Orville F. Grimes, Jr.
A wide range of taxes on urban land has aroused special interest in the developing world recently. In view of the limited success such taxes have had elsewhere, this could seem paradoxical. Yet in the experience of most countries, developing and developed, taxation of urban land value increments has been less of a failure in absolute terms than in relation to the objectives of efficiency and equity it was designed to achieve—objectives that have often been unrealistic and overambitious. At the same time, the practical difficulties of tax collection and administration and the potency of political opposition to taxing land have been underestimated. More important, experience has taught that land taxes are rarely, if ever, effective when used alone. They are viewed, more and more, as part of an integrated approach to urban land development, in which improvements to urban land use occur through fiscal tools applied in combination with public acquisition of parcels in advance of need, pre-emption, land reserves, and preservation of open spaces.
The rationale for taxing urban land increments is well established. It has three main components. First, a tax on land does not affect the cost of holding land relative to the cost of developing or selling it, and will not therefore alter production decisions at the margin. Second, land as a physically fixed factor will not “leave town,” no matter how heavily taxed. Third, against a backdrop of sustained land price inflation in cities in both developed and developing countries, governments are missing an opportunity if they do not capture more publicly induced incremental value for their own use. In discussing these issues, this article does not consider orthodox property taxes (on land and buildings), the effects of switching from a property tax to a tax on land alone, or the question of an appropriate base. These have been extensively treated by J. R. Hicks and U. K. Hicks in “The Taxation of the Unimproved Value of Land” (Richard Bird and Oliver Oldman (eds.), Readings on Taxation in Developing Countries, Baltimore, Johns Hopkins, 1964). Aside from property taxation, fiscal instruments at the disposal of governments to influence the use of urban land include land value increment taxes, betterment levies, taxes on speculative gains from land sales, and improvement charges.
Land value increment taxes
Since the development value of a piece of land is affected by the public authorities themselves, by either direct investment or planning decisions, the authorities have long felt justified in removing at least a part of this increase through taxation, and have made numerous attempts to do so. But important questions arise in the application of land increment taxation. Few would disagree that the tax should be levied on unrealized as well as realized gains. Land increment taxation may occur at the time of sale (as in much of Latin America, India, Korea, Indonesia, and Israel) or periodically without sale (as in Denmark, Italy, and the United Kingdom). In general, though, ministries of finance have to be satisfied with taxing realized gains, since it is rarely worth the cost of reassessment to determine inputed values at intervals short enough to capture significant increments.
A case can be made that land value increment taxation should be progressive. The Land Value Increment Tax (LVIT) of Taiwan, for example, one of the most successful, has rates of 20 per cent of land price increment if the increment is less than 100 per cent of the parcel’s previous value; 40 per cent on the increment between 100 and 200 per cent; 60 per cent on the increment between 200 and 300 per cent; and 80 per cent on all increments over 300 per cent of the parcel’s previous value. Data on Taiwan as a whole and on Taipei for 1972 show that about 54 per cent of total LVIT collections were obtained from the 80 per cent bracket, with another 24 per cent from the 60 per cent bracket. Progressive rates, it has been argued, may give households an incentive to divide their holdings among relatives or friends, and pay in the lowest bracket on each. This has not proved much of a problem in practice, however, first because title registration is long and time consuming, and second because decisions about whether to build, improve, or sell are more difficult for the landowner to make and enforce if nominal ownership is dispersed, even among members of the same family.
Betterment is “any increase in the value of land (including the buildings thereon) arising from central or local government action … (and) enhancement in the value of property arising from general community influences, such as the growth of urban populations” (Final Report on the Expert Committee on Compensation and Betterment, paragraphs 260 and 276, London, 1942). For completeness, it should be added that actions of private households and firms on other parcels might also affect the parcel in question, and so should be included in a definition of betterment.
Since 1427, when Great Britain authorized charges to appropriate the increase in land value brought about by street widening, sewer extensions, and other public investments, the return on land attributable to community investment has been regarded as a collective good. Britain’s experience with capturing betterment in modern times provides valuable lessons of procedure and technique. A development charge instituted in 1947 attempted to capture all of the “development value” of land, the difference between value in current use and value in the future, more productive use (adjusted for costs including risk) that planning permission made possible. The experience was largely a failure because landowners refused to sell at a price which did not reflect their anticipation of the future net worth of the land. With a 100 per cent development charge, the effective supply of land for urban development dried up. The 1967 Land Commission levy, with a rate of 40 per cent, was more successful in avoiding these “locked-in” effects.
These and other experiences seem to have produced a consensus that the optimal rate of betterment collection may be close to half that to which society is theoretically entitled. The feasible rate is often somewhat lower. In Taiwan, betterment levies, called construction benefit charges, are often reduced from recommended levels of 50 or 70 per cent to 30 or 40 per cent through constitutent pressures operating in the Taipei Municipal Assembly. In Australia, where land increment taxation has long been in force, betterment levies were introduced in New South Wales in 1945 and 1970. The first, at 80 per cent, was never applied, largely because the Valuer-General could not determine that the granting of planning permission or other overt public action was in fact the cause of land price increases. It is worth noting that difficulties arose from the separation of value increments on land and not, as many had feared, from assessing land and building value separately. The second applied specifically to land of “intermediate” worth—neither urbanized nor rural—at 30 per cent, a rate certainly lower than the revenue-maximizing rate but potentially high enough to influence land use in the desired directions. The Calcutta Improvement Trust levies a betterment tax of 50 per cent of the annual value increment, chiefly on road improvements such as widening. Unfortunately, little reliable information on the performance of this tax seems to be available.
The ultimate incidence of a betterment levy is bound up with its effects on the quantity of urban land supplied. If landowners had firm expectations that the tax would be permanent, the burden is likely to fall entirely on the seller. On the other hand, there are two situations where part of the tax might well be passed on to purchasers of developed land. The first is when there are widespread expectations that the betterment levy will be repealed (as in Great Britain in 1949-50 and 1968-69), and that land prices will be able to resume their unfettered growth. The incentive to delay selling then produces a leftward shift of the supply curve. In the second situation, a tax is levied when the land is actually developed instead of when planning permission is granted. In this case the landowner can defer development until the rise in the price of his property compensates for his tax liability.
Taxes on speculative gains from land sales
Land speculation is often treated as an unmitigated evil to be eliminated through heavy taxation or other means. This aproach seems shortsighted. Just as speculators in wheat can avert astronomical prices and perhaps famine next year by buying wheat this year and releasing it slowly, speculators in land can help to ensure that land develops at an optimal rate over time. In a risk-averse world, as long as there is uncertainty about what the future price of land will be, someone deserves a payment for bearing the risk that not all of it will appreciate in value to the expected degree. A land tax should not eliminate speculation, but reduce it to socially acceptable levels. What these levels are is largely a political decision that each municipality or central government must make.
Most taxes on speculative gains from the sale of land define speculation in terms of the time period between sales, and are not concerned about establishing intent. A high or even confiscatory rate applies on gains from the sale of land held in most cases less than two to seven years. In the 1963 French tax reforms, gains from the sale of buildable land held less than five years are treated as a form of “commercial and industrial profits,” and are thus subject to individual income taxation. In India, on land held less than two years, all of the capital gain is added to income, while on land held two years or longer 65 per cent of the gain is added and taxed at the ordinary income tax rates. Prior to 1967, Swedish capital gains from land transfers were taxed in full on land held less than seven years, were not taxed at all on land held ten years or more, and were taxed at 75, 50, and 25 per cent on land held less than eight, nine, and ten years, respectively. The current system makes the long-term withholding of land more costly. Gains from the sale of land held less than two years are taxed in full, while land held longer than two years is taxed at 75 per cent. This system seems to have fewer undesired effects on the supply of urban land than when the high tax rate period is longer. With the French tax, many landowners simply waited out the five-year period before selling on the basis of a long-term gain.
As distinct from betterment levies, improvement charges aim to recover for the public authorities the cost of publicly supplied improvements. There is little concern about the relation between these costs and the aggregate benefits to landowners. They may also encourage private improvements on vacant land. From the wide variety of taxes and charges which fall into this category, three have been singled out for special attention:
Taxes encouraging improvements— These taxes, for control rather than revenue purposes, are used where ordinary land taxation does not adequately punish vacant land relative to developed land. This may occur if, as in India and other countries, properties are assessed on an annual rental value basis and there is no hypothetical rent. Taxes encouraging improvements have been poor relations among land taxes, but not because they are inherently unworkable. Rates are generally lower than the benefits of not improving the land, i.e., the anticipated gain in market value due to development in the future rather than now. Moreover, an effective tax encouraging improvements might place significant short-term pressure on the building materials and construction labor markets. Assessment problems may also arise. The French vacant land tax (taxe d’urbanisation), instituted by the Land Planning Law of 1967, was never put into practice because no single estimate of market value could be relied on. Finally, and most important, the tax encourages all productive uses of land equally. This is why many countries have found it advisable to supplement improvement—encouraging taxes with planning mechanisms to control the timing and direction of development. A variation on this theme is the Land Hoarding Charge advocated by the Conservative Government in Great Britain in April 1973. A charge of 30 per cent a year would have been levied on properties still undeveloped three years or more after receiving planning permission. The intended impact was, of course, to increase the supply of serviced sites, although one predictable result would probably have been fewer properties put up for planning permission. Even before the change of government in 1973, it appeared that the Conservatives would not carry the proposal forward.
Equipment charges—Despite drawbacks such as problems in apportioning costs and benefits, and erosion of the tax base through political compromises, the attractiveness of what might generically be termed “equipment charges” is gaining wider attention. France, for example, has traditionally attempted to recoup the cost of publicly provided infrastructure, principally through direct participation by developers. In the early 1960s, a forerunner of the current equipment charge was designed to make property owners share in the cost of public works. Insuperable problems arose in its application, however, and it was never put into effect. The base had been severely restricted by the exemption of businesses and industries. More importantly, local authorities continued to prefer financing their investments through levies on developers. The current infrastructure charge (taxe locale d’equipement) is levied on the basis of floor area constructed. In widespread use in the late 1960s, the tax is currently less effective because, beginning in 1971, many localities switched back to direct charges on developers. Equipment charges in France are also levied by a number of public land development agencies. The Etablissement Public Basse-Seine in Rouen, in charge of drawing up and applying land use plans in Upper Normandy, receives two thirds of its revenue from a special charge it is empowered to levy on the owners of properties it improves. The other third is earned from land sales.
Land replotting and readjustment—Another “self-financing” method of land development gaining attention is the land readjustment scheme, most often associated with Korea and Taiwan. Associations of landowners or the public authorities themselves undertake projects involving conversions of land to more productive uses, amalgamation of parcels, and installation of public facilities on sites. In Korea, land readjustment schemes have succeeded in developing large sections of Seoul and other principal cities. According to a complicated formula, landowners cede to the city a portion of their property in return for access roads, sewer mains, and water and electricity hookups on the remaining portion. As much as 50 per cent of the land is retained by the municipality to meet its expenses and to increase the supply of sites on which public facilities are provided. Even so, with land price inflation the aggregate value of all remaining private parcels after completion of the readjustment project is typically greater than the preproject value of the entire area. Therefore, both the landowners and the government may see themselves as being better off with these projects than without them.
A synthesis emerges
Categorizations of land taxes as instruments would be incomplete without a judgment as to the targets these instruments are designed to reach. At the risk of oversimplification, it may be suggested that land taxes aim to accomplish three major objectives:
provide revenues for general use by national and especially local governments ;
underwrite the cost of specific public improvements; and
achieve a more equitable distribution of urban real resources.
The redistribution objective is by far the most difficult to evaluate, and the one where the actual and declared priorities of public authorities may diverge the most. Its impact depends first on whether the percentage of net wealth held in the form of land is large or small. Empirical evidence on this score is very scarce. In developing countries, land holdings may form a significant portion of wealth because of a lack of alternatives. Securities are often uncompetitive with land in embryonic domestic capital markets, and real interest rates on savings deposits are typically low or negative. Korea, in January 1974, instituted stiff measures designed to redistribute wealth away from landowners. At the same time as exemptions from property taxation were increased at the low end of the scale, progessively larger rate increases were levied on high-valued properties. The increase in the highest bracket was 2,400 per cent over the previous rate. Whether this will discourage large holdings or simply invite evasion remains to be seen.
Control of land price inflation through capitalization of land tax liabilities is a means of attaining land use objectives, not an objective in itself. The redistribution objective will be furthered by reduced land price inflation if, for example, landowners tend to have higher than average incomes, and if barriers to entry are eased for low-income families moving to urban areas. Poor families may be able to live closer to centers of employment and thus incur smaller outlays for transportation. These impacts are extremely difficult to measure, however; the evidence accumulated so far is notional at best.
Compared with income taxes, excise duties, and other fiscal tools, land taxes are meager but not insignificant providers of resources to governments. Table 1 shows that certain land tax revenues have risen over the past five years, both in per capita terms and as fractions of gross domestic product (GDP). Except for the Taiwan Land Value Tax, collection elasticities of selected land value taxes are greater than unity, as shown in Table 2. All elasticities except the Taipei LVIT were significant at the two-tailed .05 level, despite the low number of degrees of freedom. It should be added that these estimates are highly preliminary and must be treated with great caution. They are based on a small number of years and have not been corrected for price movements. Since land and building prices typically rise more rapidly than wholesale or retail prices in general (particularly in Korea and Taiwan), these estimates might tend to overstate the true elasticities.
|Tax||Revenue per capita (USS)||Revenue/GDP 1(Per cent)|
|Land value tax|
|(contribution fonclere des propriety non belies)|
|Land value tax|
|Land value increment||tax|
|Real property specula check tax||ition|
|Country and lax||term||elasticity||R2|
|All local land taxes||−7.0||1.19||0.96|
|All land taxes||−7.6||1.26||0.96|
|Land value tax||2.1||0.41||0.86|
|Land value increment tax||−10.2||1.37||0.70|
|Land value increment tax||−4.3||1.61||0.59|
|Land value tax||−6.4||1.01||0.99|
|(contribution loncière des propriétés non bâties)||(−15.5)||(33.5)|
One must nonetheless conclude that revenue performance has not been very impressive. In the recent past only the two land value levies in Taiwan and the land component of the French property tax brought in more than $1 a person. Development charges per capita in Singapore did increase fivefold from 1967 to 1971, but from a low initial level. Comparisons on a tax effort basis, using total receipts as a per cent of GDP at current market prices, demonstrate that only the 1972 Taiwan Land Value Tax accounted for as much as V2 of 1 per cent of GDP. A more robust data base would have permitted these preliminary comparisons to be adjusted for more influences on fiscal capacity than is possible here. To the extent that development charge and betterment levy receipts can be locationally determined, for example, the pattern of receipts could be related to locational differences in per capita income. Comparisons on a per taxpayer basis would have also been useful.
This state of affairs would cause more concern if maximization of tax receipts were the sole objective of land value taxation. It is not, of course. As Neutze states, land taxation is one of a series of measures to “prevent the (urban land) market from undermining the objectives of urban planning” (G. M. Neutze, “Policy Instruments in the Urban Land Market: Summary Report,” paper prepared for the Fifth Meeting of the Urban Environment Sector Group, OECD, November 1973). Betterment levies and land value increment taxes, and all other taxes for that matter, fulfill different and often conflicting objectives at different times. It is often thought desirable for certain taxes to be economically neutral, raising revenue with a minimum of disturbance to the economy. (The practical reality that no tax has ever been neutral across all marginal allocations in no way suggests that the goal is not worth striving for.) At the same time, the tax system as a whole functions as a structure of incentives, encouraging desirable resource allocations and discouraging undesirable ones. This disparity of goals often arises in land taxation. An improvement-encouraging tax clearly tries to reallocate resources by punishing vacant land relative to developed land. Yet a tax on incremental value, if calculated correctly and administered fairly, can remove only the “unearned” increment not due to private production decisions and thus not disturb the marginal investment choice. Similarly, a betterment levy is in part a device to produce revenue for public investment in cases where funds from other sources, in particular the orthodox property tax, may not be found. Yet financing projects through betterment levies can clearly have important allocative effects.
In practice, the justification for taxation of land increments is as much financial and economic as moral. Raising total tax receipts from land can alleviate some of the burden of taxes on capital, stimulating the flow of investment and the development of financial institutions. Moreover, a program of public works financed by betterment levies or equipment charges tends to reduce uncertainty about the pattern of future growth of the metropolitan area. Private investors might be more willing to commit funds to development projects if they know that a certain volume and type of public expenditure will also be undertaken.
When land policy instruments are viewed in the context of alternative objectives, the range of potentially available tools rather suddenly becomes much wider. Traditional approaches emphasized the contrast between market and non-market controls; between measures influencing the decisions of households and firms (taxation, building code restrictions, zoning); and public investments with specific multiplier effects on the urban economy. R. W. Archer speaks of “a market system approach for the private sector and … an urban land policy approach for the public sector” in his “Urban Land Policy” (Urban Planning and the Property Market, University College, London, 1971). What is emerging in fact is a synthesis, in which the urban land market itself is the central variable. Instead of competition between market and planning measures, there is a range of public and private decisions affecting the land market, and through it the price of land, the distribution of access to urban services among income groups, and the price and availability of housing.
To take one example, until quite recently few urban economists and planners considered that user charges in public services could have an important impact on the spatial configuration of urban land use. The concentration of value downtown implies that recipients of water, sewerage, and drainage installations often pay charges far in excess of the cost of service to them, as is the case in Sydney, Australia, for example. The excess of receipts over average incremental cost of supply could be used to finance extensions of water supply and other services at the periphery.
Admittedly, one must guard against what might be termed the “microaggregated” view of urban development, which takes land (or transport, or public finance, or any other specialization) as the keystone of an urban system. Yet it would be difficult to argue with the breadth of Archer’s definition of urban land policy as “the study of all government policies and programmes affecting the development and use of urban land and the process of policy-making.”
Implications for project design
The foregoing provides a brief survey of urban land control devices, with emphasis on advanced and developing country experience. Another common element, though an obvious one, deserves mention. Land development is typically a discrete process. It tends to be narrowly defined spatially and specific in scope, often radically changing the configuration of the community where it is undertaken. In essence, land development lends itself well to being undertaken on a project basis. The focus of the World Bank and other agencies on the site and services approach to provision of low-income housing is a good illustration of this project approach to the land development process.
Consequently, land control instruments must be scrutinized carefully to determine how they fit into project contexts. Betterment levies can be used when most or all project benefits are easily measurable, and especially when most or all project beneficiaries are readily identifiable. This type of financing is thus best suited to investments in quasi-public goods benefiting particular segments of the population, such as highways, rural feeder roads, sewer systems, and street improvements.
Given the low taxable capacity of cities in developing countries, user fees such as equipment charges are often an attractive and feasible means of project finance. There is consequently the risk that priority will be given to investments in which benefits are localized rather than generalized and the benefits attributable to a small number rather than to the population as a whole. To an extent, this is, of course, true for all development projects, and is one reason why action on projects with significant employment, nutrition, and income distribution effects, in which benefits have been more difficult to quantify, has not been as rapid as in other sectors. Nevertheless, availability of finance should not be the overriding factor in the choice of land improvement projects.
In the light of these considerations, land taxation financing (through betterment levies, equipment charges, and the like) would seem to be appropriate for projects in which:
Benefits are high in relation to costs, to minimize resistance. This is often difficult to achieve since revaluation of properties, usually a necessary component of land taxation finance, can constitute a major portion of the total project cost.
Benefit measures account for decreases in land value in areas other than the project site. This “compensation for worsement” is part of the land use control systems of the Netherlands, Sweden, and Taiwan.
Execution of the project and payment of charges to finance the project or to capture benefits are closely associated in time.
Careful scrutiny is undertaken of projects where evasion of property taxes reduces revenues significantly. These projects may in fact represent a transfer from those who pay for the improvements to those who had previously evaded other taxes.
The choice of project instruments will, of course, vary with the spatial layout, income, political structure, and cultural traditions of cities. No hard and fast guidelines can be applied in all situations. Though not exhaustive, the above criteria highlight key features in the evaluation of projects involving land taxation financing. Their coverage can be widened and deepened in the course of further research and project experience.