Toronto City Council today considers a budget proposal to hike its land transfer tax (LTT) from 2.5 to 3.5 per cent on house transaction values in excess of $2 million. The proposal is projected to raise $18.7 to $26.7 million in 2021, a minuscule amount compared with Toronto’s $14-billion municipal budget. It would affect almost 40 per cent of Toronto sales this year (based on Feb. 12 listings).
Not surprisingly, the Toronto Regional Real Estate Board is on a rampage to defeat the proposal. A similar proposal died last year; nor is this one expected to pass. Whatever happens, however, a basic question needs to be asked: why would Toronto levy an LTT in the first place when Torontonians are fleeing to neighbouring municipalities that offer them more space?
In 2008, Ontario’s McGuinty government gave the City of Toronto the right to impose its own LTT on both residential and non-residential property — perhaps one of its worst decisions, as I explain below. Readers of this newspaper know that Toronto has become an expensive city to live in, with an average house costing close to $1 million. But on top of that a Torontonian buying this average home will pay $33,000 in provincial and municipal LTT. On a $3-million home, LTT is $123,000 (which the proposal would boost by another $10,000).
Toronto’s municipal government is the only “winner,” extracting close to $800 million in LTT revenues in 2019, sharply up from $525 million in 2015 — although it fell back to about $700 million in last year’s pandemic recession. But the tax has drawbacks even for it.
It has become fashionable for politicians at all levels of government to hike every conceivable tax on the rich. But the LTT is not a tax on income, which is the best metric to determine whether someone is rich or not. It isn’t even a tax on net wealth since it excludes financial and other assets and does not correct for whether a homeowner is debt-free or is still up to his or her eyeballs in mortgage debt.
Instead, the LTT is a tax on people who buy a house because they have decided to move. And why do people move? They might be trying to get closer to their job or to a better school. They may be looking for a larger home for their family or downsizing at retirement. Or they may be first-time buyers, possibly migrants moving to the city. So, why is taxing mobility a smart idea?
It isn’t. The LTT is a turnover tax paid each time a house is sold. It is thus a highly distortionary tax, discriminating against people who have to move. Taking account of these distortionary costs, international studies estimate that the economic cost of raising a dollar in real estate transfer taxes is fully 50 cents, more than the economic cost of raising an extra dollar of personal income, property or sales taxes. Only the corporate income tax is more distortionary.
The LTT pushes people to remain in a home rather than moving. Based on the number of dwellings and sales, I estimate that average home tenure in Toronto is double what it is in the rest of the Greater Toronto Area (38 years compared to 18 years). Why is this relevant? Only the City of Toronto has both a provincial and municipal LTT. The rest of the GTA pays just the provincial tax. Add in real estate fees and other moving costs and it is no surprise many Torontonians don’t move: renovation becomes a cheaper option.
At a time when Toronto needs more new homes, the LTT adds on another layer of housing cost. When developers assemble land, they pay LTT as well as development charges. After the house is built, the purchaser pays HST and another LTT, just to add more salt to the wound. No wonder developers find it more profitable to build outside Toronto.
Nor is the LTT fair. Although studies have been mixed as to whether the purchaser bears the tax or it gets capitalized in lower housing prices, what we do know is that the LTT increases the cash-flow requirements to buy a home — typically hurting most lower-income purchasers.
The LTT is also levied on non-residential property transactions. In many of these, it is difficult to apply since it is not easy to identify the “purchaser.” Depending on the ownership structure, the LTT can produce harsh outcomes or in fact be avoided altogether. For example, LTT can be triggered even if a non-controlling partner in an apartment block is added to or leaves the ownership group. On the other hand, REITs avoid LTT payments altogether since unit-holders have relatively small amounts invested in property, so their transactions are LTT-exempt under de minimis rules.
Finally, Toronto may not get as much money as it thinks from the LTT. A 2012 academic study found that Toronto’s municipal LTT was largely capitalized in lower housing prices, which means it leads to a loss of property tax revenues. If Toronto needs more revenue, it would be better off raising its annual property taxes, which are less distorting than the LTT. If fairness is a concern, a higher property tax rate could be applied to homes valued over a certain threshold.
The bottom line here is simple: municipalities should avoid the LTT altogether. They can fund their requirements with property taxes and user fees that do less harm to the economy.