.
Moreover, once the initial valuation has been carried out, the costs of updating it would be minimal, because unlike buildings, land is less variable, so that extensive use can be made of geographical information systems and computer-aided mass assessment.
Of course, since land use has evolved historically in line with prevailing tax structures, there are bound to be winners and losers with the introduction of LVT, and this was born out in the Oxfordshire study.
This particular study area was relatively small, and especially chosen as a contrast to central Liverpool where a previous study had taken place. It was therefore not intended as typical of the country as a whole.
When trying to extrapolate the effect of LVT nationally, account should be taken of the fact that there would be additional revenue across the nation from highly valuable urban, derelict or brownfield sites, from city centres where land values are high, and from agricultural land, which, currently, is not taxed.
For the average household, therefore, even in the Vale of White Horse, the tax payment necessary to achieve the same income would be considerably less than the Oxfordshire study would indicate.
The transition to LVT could be further facilitated by introducing a home allowance, analogous to the personal allowance for income tax, so that LVT would only be paid beyond a certain threshold.
This would be particularly helpful to people on low incomes and in areas of high residential and low commercial site values – such as the Vale of White Horse.
As discussed previously, LVT has many other advantages over other taxes, especially that it tends to encourage enterprise and optimal land use, rather than the opposite, which is a problem with some other taxes.
In particular, gradually raising the rate of LVT will cause land prices in real terms (that is after taking account of inflation) to fall because they would be discounted by the capitalised value of the LVT.
This would reduce the cost of housing. The actual cost of building houses since the early 1990s has changed hardly at all, and existing houses tend to decline in value due to wear and tear. The huge escalation of house prices, therefore, has been due almost entirely to the rising value of land.
LVT also acts as a proxy tax on wealth.
The main disadvantage of LVT, which applies also to the council tax, is its impact on people living in high value areas but on low incomes.
However, this could be mitigated, for example, by allowing the tax to accumulate with interest, which would become payable when the property is sold or transferred to heirs.
Obviously, moving to a system of land value taxation and allowing it gradually to displace other inferior taxes will involve a major upheaval.
But the important thing is to get the process started, so that advantage can be taken of its profound economic benefits, and so that society, rather than landowners, starts to benefit from the rising value of land that society itself creates.
Why the council tax needs to go
Its biggest flaw is that it is severely regressive. The structure of the banding system and the difference between the levels of council tax paid in different bands means that the rate of tax actually falls the greater the value of the property on which it is levied.
Someone in a house worth £1 million in 1991 pays only twice the amount of someone living in a house worth £70,000, and only three times the tax paid by those in the poorest accommodation.
Next, council tax takes no account of people’s ability to pay, though this is relieved to some extent by the means-tested council tax benefit that is claimed by almost half of all households in the lowest band.
But this creates a “poverty trap” when people’s incomes go up, due to the withdrawal of benefit as earnings rise above a certain level. Furthermore, the take-up is only around 70 per cent, so that many people, especially pensioners, lose out from not claiming their entitlement.
Another problem, is the so-called “gearing ratio”. Since council tax only accounts for 25 per cent of total expenditure, if a local council wishes to raise spending by, say, 5 per cent, it will require a council tax increase of 20 per cent, a gearing ratio of 1:4.
For poor areas, where central government support accounts for a greater proportion of revenue, such as in Tower Hamlets, where the gearing ratio is 1:9, increasing spending by 5 per cent means an increase in council tax of 45 per cent.
Furthermore, the council tax has to bear the brunt of any shortfalls in revenue caused by central government deciding to cut its support if councils are to maintain the same levels of service.
Finally, since local politicians control only a third of the revenue, this undermines their relationship and accountability to their constituents – there is a democratic deficit.