Heading for home

After Britain took control of Hong Kong in 1841, the authorities in London weren’t pleased to be bearing the new colony’s public expenses. They made clear they wanted the territory to pay its own way as soon as possible.

The colonial government decided the easiest way to raise revenue quickly was by licencing a series of monopolies for activities such as stone quarrying and salt handling. But it knew its principal source of income would be the sale of (and taxation of) land.

There were about 700 bricked or walled buildings on the island of Hong Kong when an ordinance on land registration was first passed in 1844. A year later a property tax, or “rates”, was introduced on real estate ownership. The levy is still known in colloquial Chinese as “police salary” because it was initially collected to cover the cost of policing. It has since become the government’s most important indirect tax. Set at 3% to 5% of the annual rateable rental income of local property, it accounts for more than 5% of the territory’s public coffers.

Over the border in mainland China, financial regulators have just rattled local investors with their own long-discussed plan for a property tax. The measures are one of several property reforms that could soon be rolled out nationwide. And curiously, both from the perspective of creating a new land registry and resolving some of the tensions between central and local government, Beijing seems to be wrestling with similar challenges to Hong Kong’s colonial rulers, when they first started taxing property owners so many years ago.

What are the latest developments?

Chinese planners have mulled the idea of a property tax since the late 1990s but the first major breakthrough came in January 2011, when Shanghai and Chongqing launched a trial of the levy.

The controversial experiment failed to get much traction beyond the two municipalities (two of the biggest taxpayers to the central government) indicating that the policy had stalled in the face of hostility from various vested interests.

But the policy headwinds may have swung back in favour of a property tax following the 19th Party Congress last month. Of particular note was President Xi Jinping’s message that “houses are built for the people’s living, not for speculation”, suggesting that property market reform is back on the agenda.

To accompany Xi’s three-and-a-half-hour speech at the Congress, Party officials published a volume of reading materials. One chapter was authored by Xiao Jie, the minister of finance, who explains that China’s tax system needs to change for “the new era” and these changes include the launch of a property tax.

Xiao is unlikely to oversee the revamp himself. The 60 year-old was this month appointed deputy secretary-general of the State Council and he may leave his current finance post when lawmakers gather at the National People’s Congress (NPC) early next year.

Huang Qifan, now deputy chairman of the NPC’s financial and economic affairs committee, could spearhead the reform instead. The long-serving Chongqing mayor was appointed to his current post at the Chinese parliament this year, a move that led media to predict that Huang would be increasingly influential in shaping new property market policies (see WiC378).

Huang, for instance, has voiced his support for a new levy that helps to diversify local government’s fiscal income and control property market speculation.

“Generally speaking, this is an important reform arrangement for a healthy and sustainable housing market. You won’t have to wait for 10 years or 20 years. The government will start to levy the tax in the next few years,” he told a financial conference last week.

The state broadcaster CCTV then weighed in on the issue, warning that people who speculate on real estate are going to suffer financially because an annual levy on home ownership will punish those who hoard multiple properties.

Why has it taken so long?

“Property tax relates to every family and every taxpayer, and it requires ample research and study,” finance minister Xiao explained in a statement published by the South China Morning Post in October. “The preliminary work for legislation is under way.”

The central government has been looking for ways to adjust its policy framework to reduce speculation in the sector – eschewing older, more localised administrative tools such as home purchase bans in favour of new fiscal measures such as a national tax.

However, as WiC has noted in the past, the problem with this kind of transition is the acute tension that it provokes between central and local governments.

That’s because most Chinese provinces and cities are reliant on land sales to fund their spending plans. Local officials are generally reluctant to support a policy change that could weigh on home prices and thus depress land values (and the revenues they earn from them).

Furthermore, China’s homeownership rate now exceeds 80% and many citizens won’t favour a property tax either. That’s why when penning the article on future taxation reform, Xiao tried to reassure that a new tax would be rolled out in “gradual steps” and that local authorities would be given a say in setting rates and devising their own methods for assessing home values.

For instance, Shanghai currently sets its local real estate tax rate at between 0.4% and 0.6% of the property’s value in its pilot scheme, which chiefly targets homebuyers without a local household registration permit (the hukou) or those who own multiple homes.

In Chongqing the rate is set at 0.5% but it only applies to villas or luxury apartments (defined as property costing more than two times the average price of newly-built homes). Most households are thus exempt from the levy.

If a new tax gets applied more broadly across the country it seems likely that it will adhere to one of the themes that Xi espoused in his Party Congress speech: punishing speculators who flip their properties for quick profits. People who own large numbers of houses are also set for a more uncomfortable time. Some observers are suggesting that local governments will apply an incremental ladder of taxes, levying higher rates on those with multiple homes. “The good days for those ‘Uncle House’ and ‘Sister House’ are coming to an end,” a financial columnist wrote on Sina Finance, referring to people – in many cases government officials or their business cronies – who have amassed large property portfolios.

The land registry is also key?

The term “Uncle House” earned buzzword status in 2013 after a junior Party cadre in Guangdong was exposed as the owner of 22 homes.

As we reported in issue 182, this was far from an isolated incident and it may help to explain why officials across the country have dragged their feet on setting up a national database that tracks property ownership.

(Among the first things the nineteenth century colonial government did in Hong Kong was to survey taxable properties and create a land registry.)

A proper registry is a prerequisite for the introduction of a property tax and policymakers have been talking about doing it for years (some speculate that the delays amounts to a quasi-amnesty or window in which officials can dispose of illicit home purchases before the changes come into effect).

According to a report in April by Spicy Finance, an interestingly named new media offering from the People’s Daily, the Ministry of Land Resources (MoLR) has already established a centralised database. By the end of last year it had been connected to the land registration systems of more than 3,000 local governments.

“A unified, nationwide information platform is likely to be ready by the end of the year,” Spicy Finance confidently predicted.

The China Securities Journal was less optimistic about the timeframe in an article published earlier this month. The newspaper points out that the planned database is being described as a registry not only for homes but for all ‘fixed assets’ across public and private ownership. The main reason for the repeated delays in rolling out this all-important database, it reckons, is due to practical issues, not just political ones. “There are simply too many different types of properties in our country. Many of them, because of historical reasons, are difficult to put under a unified registry given their ownership comes with no documentary proof… this has hampered our progress,” it suggests.

Despite the difficulties in registering the ownership of older buildings, Spicy Finance notes that the database is more than capable of handling newly-built property, which would provide enough housing information for regulators to get started in formulating their new tax policies.

Any market reaction?

Since late last year, dozens of local governments have implemented or expanded restrictions on house purchases and increased the minimum downpayments required for property purchases.

After a joint meeting this week between the People’s Bank of China (PBoC) and other property market regulators such as the MoLR, Xinhua warned that the central government will step up financial regulation and

crack down on speculation in the property market to stabilise prices and fend off bubble risks.

Bigger picture, the central bank has been trying to choke off some of the finance for would-be purchasers. Data from the PBoC showed that for the calendar year to the end of October, M2, or the broadest measurement of money supply, was up 8.8% from a year ago, the lowest increase on record.

The tightening of monetary policy has already put a brake on parts of the residential market. Sales during September and October (typically one of the best months for developers) slowed on a year-on-year basis. By value they fell 1.7% in October, the first decline in monthly sales (by value) since March 2015, according to the National Bureau of Statistics.

The risks of a fuller retrenchment are yet to be reflected in the equity markets. For instance, the share price of China Evergrande, the country’s biggest developer by sales this year, has jumped more than fivefold since January.

However, bond investors have been heeding the warning signs. Last week, the yield on China’s 10-year sovereign bonds added 20 basis points in three days and topped 4% for the first time in three years. And fixed income analysts are concerned that a sell-off might spread to property developers’ bonds. Securities Daily recently published worrisome data on this front: by the end of September, the debt on the books of 136 A-share listed property developers had climbed almost a quarter to more than Rmb6 trillion. Almost 40 of them carry a gearing ratio higher than 80%.

Just another boom-and-bust cycle?

Beijing has always used the property market as a tool to regulate the wider economy. And as Bloomberg notes, China watchers suspect that the central government might be more tolerant of more far-reaching moves in the market now that the Party’s twice-a-decade Congress is out of the way (with Xi having firmly consolidated his authority).

Xi will have a major role to play. After all, it was his remarks about the “destocking” of unsold housing that stoked a two-year rally in residential prices starting in 2015 (see WiC304). He might be more inclined to pursue structural reforms now that his second five-year term is beginning.

Underpinning these initiatives is the hope of improving housing affordability as a means to defuse rising social tensions on this sensitive issue. Besides a property tax, the central government is also pushing forward with changes in rural areas that will help farmers to monetise their titles to arable land. A similar land reform was piloted in Chongqing during Huang Qifan’s time as mayor (see WiC344). And according to Huang’s thinking, a new property tax targeting urban areas would also encourage homeowners to rent out empty properties to cover their tax payments. In this way, underutilised housing stock would be put to better use, he says, fulfilling another of Xi’s policy goals: to better develop the residential rental market.

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