The Building Better, Building Beautiful Commission, an independent body set up to advise government on how to promote and increase the use of high-quality design for new build homes and neighbourhoods, published its final report recently with 45 policy recommendations.
Policy proposal 17 (Why the current tax system discourages long term place making) adopts some of the CIOT’s suggested long term solutions to the problem of the tax code inhibiting landowners from investing in housing development for the longer term building high-quality places as opposed to maximising short-term asset prices.
The Commission’s report
The Commission proposes a new development and planning framework, which will:
- Ask for Beauty - the benchmark that all new housing developments should meet
- Refuse Ugliness - ugly buildings destroy the sense of place and undermine communities
- Promote Stewardship of our built and natural environment - for the long term benefit of communities
The Commission promotes the social and economic value of beautiful buildings and the social cost of ugliness pointing to the way in which beautiful urban textures contribute not only to the well-being of those who live and work in them, but also to a large uplift in economic value. That value, the report argues should be spread equitably. The Commission sees part of the problem in the distortion introduced into the housing market by the planning process itself. The grant of planning permission for development creates a huge uplift in land value. The report dismisses the attempts in the immediate post war period to capture that planning gain uplift through taxation of capital gains from development at 100 per cent as counter-productive but equally sees the current ways of returning uplift to the neighbourhood through Section 106 agreements or Community Infrastructure Levy as tending to fall short in enhancing the neighbourhood where the development is taking place.
Under the third of the report’s central tenets; promoting stewardship to incentivise responsibility to the future, the report considers the effect of the current tax code tax and in particular:
Why the current tax system discourages long term place making.
The problem is one that the CIOT identified in its response to the government’s 2017 Housing White Paper and in its submission to the Commission. For a landowner who wishes to develop land for housing, the tax costs of retaining a long term stake in a development or cooperating with neighbouring landowners to form a ‘land pool’ to facilitate a more cohesive and sustainable development are almost certainly higher than the tax consequences of selling out in the short term to a promoter or housebuilder.
The CIOT’s conclusion was that a tax bias towards early disposal is undesirable as it distorts the ability to judge the benefits of a short term disposal versus longer term involvement on its merits. Tax should not distort that wider economic choice.
The Commission’s report highlights how the tax system unintentionally favours a short-term approach (maximising value at the point of sale of the land) in three main ways:
- The short-term approach creates a capital gains tax liability for the landowner which is likely to be half an income tax liability. A long-term approach increases the likelihood of a proportion of the landowner’s receipts being charged to at higher income tax rates as opposed to lower capital gains tax rates. A landowner taking a short-term approach may well benefit from reliefs and exemptions further reducing the tax liability such as Entrepreneurs’ Relief.
- A landowner selling their land to a promoter or housebuilder only creates a major tax liability when they sell their land and thus have cash to pay their tax bill. By contrast landowners ‘pooling’ their land with other landowners to permit the creation of a better designed and better place may well create tax liabilities before they have received major receipts.
- A longer term involvement creates an inheritance tax risk for the landowner. If the original landowner dies during the development period, the heirs are unlikely to benefit from inheritance tax reliefs in a ‘pooled’ structure and may be subject to inheritance tax on theoretical land value which they may not be able to pay.
And how to fix it …
The CIOT’s view is that a change to the current tax rules, even assuming the case is made on the basis of evidence and accepted, will be difficult to achieve in the short term, in part because of current political priorities. More fundamentally from a tax perspective, the tax issues in point include wide-ranging features of our tax system such as the questions of what is income versus capital or whether an activity is trading or investment. Consequently, the CIOT thought it may be necessary to consider and promote both short term measures and a comprehensive longer term solution.
Short term measures
These might include a genuinely cooperative approach to non-statutory clearances that provides HMRC’s view on how a particular set of arrangements will be viewed within the policy intent of the provisions combined with a willingness on the part of HMRC to consider valuation issues in advance.
It might facilitate this approach if the professional bodies were to agree “model arrangements” with HMRC in advance. Such an approach would form the basis for agreement although individual arrangements would probably still require specific clearance.
A longer term solution
Alternatives for a longer term solution include
Principles-based legislative drafting
- The aim would be to provide a legislative framework setting out high level principles for the taxation of “strategic” land pooling (that is, above a certain size, perhaps to be certified by planning authorities). Provided that the overall effect of arrangements is simply to allow landowners to equalise proceeds from their land, then HMRC would be able to grant them such reliefs as would put them in the same tax position that they could have achieved via the conventional un-pooled model provided that was consistent with parameters of the legislative framework. The tax reliefs or exemptions would vary depending on the circumstances of the landowners. It would require the taxpayers/landowners broadly to cover HMRC costs through payment of a fee.
- a tax advantaged ‘land-pooling’ vehicle
- a series of dedicated reliefs or amendments to existing reliefs to achieve neutrality across the main taxes
There are pros and cons in each case.
The Commission proposals
The Commission’s policy proposal 17 adopts two of these longer term solutions:
- A land pooling vehicle that ‘freezes’ the tax status of the land at the point of entry into the pooling vehicle if it passes an agreed ‘stewardship kite mark’. This would preserve the status of the land pre-pooling. Tax would be charged at the point a tranche of land is sold and a pro rata share of the proceeds paid out. If the development does not proceed, the land would revert to the landowners without triggering a tax charge.
- A discretion for the government to grant case by case tax treatment for stewardship development schemes. This would require wider permissive statutory power to HMRC to grant particular tax treatment to landowners participating in a development that satisfies the defined requirements of a sustainable stewardship development. The costs of agreeing and exercising the power would need to be met, at least in part, out of the development.
Recognising that the tax system needs to cohere with wider government policy, a sentiment that the CIOT firmly endorses, the Commission recommends the establishment of a short -term expert commission to review these options in more detail working with HMRC, HM Treasury and The Ministry of Housing, Communities and Local Government. The Commission suggests a timescale of within 5 years.
HMRC’s current perspective is that there is insufficient evidence that points to the tax system providing impediments to longer term collaborative development by landowners. The gap between HMRC’s perception and that of professional advisers involved with projects may be in part explained by the ‘evidence’ that HMRC would come across is likely to be disputes, uncertainties or unfavourable tax outcomes arising from actual structures, whereas in practice those outcomes may be sidestepped by avoiding patient capital structures altogether.
The CIOT and the Country Land and Business Association (CLA) are conducting a survey to gather evidence of the tax barriers faced by landowners when collaborating with their neighbouring landowners on potential housing developments. The survey is here.
The Commission’s recommendations on VAT
The Commission regards the differential in VAT rates between residential new build (zero rated) over restoration (VAT of 20 per cent) as discouraging developers from taking an interest in areas in need of regeneration and putting them beyond the resources of local councils or conservation bodies. The Commission’s view is that recycling buildings is normally more sustainable than demolishing an existing one and building a new one (“The greenest building is the one already built”).
The Commission recommends (policy proposition 23) that the government should make bringing derelict buildings back into use VAT free, or charge at most a reduced VAT of five per cent. It proposes the same for core improvements to existing buildings, including reroofing, extensions, conversions and renewable heating.
By Kate Willis, CIOT Technical Officer