Jethro Elsden: Failing to extend the stamp duty holiday would be a big mistake

Jethro Elsden is a Data Analyst and Researcher at the Centre for Policy Studies.

Reports that the Chancellor is going to try and use the budget to claw in a bit more revenue to try and pay for the cost of the pandemic are worrying. Even if the costs of the pandemic are eye watering, we are only just on the cusp of emerging from the pandemic, now is the time to go for growth not wallop the economy with tax rises.

Even more worrying is the fact that among measures being discussed is allowing the stamp duty holiday to end and the system to revert back to how it operated prior to the introduction of the holiday in July last year.

As the new paper we at the CPS have published lays out, failing to extend the stamp duty holiday would be a serious mistake. It would deliver a sledgehammer blow not only to the housing market but also the construction industry and act as a major drag on growth, just as we are trying to kick on and recover from the economic carnage the pandemic has caused.

After the pandemic hit and we entered the first lockdown back in March last year housing transactions plummeted, falling by over 100,000 in Q2 compared to the same period the year before. To try and reverse this collapse and help to stabilise the construction industry, Rishi Sunak introduced a Stamp Duty holiday in early July, raising the threshold from £125,000 up to £500,000, thus slashing the burden of the tax.

The impact of the measure was immediate and the housing market has not only recovered but positively boomed. Provisional data for the last quarter of 2020 shows transaction numbers at 316,300. To put that figure in context that’s up almost 50,000 on the same period the year before and is the highest number for quarterly transactions since the end of 2007, before the housing market slumped in the wake of the global financial crisis.

Because of this the construction industry has been stabilised. High transaction numbers have ensured that housebuilders have had the confidence to continue building new houses and haven’t cut back supply. In fact, despite the dire economic situation the number of new builds completed was actually 0.5 per cent higher in Q3 2020 than the same period the year before.

However, with the holiday set to stop at the end of March the Government risks delivering a sledgehammer blow to the housing market and the construction industry which they will take many years to recover from, just as occurred after the global financial crisis. This will weigh on the economy just as we try to recover from the pandemic. Transactions will fall significantly, and this will cause the number of new builds to move in the same direction. And while government revenues might rise slightly the economic damage that ending the holiday will do will be very significant.

To avoid this the Government must at the very least extend the holiday, by making the £500,000 threshold permanent on primary homes. Alternatively, the government could be more ambitious and opt for broader reforms which the CPS have previously proposed , either by keeping the threshold at £500,000 and lowering the rates above this back to their 2005 level for primary homes, or simply abolishing the tax altogether.

The economic distortions that stamp duty inflicts are widely acknowledged and it has a strong claim to be Britain’s worst tax, it is certainly far more damaging than either Income tax or VAT. Probably the worst impact it has is that by discouraging transactions it leads to a poor allocation of housing, and in the UK where housing supply is far from elastic this causes a large loss in welfare.

For example, by disincentivising downsizing it causes elderly people to remain in housing unsuitable for their needs, while preventing younger people having the opportunity to buy larger houses that the same elderly would otherwise be selling. Lower downsizing by the elderly means there’s less demand for housing specifically designed for their needs, which may explain why the UK has on an international comparative basis so little specialist retirement housing. And by making upsizing more difficult it can force young couples to delay starting a family. These are not trivial issues: the costs are real and significant.

The reforms we propose will help to minimise (or in the case of abolition, end) the damage and distortion that stamp duty causes. Furthermore, by increasing transaction numbers they will substantially increase the number of new builds each year. Because there is a well-established relationship of about one new build for every ten transactions that occur, we estimate that the increase in transactions that our reforms would cause would lead to an extra 20,000 new builds every year (or in the case of abolition, 23,000 extra new builds). This will not only be of significant economic benefit but will also go someway to helping the UK meet its target of 300,000 homes per year.

Because stamp duty is such a destructive tax the costs of these reforms, whether that’s just extending the holiday so that the £500,000 threshold is permanent or full-on abolition, are significantly lower than a superficial static analysis would suggest.

Of course, it is impossible to know the counterfactual where the holiday had never been introduced, but it seems likely given how weak the economy has been that transaction numbers and stamp duty revenue would have remained significantly below their 2019 levels. But let’s assume that in the second half of last year stamp duty revenue managed to climb back to 90 per cent of its 2019 level, that would mean the holiday cost about £1bn in lost stamp duty revenue. However, if the housing market had bounced back less strongly and revenues had only recovered to say 75 per cent, then the cost is only £300 million.

But on top of this the wider economic benefits of the holiday will have filtered through and helped support numerous other businesses, such as construction suppliers and estate agents, in staying afloat and not cutting back employment. Meaning less government spending on unemployment benefits and tax revenues such as VAT will have been boosted. This means that the true cost will be lower, perhaps substantially so.

Once you account for the increase in transactions, the extra tax money that will be raised from the complimentary spending which tends to occur when someone moves house, and the increase in new builds (and the extra revenue this will generate through section 106 etc), the cost of keeping the threshold at £500,000 and lowering rates is only about £500 million, while abolition on primary homes would cost only about £2bn.

No doubt in the coming months the Government will be looking at different policies to help boost growth and help the country recover from the pandemic. While it might involve a small cost in lost revenue, extending the stamp duty holiday by making it permanent on primary homes, or more broadly reforming the system by lowering rates or abolishing the tax, would be one of the best ways the Government could help to stimulate the economy.

If it fails to do so, the cost will be significant, and the housing market and construction industry will be dealt a body blow they may struggle to recover from for the next few years.

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Author: Jethro Elsden


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