The Future of Local Taxation in Scotland: Principles & Evidence

1. The Future of Local Taxation in Scotland: Principles & Evidence Kenneth Gibb & Chris LeishmanJune 2008

2. Overview • Local tax principles • Reflections on the Government position and the Consultation Paper • Revisiting the Rubik’s cube: the need to reform structure, finance and function together • Single and multiple taxes • In defence of property taxes • New evidence on house price capitalisation effects • New evidence on the consequences of a council tax revaluation • Tentative conclusions

3. The Government Case • Replace the council tax with an income tax based on 3p in the £ across all taxable income • Significant financial shortfall in revenue raised to be met in large part by a claim to the council tax benefit savings • HMRC are expected to administer/collect the tax • This assumes that other legal issues are overcome as to whether this is a national or a local tax • Let’s turn to the multiple criteria used to evaluate alternative taxes

4. Principles of Local Taxation • Fiscal Federalism literature and various green papers and committees of inquiry since Layfield • Feasibility • Fairness • Local accountability • Economic impacts/unintended consequences

5. Feasibility • Administrative efficiency • A predictable & secure tax base • Collectable? • Buoyancy • Property taxes and revaluation • Collection of local income tax • Administration of means-tested benefits

6. Fairness • Fairness as progressivity- measurement issues- one tax or the tax net of benefit ?- fit with the entire tax/benefit system • Fairness as horizontal equity- equal treatment of different groups • Fairness as benefits received- consumption or user price argument- tax/benefits capitalisation

7. Accountability • Transparency between spending, taxing and voting • ‘User benefits and pays more’ principle link to fairness arguments • Households versus individual tax liabilities • 100% low income rebates and other non tax payers • The role of the national tax payer and local tax ‘gearing’

8. Economic Impacts • Minimise distortions to economic activity and its location (tax-induced inefficiencies) • Marginal tax rate implications on supply of labour, savings and investment decisions • Inter-authority domestic property tax capitalisation • Business location decisions (tax capitalisation again) • House price effects of tax changes and evidence from rates abolition

9. Grant funding and income distribution • Little discussed aspect of the proposals concerns how the income raised from the local income tax is distributed • It will not be kept where it raised but rather collected centrally and then allocated out according to a new but not yet constructed national needs assessment for local authority funding, • A hugely complex and controversial topic in its own right • And then there are the central v local accountability arguments…. • Is this all a tactical way of continuing the constitutional debate by other means?

10. Revisiting the Rubik’s Cube • Gallagher et al paper (2007) • Back to Layfield – central or localised systems of local government – structure and finance (grant v tax and choice of tax follow) • Living with the poll tax system in 2008 – gearing and the local tax element • Nationalising education and care? • Building a case for a hybrid tax and a localised business tax

11. Single and Multiple Local Taxes • Connecting income source to service type • Need, redistributive, amenity and facility services • Income and property domestic taxes for amenity and facility services • Business taxes split between national and local services? • Multiple taxes and the national benefits system • Optimal tax literature arguments for multiple taxes • We need more evidence on distributional impacts

12. In Defence of Property Taxes • Old view and the new view of property taxes • Domestic property and the UK tax system • Feasibility • Fairness • Accountability • Wider economic effects • Exposing the shortcomings of the council tax should not undermine the broader case for some kind of property tax • Options include national and land taxes as well as local property taxes

13. The logic of capitalisation effects • Council tax payments come from a household’s budget so the following measures are inflationary • reduction in regressivity • reduction in “hidden” local discounts • For example, consider spending £200k in the housing market. What CT liability would you be buying in Edinburgh compared with Argyll & Bute or Shetland Isles? • CT liabilities are based on 1991 prices

14. Variation in local house price growth

15. Sharing the council tax cake • Local government finance is complex! • Central grant based partly on: • general need (formula based assessment) • LA ability to fund (% share of Scotland band D equivalents) • + other (ring fenced) grant aided needs • Consider two LAs (high and low price growth) and a system of tax fixed at 1991 prices • Over time, households in the high price growth LA benefit • This might cause additional inflation (circularity)

16. Returning to capitalisation… • House price model based on 8 Scottish sub-regions 1994-2006 • Panel model using “long run” price specification • change in Price = f(disposable income, gross income, hh:stock, UCC, price level) • User cost (cost of owner vs renting): • = MR + T.P + d + rp - g

17. Effects of replacing council tax with something else • Depends on price elasticity with respect to: • income (gross / disposable) • property tax rate • expected price growth

18. Within sample forecasts

19. 50% CT and 1% local income tax

20. 0% CT and 3% local income tax

21. Simulated revaluation (new band limits)

22. Big changers (LAs) – Band D equivalents

23. Predicted key movers in Band D equivalents

24. Individual households – significant band movers

25. Tentative Conclusions • Government proposals are problematic across different dimensions and principles of taxation • Good local and national arguments in favour of a well-designed property tax • The structure of local taxation interacts with the grant system: revaluation essential to the credibility of a property tax may at the same time undermine the robustness of the finance system • Abolition of council tax has small house price effects where disaggregated analysis suggests offsetting income effects reduce the impact of relative price change • Revisit property taxes and hybrid/multiple local taxes in a wider context of reforming the system of local-central government relations • In the shorter run:- a hybrid domestic tax- an element of local control over business rates- further debate on needs assessment