Valuing the land: How to get the measure of our land’s price
Morning Star : July 21, 2004 : Jerry Jones
Reproduced here by kind permission of Morning Star.
Since it is nature and society as a whole that creates land value, everybody should benefit from its rising value and economic rent, not just the individuals or enterprises that happen to own or occupy a particular site.
This is not only fair, but also helps to ensure that the best use is made of land, including if it is state-owned.
In principle, the collecting of economic rent from land is simple.
It is to charge the owner of each site a tax, or, in the case of state-owned land, the occupier or leaseholder a ground rent, according to its value, disregarding what is built on the land or how it is currently being utilised.
In most countries, including Britain, land is subject to planning regulations, and this, of course, will affect the value of particular sites, and therefore the amount that can be charged.
For example, land in the middle of town, with all the amenities available, would have a high value if designated as residential or commercial, but a low value if designated as a park, which would limit the extent that the site could be developed.
Similarly, land on the edge of towns might be designated agricultural or common land, perhaps as a measure to contain urban sprawl or protect a “green belt”, which would have a very low value compared with neighbouring sites designated residential or industrial.
All of this would be taken into account when each site is valued, which would be according to its optimal permitted use within the planning regulations in force.
But how to measure land values?
The only truly objective measure is when a piece of bare or cleared land, or its lease, is sold, assuming that the price paid – the actual negotiated price, not the advertised price – is a measure of its value to the economy, and therefore society, at that moment.
The trouble is that, mostly, when land is bought and sold, it is along with the buildings or productive activities on the land. How can the value of the land in such transactions be separated out?
A further complication is that the prices of properties (buildings plus land) are highly affected by the availability of credit or mortgages – that is, how much risk lenders and borrowers are prepared to take. And if credit availability is only loosely regulated, as in Britain, prices will tend to be higher that they otherwise would be.
However, even so, this arguably would still reflect the prevailing economic value to society of the land and the developments on it.
Meanwhile, at any one time, barely one per cent of existing properties are actually on the market, so that while it may be possible to know the value of the properties being sold, how can one know what the value is of the other 99 per cent of properties?
This, of course, is a problem with all taxes based on property, including the current council tax and uniform business rate on domestic and commercial properties, respectively.
But within the property industry, a whole profession of valuers has grown up who are able to give reasonably accurate estimates of the value of properties, taking into account their location, and the prices being fetched by similar properties in the neighbourhood currently being sold.
It is on this basis that council taxes and uniform business rates are set.
However, this clearly involves a subjective element, which not only calls into question its fairness, but also involves costs in terms of appeals.
Indeed, the Valuation Office, responsible for the valuation of commercial properties, spends four times as much on contesting appeals as it does on producing the rating lists.
This is less of a problem for domestic properties since, for council tax
purposes, these are grouped into fairly broad bands, so that appeals tend
to concern only properties close to the borderline between bands –
though that does not make it a fair tax.
In short, even now, the methodology of measuring property values lacks objectivity
to some degree.
Meanwhile, a tax system based on land values would require a whole new profession of land valuers, capable of valuing land separately from the buildings and developments on the land.
In one sense, valuing land is more difficult than valuing properties including land, because the incidence of bare land being sold – providing a benchmark for valuing other land – is even more rare than the sale of properties with land, which itself, as noted above, is only a small proportion of the total number of properties requiring valuation.
On the other hand, land itself is less complicated to value than buildings because the only factors to consider are location and its potential use consistent with prevailing planning regulations, whereas for buildings, in addition, other factors, such as the state of repair, what the buildings are being used for, how old they are, their architectural merits, and so on, have to be taken into account.
Thus, the valuation of land can be much more easily generalised, allowing the extensive use of modern information technology, such as computer-aided mass assessment and geographical information systems (GIS).
By collecting data on sales of similar properties in different locations, and on the sales of different properties in the same neighbourhood, as well as differences between property prices and their values for buildings insurance purposes, and other data, it would be possible to separate out the land component, so that reasonably accurate estimates of land values could be made all over the country.
This and other information can then be used to construct what Tony Vickers, who works at the School of Surveying, Kingston University, and is pioneering such techniques, has called a “land-value-scape”, in which maps, instead of showing contour lines depicting topography, show lines connecting locations with similar land values.
In other words, knowing the area of a site, one can immediately calculate its value by referring to its position on the map.
Once such a system was up and running, by recording and tracking property sales and other data throughout the country, it would be possible to update land values more or less continuously.
Over time, it would be possible to incorporate new data, perhaps using a points system, that would take into account proximity to amenities and services, which would increase land values, or congested roads or unsightly vistas that would depress values – so that the system of land valuation would become ever more refined.
However, these methods give the capital value of land in different locations, when, for the purposes of collecting the economic rent from land, it is its rental value that is needed.
Capital values can be readily converted into rental values by multiplying the former by the prevailing discount rate – the average going rate of return on capital invested in all economic activities (see below).
The effect of land value tax on land values
Consider a piece of land valued at £100,000. If the discount rate were, say, 5 per cent, using the above formula, its rental value would be £5,000 per annum.
A land value tax at 40 per cent, therefore, would yield £2,000.
Following the introduction of the tax, this would mean that the market rental value of the site would fall to £3,000 (£5,000 minus £2,000). The market capital value of the site would also fall, in this case to £60,000 – a figure obtained by dividing the new market rental value by the discount rate of 5 per cent.
In other words, the fall in market capital value is 40 per cent – the same as the rate of tax. This applies whatever the discount rate.
If the rate of land value tax was 60 per cent, the tax yield would be £3,000, and the market capital value of the site would fall by 60 per cent, to £40,000.
However, note that, in both cases, the total rental value of the site would remain £5,000.
It is just that £2,000 or £3,000, respectively, would now go to the community that created the value of the land instead of to the landowner as rent, or as capitalised rent when he or she sold the site, or as imputed rent from the advantages enjoyed by owning the site.
All these calculations, of course, are somewhat theoretical, because, what happens in practice will be much affected by changes in demand and supply, interest rates and the availability and uptake of credit, as well as the performance of the economy in general.
However, they explain, why, once a land value tax is introduced, the capital value of land tends to decline in proportion to the rate of tax. As will be discussed in my next column, this has positive and negative implications for introducing a system of land value taxation.
Read fourth article in series of 5.