Thursday, February 24, 2011

Shanghai Property Tax Freezes Purchases and Boosts Rents

China's commercial capital Shanghai and the southwestern SiChuan megalopolis of Chongqing became the first in China to begin a pilot program that imposes residential property taxes starting from 28 January 2011. However, instead of reducing pressure on rising property prices, it seems the property taxes can just freeze home purchases and boost rents.

China initiated rules on real estate taxes as early as October 1986 but exempted non-commercial properties. This time Shanghai and Chongqing basically modified their current tax systems to include residential properties as well. Immediately after that, on 27 January 2011, the Ministry of Finance (MoF) of China said the property tax can promote rational home purchases and thus also satisfy the "New National Eight" Article 8.

The property tax system differs, however, in different cities. Here is a direct comparison of the pilot property taxes for these two cities:

Implementation Date28 January 201128 January 2011
Tax RatesSecond-home buyers normally need to pay an annual tax of 0.6%. If values of homes are less than double that of average housing prices, buyers need to pay only 0.4%. Second-home buyers need to pay an annual tax of 0.5% if homes are valued at 2 to 3 times average housing prices. Homes valued at 3 to 4 times the average prices are taxed 1%, with the highest tax not exceeding 1.2%.
Execution DetailsThe Shanghai residential property tax applies only to new transactions, not in a retroactive way. Any home purchased before 28 January 2011 is exempted from the tax. In addition, each family member gets no more than 60 square meters of the home's area exempted from the tax for each person in the household. The Chongqing residential property tax affects both newly purchased and existing villas, high-end properties and second (and third, and so on) homes by non-permanent residents. Non-local residents, buyers without any job or investment in Chongqing, are also taxed when they buy second homes. Since the tax plan is more staggered and difficult to execute in Chongqing than in Shanghai, Chongqing therefore needs a more mature Property Information System to track property transactions on individuals as required by the "New National Eight" Article 3.
Please also read: How New National Eight can cool China property market for full details about the "New National Eight" policy.

In short, Shanghai levies an annual tax rate at 0.4% to 0.6% on second homes, while Chongqing charges between 0.5% and 1.2% depending on the value of homes purchased. While the Shanghai residential property tax is intended to attack speculations and target only at newly purchased more spacious homes, Chongqing property tax focuses on both newly purchased and existing luxury apartments. Comparing the two cities, we can say that Shanghai's property tax is even weaker than Chongqing's one.

As New York and London have had property taxes for decades, with little noticeable effect on keeping prices down. We believe the new residential property taxes in China should aim to prevent hoarding of properties, rather than to rein in prices. Previously there was very little holding cost for residential properties in China because many people paid 100% cash for these properties. Now the holding cost is no longer zero, and it may change the previous perceptions to consider real estate as an asset class. Speculators normally tend to buy apartments with a view to capital appreciation, not rental. But if they need to pay an annual tax which rises as the property value rises, of course it makes no sense for them to leave the apartment standing empty. Hence, theoretically, the property taxes can be considered as a new measure for the government to adjust demand and supply as well as to curb property speculation.

The new property taxes do, however, also point to a major poicy shift in the way Chinese cities will raise tax revenue in the future. Ideally, the local governments will be compensated with such a new revenue stream, although the growth of local property markets might suffer from the new taxes. According to the Chinese central government, the property taxes collected will be used to fund the construction of government-subsidized affordable housing projects.

Earlier on 21 January 2011, Shanghai's mayor Han Zheng already said that Shanghai's ambition as a global center for finance, trade and shipping depends on controlling distorted home prices, which he said threaten to drive away talent as people fear being 'slaves of their house'. He therefore mentioned the property tax should be considered as a "future-oriented" policy. He even stated that if the housing issue cannot be solved, there will be no future for the city of Shanghai. In Shanghai, housing prices rose to a record average of RMB 24K (approximately USD $3.6K) per square meter in December 2010, China media has reported, up 7.6% from November 2010 and up 21% from January 2010.

In Shanghai, the introduction of residential property tax has had an immediate impact on housing purchase transactions. The trade volume of this city's housing market plunged 40% on 28 Jan 2011, the first day of implementing the new local property tax, and transaction volumes fell further over the weekend. However, it is difficult to tell the shrinking transaction volume is a direct result of the new property tax, because the Spring Festival period is usually a slack season for housing transactions and new property supply is also at a very low level. Effect of the property tax, however, is expected to be more visible later in March or April this year.

In Shanghai, what we can see now is that the property tax not only freezes home purchases but also boosts rents. China Spring Festival holiday break is typtically the time when landlords re-negotiate leases with tenants for the new year. Most landlords in Shanghai have started raising rental costs, thus passing on their property tax commitments to tenants. Rents are also going to be buoyed by the ever increasing demands, as the market expects more people to give up their original plans to buy a home but rent one instead.

Despite the administrative measures, most of the market fundamentals that have been driving up property prices have remained largely unchanged. Actual demand and supply in China property market are still imbalanced. Overall liquidity in China is abundant and bank credit growth continues to accelerate. There are also lacking of investment alternatives in China where average incomes continue to rise quickly. With Shanghai stock market is under selling pressure, the benchmark real deposit rate remains negative (now it is 3% - 4.9% = -1.9%) so that inflation risk spreading to the overall economy is still high, along with inflation expectation pointing to rising non-food costs including rents, there are virtually no better alternatives other than property for investors seeking a reasonable profit.

In addition, the property tax rates, no matter in Shanghai or Chongqing, are all too low to deter speculative buyers. There are also too many exemptions or deductions to the property taxes in both cities. What we believe, most importantly, is that both Shanghai and Chongqing local governments basically hope to limit the scale and influence of the property taxes, so their tax plans only target a tiny portion of home purchasers, most of whom are basically not sensitive to taxation at all. In fact, vast majority of current buyers target at moderately priced apartments that even will not be subject to any property tax. There was also good reason for enacting the new property taxes just before the Chinese New Year holiday. The Spring Festival period is a traditional off-season for property trading, and this would leave the local property markets enough time to digest and cushion the negative impact. This automatically explains why the local governments of Shanghai and Chongqing quickly introducted the residential property taxes, just 2 days after the Chinese central government publicized the "New National Eight" on 26 January 2011.

With all the above shortcomings, we are afraid that the new residential property tax alone, either in Shanghai or Chongqing, can hardly achieve more than freezing home purchases and boosting rents.

Related article(s):
How New National Eight can cool China property market
No more loose monetary policy


Post a Comment

Popular Articles in this Week (Top 10)

Not What You Want?

Try More Search in Our Website Here...