We're at the TAX BREAKS stage of the PROPERTY CYCLE

We've used monetary policy to try and stop homes being built. Now, those losing out are blaming charges that fund infrastructure and want a bail out.

As I explained in The Great Housing Hijack, property markets go in cycles and policy debates follow behind.

We are now at the point of the cycle where we debate taxes on new development levied to help fund associated infrastructure—infrastructure charges, developer charges, or impact fees.

Although the policy debate is resurfacing in Australia too, Canada’s property cycle is a little ahead, so that is where the debate has really heated up. There, removing GST on new homes is another policy target.

For example, here’s a property guy having a whinge, and another. Here’s an organised lobby campaign with its taxopoly board game designed to draw attention to the issue.

And here are two recent Canadian podcasts on the topic.

Tax policy lobbying is the next phase of the naked rent-seeking cycle. During the asset price boom, property owners told stories about zoning in order to get highly valuable planning changes applied to their property—higher prices meant higher allowed densities became more valuable to landowners.

Now, during the asset price bust, they want a bailout in the form of a tax break.

I’m sure all the property developers in the sector feel like they are trying to do the right thing and that taxes and regulations are limiting what they can do. But remember, markets aren’t forcing anyone to buy a property with certain planning regulations or taxes.

I want to get into the details of the often-forgotten economics in these debates.

But before I do a quick note.

Right now, Australia and Canada's monetary policy settings are trying to stop new home construction. Sure, Canada has seen a few rate cuts recently. But for over two years, from early 2022, the policy intention has been to slow homebuying and hence reduce prices and homebuilding.

So when people who build homes complain that no one is buying, what should we think?

We don’t want people buying new homes and soaking up construction workers and materials right now, contributing to inflation.

If tax changes did spur an enormous building boom, we would have to increase interest rates more to meet inflation targets. Weirdly, we too often ignore this.

Some background

In 2010 I worked at the Queensland Competition Authority assessing council calculations of infrastructure charges against the required legal method. This method was established in 2003 in response to the development industry arguing that councils were over-charging with fees on new development with no basis.

They thought it was a money grab.

The basic idea of the policy then was to ensure that new projects only paid for the additional capital needed to service them in the major infrastructure networks. To do this, required planning for infrastructure needs and costing major works in different parts of each city. Then, charges to recover only these additional costs could be levied on new projects. Since charges would be location-based, it would send a price signal about which locations were cheapest to service with new trunk water, sewer, road, parks and stormwater infrastructure.

As it was common practice for new projects to pay for their local infrastructure connections, these costs were based only on necessary trunk upgrades to accommodate the growth that was not covered by such arrangements.

Those costing efforts showed that some parts of each city were cheap to service for new development, while other parts were expensive. Charges would vary in some cases between $5,000 to $40,000 per dwelling depending on the location, reflecting differential infrastructure costs in different parts of the city.

After the financial crisis property downturn, a task force was established to review the charges. Soon after that review was completed in 2011 it was announced that the prior policy was no longer applicable and a fixed charge per dwelling statewide be adopted.

Unlike much of today’s commentary, that task force didn’t blame these charges for the downturn in development.

Queensland’s infrastructure charging regime is not the major reason the property market is experiencing a downturn, just as Queensland’s infrastructure charging regime was not the reason Queensland outperformed the country for the most part of the last decade. The global financial crisis has resulted in tighter lending conditions and higher financing costs while market participants are more risk averse.

Instead, the review reflected the simple fact that most property owners didn’t want to pay for the full cost of infrastructure for their potential future projects and wanted others to pay instead.

To be clear, In Queensland we implemented a complex costing process to tie charges to costs because property developers thought they were being overcharged. Since that didn’t result in most charges falling, we got a new story about complexity, which got the charges capped statewide.

One predictable outcome has been that development in expensive-to-service locations is now subsidised by development in cheap-to-service locations.

But an unexpected outcome has been how the fixed charge has side-stepped constant political battles over whether charges were justified by costs, and whether the right infrastructure was being planned and priced.

Perhaps this cycle, however, we will revisit the Canadian experience and argue again that it is an unjustified and arbitrary cash grab and switch back to the initial arguments.

And so the cycle goes.

Economics of developer charges

I think the most important economic questions about how these charges affect housing and property markets are:

1. Should new development pay the full cost of development, both on-site and off-site capital works?

2. How do taxes and charges on new development affect housing prices and the feasibility of projects?

Should growth pay for growth?