In July, State and Federal leaders met to discuss funding and Tax reform. High on the agenda was raising the GST rate, particularly as States are facing massive funding shortfalls for Education and Health over the coming years. There has been support among State leaders for various changes. Michael Baird is said to favour a rise from the now 10% to 15% with the funds going to Health and lower households effected, two Labor Premiers are against a rise and are looking for an increase in Medicare levies. Others are looking for a slight adjustment from 10 to 12.5%. Whatever the case, it seems fairly obvious that at some point the GST rate will be increased. Generally speaking the GST is seen as a regressive tax which basically means that people on a lower income are impacted more. The higher income person pays more tax but it is in a lower proportion of their total income and of course Fresh Food, Education and Health Care are exempt from GST, so the question on all property investor’s lips should be, ‘How will an increase in GST impact on the property market?’
Firstly a positive, is that by increasing the GST to raise the necessary revenue it takes the focus away from raising revenue in other areas especially the easy pickings in Federal and State taxes associated with land and property, such as abolishing negative gearing, land taxes, and stamp duties. In recent time there has been some discussion on Property Taxes. A new Grattan Institute paper finds that a modest property levy of just $2 for every $1000 of unimproved land value would raise $7 billion a year for the states and territories. The annual charge on the median-priced home in Sydney would be $772, in Melbourne $560, and lower in other cities and regions. A broad-based property levy could help plug the gap for schools and hospitals left by the Commonwealth’s decision to cut funding to these areas from 2017-18. Based on historical price trends over the past two decades, revenues from a levy on unimproved land values could double to as much as $14 billion by 2024-25, offsetting much of the projected shortfall from Commonwealth cuts.
However the major impact on an increase of GST is what it may do in the short term to property prices. At the moment we are seeing quite a surge in development across capital cities in Australia in particular Sydney and Melbourne to meet the pent up demand for housing, and housing prices in these capitals reaching all time high levels. Developers are now making reasonable margins on building, especially with low interest rates to make the risk/return beneficial which also means that housing stock is more readily viable taking away the need for Government investment in public housing. However this could all change with an increase in GST.
If you understand how GST works, the additional GST normally would be simply passed on to the final consumer or claimed back from the government, but in the case of property development the additional cost is borne by the party before the final consumer, the developer. The developer does not have another consumer in the supply chain. This seems like good news for home buyers as they do not have to pay GST when purchasing a home, however it is no stretch of the imagination to think that developers would try to build in the additional tax into the final sale price. Once again this will depend on supply and demand of the market, the developer may not be able to simply raise the property sale price by 5% to recoup the GST if the market does not accept that price, and hence they will have to wear this cost. Remember also that GST does not impact old housing stock so it could be also conceivable that the developer is competing with the house next door that is for sale that has no GST.
As a means of example and excluding the margin scheme, take a modest $500,000 new home or home unit in Australia today. The purchaser is paying 1/11th of that purchase as GST. That’s around $45,500 in GST going to the States. Plus depending on the State there’s anywhere from around $10,000 or $20,000 in stamp duty collected. If the GST was raised to 15 percent as an example, a $500,000 property jumps by approximately $23,000 overnight. As mentioned, a second hand house sitting right next door experiences no change in tax treatment so the new home buyer is now potentially paying $522,727 for this house of which now $68,100 is GST. Add to that the various infrastructure charges, duties, charges and various taxes or levies, and people buying a new house in this scenario could easily be paying well over $150,000 in total taxes on their new home.
If the developer cannot pass the extra cost of the GST onto the buyer then to get a sale, they will have to pay the GST themselves and this will significantly reduce their margin, potentially put them under financial stress and make them reconsider their next project.
The lessons we learnt when GST was introduced many years ago was that there was an initial knock on effect on the values of second hand housing stock and also a reduction in profit margins made by developers due to not been able to pass on the full amount of the GST which meant that construction of new housing slowed.
In my view an increase in GST could see a further short term stoking of the ambers of an already heated property market and that is worrying a lot of people from the Reserve Bank, from the Governor down.
Founder & Non Executive Chairman Chan & Naylor Accountants
Disclaimer: This article contains general information. Before you make any financial or investment decision you should seek professional advice to take into account your individual objectives, financial situation and individual needs.