The long-term effects of capital gains taxes in New Zealand

Abstract

This paper develops a model of the housing market to examine the long-term consequences of different types of capital gains taxes. The model, which uses an overlapping generations framework to model the housing demands of agents who differ by age, income, and wealth, incorporates rental and owner-occupancy options, credit constraints, detailed tax regulations, and a construction sector. It suggests capital gains taxes will raise rents, increase homeownership rates, promote smaller houses, and increase the net foreign asset position. The welfare implications are less clear, particularly for young low income households that will face higher rents.inflation, credit constraints, capital income taxes, housing markets, home-ownership rates, monetary policy,

Housing, the ‘Great Income Tax Experiment’, and the intergenerational consequences of the lease

“…For instance, young people may leave home at a different time in response to the tax rules, because of their effect on house prices and rents, or the divorce rate may change. Coleman (2010Coleman ( , 2014 households that have a mortgage and who expect to be mortgage free at some point in their lives, as the opportunity costs of purchasing a house depend on future as well as current tax rates. The correct opportunity cost of purchasing a house for households that have a mortgage is the average of the pre-tax interest rate and the after-tax interest rate, where the weights are the fractions of time the person expects to have a mortgage relative to the time they expect to be mortgage free.…”

“…Let π = inflation rate, assumed to be the rate at which P H (θ) increases through time; 13 The model Coleman (2010) uses to study the effect of capital gains taxes on housing markets uses an opportunity cost that is the average of current and future after-tax interest rates.…”

“…Even though rents and prices are determined simultaneously in the market, equation 10 will hold so long as landlords participate in the market, in which case house prices will equal the expected present value of future rent streams. In this section it is assumed that property prices increase and therefore that rents must increase if landlords are to participate in the market; in more complete models such as Coleman (2010), rents and house prices are determined simultaneously subject to the landlord participation constraint.…”

“…To understand the overall effects of taxes on property prices, however, it is necessary to model these incentives simultaneously in a general equilibrium framework, along with other factors that affect the supply and demand for housing, such as the extent that agents are affected by borrowing constraints and the supply elasticities of new housing. Coleman (2010) provides an example of an equilibrium model of housing markets that simultaneously incorporates many features of New Zealand's tax system and banking markets.…”

Policies to Rebalance Housing Markets in New Zealand

“…In these circumstances, denying mortgage interest deductibility and imposing property taxes can act as a second best approach to counteract the resulting bias towards housing investment (Johansson et al, 2008). Furthermore, Coleman (2009) finds that in the absence of a capital gains tax, a property tax can act as a good substitute in producing similar effects on welfare, rents, prices and home ownership rates.…”