How can past errors of economic judgement made by government, banks and property investors, whose actions helped to inflate a property boom, be avoided in future? When the property bubble burst, domestic banks – which had lent heavily to the property sector – found they had too many toxic loans on their books. The State was forced to rescue the banks at a cost of €64 billion to taxpayers. And later, an increasingly indebted State was forced to seek an international bailout. Now three Central Bank economists have outlined some policy measures to help ensure a property boom and boost is never repeated.
The authors, Frank Browne, Thomas Conefrey and Gerard Kennedy, pinpoint the role that taxation played in facilitating the property bubble. Before the bubble burst few countries offered more or better tax incentives to property investors than Ireland, and for a mixture of motives, part economic and part political. Successive governments encouraged greater home ownership while appealing to voters who saw property as an investment promising high returns with little downside risk.
The tax incentives then available were considerable: mortgage interest payments were tax deductable, and first-time house buyers paid no stamp duty. In addition, homeowners paid neither a property tax, nor water charges, nor capital gains tax (CGT) on the sale of their property. And in 1998, the cut in the rate of CGT to 20 per cent gave a further boost to the sector, particularly commercial property.
As interest rates and taxes fell, credit became cheaper, and easier to access for borrowers. Reckless lending by banks was matched by reckless borrowing by investors. Years of easy money produced a boom in credit and asset prices, and a huge mis-allocation of capital, that ultimately pushed the State perilously close to debt default.
The need to reduce public debt and the budget deficit by raising tax revenue and reducing tax allowances has meant some of the changes needed to prevent a future property bubble developing have already been introduced. New mortgages no longer qualify for tax relief, capital gains tax has been raised to 33 per cent, a property tax has been introduced and water charges soon will be.
The Central Bank paper also favours other measures. One would make homeowners subject to capital gains tax on the sale of their property. Another is the introduction of Real Estate Investment Trusts (REITS), which the Government has proposed. This would give investors access to property investment, but without having to buy individual properties, spreading the investment risk and ensuring greater stability in the market. If these and the other changes made after the property crash had been put in place sooner, a bubble could either have been deflated more easily, or avoided altogether.
