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21 March 2012updated 26 Sep 2015 8:02pm

Stamp duty versus mansion tax

Although superficially similar, high stamp duty is not a mansion tax

By Alex Hern

It seems increasingly likely that one of the measures to be announced in the budget in a couple of hours will be an increase in stamp duty to 7 per cent for properties worth over £2m. The argument seems to be that because the Conservatives will be compromising on the 50p tax – cutting it to 45p rather than scrapping it altogether – the Liberal Democrats will compromise on the mansion tax, allowing Osborne to introduce it as a new rate on an existing tax rather than new tax altogether.

Unfortunately, while the mansion tax isn’t a great tax – it was sold as a proxy wealth tax, when household value isn’t that great a proxy for wealth – it is still better than stamp duty. This is because it is at heart a consumption tax (you pay it for “consuming” a year’s worth of £2m+ housing), whereas stamp duty is a transaction tax.

As the Mirrlees review on taxation explained (volume II, page 151):

Any tax on transactions will reduce expected welfare by discouraging mutually beneficial trades. Welfare is maximized when assets are owned by the people who place the highest value on them. Taxing transactions will affect who owns an asset, and so can disrupt the efficient pattern of ownership.

The value of a good or service is determined by the flow of benefits that are derived from owning it. So a consumption tax can be levied either on the purchase price of the good or service when it is first sold or on the flow of benefits over time. A transactions tax does not do this and it always seems preferable to tax the benefits directly…

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Stamp duty on house transactions, for example, taxes according to the number of times a house changes hands over its lifetime. Houses vary considerably in the number of times they are traded, but there is no good economic argument for taxing more-frequently-traded housing more. Worse still, a tax on transactions reduces the incentive to trade in housing and leads to less efficient usage of the housing stock. A tax on the consumption value of housing would make sense… but a stamp duty on transactions does not.

It is a basic tenet of capitalism that, in a free market, transactions are good. By definition, if they are entered into, they make both parties better off – and stamp duty, by imposing a cost on it, means that otherwise beneficial exchanges may not occur.

This is, incidentally, the basis of the argument against a financial transactions tax; the comeback is that financial transactions occur in a broken market, and so cannot be expected to be mutually beneficial – and certainly not socially beneficial.

The Mirrlees report ended up recommending that stamp duty be abolished in its entirity, but instead the chancellor will be putting an even greater proportion of the UK’s fiscal burden on it. Given it is being used as a proxy version of a proxy version of an efficient tax, it is not surprising that it has problems.