Reforming Council Tax

In his excellent paper on Taxation in Wales, Gerry Holtham describes council tax as the ‘misbegotten offspring of political misjudgement and political cowardice’.

As a Councillor in the late 1980s and the early 1990s I know what he means. Driven by the belief that everybody should pay the same amount for local services, Margaret Thatcher’s Government introduced the poll tax with disastrous consequences for their own popularity and for local councils.

Nothing would ever be the same again, least of all the previously excellent collection rates for property rates, which plummeted as people withheld payment on principle or simply because they could not afford the new poll tax.

The poll tax proved to be a highly regressive measure that hit large families in low wage areas particularly hard, whilst single people and couples in high property value areas suddenly found themselves making huge savings on previously high monthly payments to their local council.

In many ways today’s arguments about a mansion tax still hark back to those days. Those in favour of such a levy are seeking to reverse the failure to properly tax wealth as opposed to income, the parts that council tax still does not properly reach.

When Michael Heseltine oversaw the abolition of the community charge he missed an opportunity to introduce an alternative that properly related to people’s ability to pay. That was certainly the campaigning focus of the Liberal Democrats throughout their opposition to the Poll Tax.

In fact, right up to Charles Kennedy’s bleary-eyed press conference during the 2005 General Election when he failed to satisfactorily deal with difficult questions on the implementation of the policy, the Liberal Democrats remained committed to introducing a local income tax as the best way to pay for local government.

That remains their policy today, but it is one less trumpeted and desperately in need of updating or even replacing with a more sustainable and electorally acceptable tax.

Whilst the poll tax was in place, it may have been possible to sell a local income tax as a suitable alternative to a sceptical electorate. The differences in outcomes would not have been as stark as they subsequently proved to be in comparison with council tax.

The wealthy would have paid more under a local income tax than they would have done under the poll tax, whilst others would have seen a reduction in their bills. It would have been perceived as fairer. Moving from a more graduated council tax to one based on income has proved far more problematic.

It is for this reason that I welcome Gerry Holtham’s paper. For all its advantages, as the paper illustrates, council tax is still essentially regressive, though nowhere near as much as its predecessor. Because it is a property tax it is hard to avoid, it does not distort economic activity and it is easily understood.

Its disadvantage is that it requires regular revaluations to remain relevant, something that only happened once in Wales and never in England due to the political fall-out.

As Gerry Holtham explains, property values, as assessed for these purposes are increasing at a much slower rate than house prices, so that the average council tax on the lowest band, whose properties are worth up to £44,000 amounts to nearly 1.9% of the value of the property. For properties worth over £424,000, the tax is just over 0.5% of capital value.

The solution proposed by the paper is not to throw out the tax altogether but to reform it so as to ‘smooth out the indexation’ and to consider introducing additional tax bands. Gerry Holtham argues that this would lead to gradual change and do away with the need for revaluation.

He argues that a fairer way to levy the tax would be to make it a flat rate plus a proportion of the value of the property, less a property allowance. That would yield similar revenue to the current tax where everybody would end up paying a fraction over 1% of the band value. In other words the tax would be rebalanced so that those in the most expensive properties would pay more.

He says that taxpayers in band D would pay a little more than a pound a week more, whilst those in band A would see their bills fall dramatically. This would lead to a fall in the cost of Council Tax benefit from £242m to just over £190m.

Gerry Holtham suggests that the increase in taxation for those in the higher bands could be ameliorated by other measures. These include removing the single occupant discount and increasing the tax on second homes, a measure already being proposed in the housing bill. In Gwynedd, 10% of the housing stock consists of second homes.

The joy of this paper for me though is that it does not stop with discussion of council tax, though this is the most significant of the taxes being devolved to Wales, bringing in £1.2 billion a year. It also looks at the other taxes scheduled to be devolved to Wales and makes some interesting suggestions as to how they might be dealt with.

It suggests that Wales could follow the example of Scotland and reform stamp duty so as to make it more proportional, smoothing out the transition between thresholds which would be paid for by small changes to council tax.

Gerry Holtham suggests that a logical reform would be pass the collection and administration of smaller taxes such as landfill and stamp duty to local councils. He says that both are easy to collect and that it would make sense for them to be treated like business rates, collected by the local authority finance department, pooled centrally and then redistributed according to a Welsh government formula.

This would be balanced by a reduction in central government grant, delivering the additional benefit of lessening the gearing effect on council tax as more spending would be financed by locally-collected revenue. It would also reduce the cost of administering these taxes.

This sort of reform is very much in line with Liberal Democrats thinking, empowering local councils and giving them additional sources of revenue locally without increasing people’s tax burden.

I would argue that in addition there is scope to allow local councils to retain more of the business rates they collect locally along the lines of that pioneered in English cities. In England some councils can borrow against future business rate income from new businesses in regeneration areas, which capital they then use to regenerate those districts in the first place. This is known as tax increment financing.

Gerry Holtham’s paper has given us real food for thought as to how we can use the new tax powers being passed to us in a progressive and effective way, to both revitalise local democracy and deliver fairer outcomes. It deserves very serious consideration as we start to construct the treasury functions needed as a result of Silk and the Government of Wales Bill.