Land-Backed Debt as a Revenue Base
Gavin Putland
[A paper presented on 27 April 2010, at the IU Global Conference,
London. Reprinted from the Land Values Research Group website]
Abstract
In the case of land subject to a mortgage, Henry George favoured
treating the mortgagee (lender) as a part-owner for the purpose of
the single tax. From the viewpoint of the beneficial owner (the
borrower), this provision is equivalent to compensation for the debt
against the land at the time of introduction of the “tax”,
but is ineffectual if applied to debts incurred thereafter. The “compensation”
is at the expense of the lender as co-owner, not at the
expense of non-owners. It is unclear whether George would have given
such compensation for all debt against the land, or only
for debt incurred for the purpose of acquiring the land.
Compensation for the actual cost of acquisition (incurred
before the introduction of the single tax) suggests itself
as being less generous to the buyer than the former option, but more
generous than the latter.
Compensation for the cost of acquisition of land, as distinct from
its current value, is supported by independent argument and is not
explicitly condemned in George’s writings. If compensation
for the cost of acquisition is taken as the ideal, compensation for
outstanding debt can be understood as an approximation thereto, with
the advantage of avoiding inquiry into past events. But there is no
case for compensating acquisition costs or debts incurred after
the introduction of the single tax, not least because if the “tax”
takes the entire rental value of the land, there is no acquisition
cost to incur, and no land price to borrow against.
By treating the lender (or each lender, if there are more than
one) as part-owner in respect of the pre-existing debt against the
land at the time of introduction of the single tax, irrespective of
the purpose of the debt, and by giving the beneficial owner a
deduction for the greater of the said debt (or the sum of the said
debts) and the verifiable cost of acquisition, one could err on the
side of generosity to beneficial owners without conceding
compensation to land owners (including mortgagees) as a class.
The lenders, in order to remain solvent, would need a deduction for
their own pre-existing indebtedness, which would be taxable in the
hands of their creditors, and so on. As the pre-existing debts were
paid off, the associated taxes and deductions would disappear. This
arrangement would ease the transition to the single tax by ensuring
that an indebted “owner” is not
required to pay the same rent twice—once to the State and once
to the bank.
Contents
1. Introduction
1.1 Note on terminology
2. George, Spencer, and the
compensation question
2.1 Levels of compensation
2.2 Spencer’s “incongruous
passage”
2.3 George’s incongruous
omission
2.4 From George to Leo XIII
2.5 Debt vs. cost of acquisition
3. Without jar or shock
3.1 Solvency of lenders
3.2 Solvency of borrowers
3.3 Digression: Exemptions for
owner-occupied residential sites?
3.4 Notes on gradual implementation
4. Conclusion
Acknowledgment
Notes
1 Introduction
“Twelve political criticisms of [Henry] George were
paramount after he formed his own political party in 1887,”
wrote Michael Hudson in 2008 [1].
Among the milder accusations against George were:
(2) his singular focus on ground rent
to the exclusion of other forms of monopoly income…;
ï
(6) his refusal to acknowledge interest-bearing debt as the twin
form of rentier income alongside ground rent…
All words quoted so far are from Hudson’s abstract. His
conclusion opines that “Georgism failed to achieve
land-value taxation for three reasons”, including:
Third, Georgists have made no attempt
to trace who ends up with land rent and other economic rent. This
misses the symbiosis between mortgage banking and real estate that
has developed over the past century. …
As Hudson was writing in a journal receptive to Georgist ideas, he
must have expected a wide-ranging rejoinder. It came from Richard
Giles, Secretary of the Association for Good Government (formerly
the Henry George League) in New South Wales [2].
Giles defends many of George’s positions, including “his
singular focus on ground rent”, as being not political
positions but essential theoretical positions. But on
Hudson’s point (6), Giles remarks:
Hudson complains a couple of times that
George did not take up the issue of mortgages. Doubtless, had it
been a popular issue in his day, he would have.
Actually he did—in the following exchange with the jurist
David Dudley Field in 1885:
Field:
Then supposing A to own twenty lots, with twenty buildings
on them, the lots being, as vacant lots, worth each $1000, and the
buildings being worth $49 000 each; and B to own twenty
lots of the same value, as vacant lots, without any buildings; would
you tax A and B alike?
George: I
would.
Field:
Suppose that B, to buy the twenty lots, had borrowed the
price and mortgaged them for it; would you have the tax in that
case apportioned?
George: I
would hold the land for it. In cases in which it became
necessary to consider the relations of mortgagee and mortgager, I would
treat them as joint owners [3].
In so far as George’s “focus”
concerned taxation rather than nationalization, it was
indeed on “ground rent to the exclusion of other forms of
monopoly income,” as Hudson says. And George indeed
refused to acknowledge interest on debt as “rentier
income alongside ground rent”, if “alongside”
means “in addition to”. But in the exchange with
Field, George implicitly acknowledged interest as rentier income in
so far as it absorbed ground rent.
In Protection or Free Trade, in explaining the political
alignment of capitalists with landowners, George again acknowledged
that returns to land can appear in other guises:
Even in England, where the division
between the three economic orders—landholders, capitalists,
and laborers—is clearer than anywhere else, the distinction
between landholders and capitalists is more theoretical than real.
That is to say, the landholder is generally a capitalist as well,
and the capitalist is generally in actuality or expectation to some
extent a landholder, or by the agency of leases and mortgages
is interested in the profits of landholding [4].
Further confirmation came in the open letter to Pope Leo XIII,
where, in the course of denying that landowners should be
compensated for the single tax, George referred to
… the propertied class in
general, among whom the profits of land-ownership are really divided
through mortgages, rent charges, etc. [5].
While this letter does not explicitly identify the “propertied
class in general” with the class to be taxed without
compensation, George’s answer to Field makes it
sufficiently clear that the latter class includes mortgagees—that
is, mortgage lenders [6].
One cannot meaningfully debate compensation without specifying the
parties to whom compensation is to be granted or denied. More
generally, one cannot debate transitional arrangements without
specifying the class of taxpayers to be affected by the transition.
More fundamentally, one cannot impose a charge on land owners
without specifying who the “owners” are! There
were in George’s time, and still are, some jurisdictions
in which the mortgage lender is technically the owner of the
property until the debt is paid; and property buyers in all
jurisdictions are familiar with their “equity”
in the property—the implication being that for practical
purposes, the lender owns the rest. George could hardly ignore those
jurisdictions in which the mortgagee was the legal owner. Neither
could he ignore the treatment of mortgagees and mortgagers as joint
owners for the purpose of “property” taxation
under California’s 1879 constitution [7],
with which he was undoubtedly familiar [8].
But after George’s death, a century of Georgist
campaigning was apparently silent on including mortgages in the
revenue base [9],
even in the context of compensation. So Hudson’s claim
that “Georgists have made no attempt to trace who ends up
with land rent” seems to true of Georgists “over
the past century.” That it is not true of George
himself reinforces Hudson’s criticism of “Georgists”
in general, by making it harder for them to plead ignorance. In
particular, those who profess to take George as their sole or final
authority—apparently including Giles—must admit that
later Georgists were at fault in neglecting mortgages as a revenue
base, because George himself did not neglect them.
In this paper I take up Hudson’s challenge by
attempting to integrate mortgages into Georgist theory and policy.
But I also hope to keep faith with Giles by retaining George as
my final authority—with two minor qualifications. First, I pay
attention not only to what George said, but also to what he
conspicuously did not say. Second, I submit that George’s
authority does not extend to the interpretation of non-authorities
such as Herbert Spencer. For the latter reason, I hope to be
pardoned for disagreeing with George as to how Spencer contradicted
himself on compensation, as long as I maintain (as I do)
that he indeed contradicted himself.
1.1 Note on
terminology
With respect to land encumbered by a mortgage, the word owner
is ambiguous in that the mortgagee is the legal owner in some
jurisdictions but not in all. This ambiguity (among others) is
normally resolved by defining the beneficial owner as the
party who stands to collect any “capital gain”
on the land provided that the debt is serviced. In the simple case,
that means the mortgager; but “beneficial owner”
is more precise and more evocative of the intended meaning.
For convenience, clarity, and sufficient precision for the present
context, let us refer to the mortgagee simply as the lender.
2 George, Spencer, and
the compensation question
2.1 Levels of
compensation
From the viewpoint of the beneficial owners of land—not to
be confused with the viewpoint of any wider class of owners who
might be targeted by a public charge on land values—there are
at least five possible levels of compensation (or lack thereof) for
the introduction of such a charge:
- No compensation (not even for debt);
- Compensation for outstanding debt against the land, incurred
for the purpose of acquiring the land;
- Compensation for the past cost of acquiring the land;
- Compensation for outstanding debt against the land, incurred
for any purpose;
- Compensation for the current value of the land.
Level 4, which George famously opposed, was the preference of
J. S. Mill, who recommended taxing away only future
increments in ground-rents, and of the various land-nationalizers
who advocated buying back the land at market price, and
(effectively) of Spencer in his later writings, in which he was
anxious to demonstrate the impracticability of his earlier proposal
to nationalize land. Level 0 is the preference of modern
Georgists who consider themselves ultra-orthodox but have forgotten
what George himself said about mortgages. So, having accepted George
as my authority, I need not consider levels 0 and 4 any
further.
George’s prescription was either level 1 or level 3.
The difference has no effect on overall revenue, but concerns how
much of that revenue comes from beneficial owners and how much from
lenders; under level 3, less of it comes from beneficial
owners. Levels 1 and 3 agree in providing no compensation for
landowners as a class, but differ as to the definition of
that class; level 3 imputes more ownership to lenders and less
to beneficial owners. Only from the latter’s viewpoint is
level 3 more generous.
So, while George resolutely opposed compensation for land owners
as he defined them, he not only permitted, but actually
prescribed, compensation for beneficial owners—not
at the expense of non-owners (which was anathema to him) but at the
expense of other owners included in his definition.
From the statements quoted above, it is not clear whether George
preferred level 1 or level 3. However, if the government
suddenly introduces an annual charge on land values when the
ubiquitous “poor widow” has just taken
out a reverse mortgage on her home, it is perfectly clear which
level is easier to defend!
If the beneficial owner has incurred a debt in order to acquire
the land, the unpaid portion of that debt (level 1) is normally
less than the cost of acquisition. If the beneficial owner then
borrows against the risen land value for some other purpose, the new
total debt against the land (level 3) can exceed the cost of
acquisition, and can be made to do so at the option of the
beneficial owner (although the option would not always be
exercised). Hence, from the viewpoint of beneficial owners, level 1
is less generous than compensation for the cost of acquisition,
while level 3 is (at least potentially) more
generous, so that compensation for the cost of acquisition (level 2)
is within the range of compensation levels that are
compatible with George’s statements.
The foregoing comparisons apply to the introduction of a
charge on land values. If land is mortgaged when such a charge is
already in place, then the incidence of the charge on the
debt against the land is determined by the “higgling of
the market” regardless of which party is legally liable to
pay: if the charge is payable by the lender, the lender will want to
add it to the interest (or lend less), whereas if it is payable by
the borrower, the borrower will want to deduct it from the interest
(or borrow less). But it is simpler to make it payable by the
borrower, because then a buyer is responsible for the whole charge
on the land value (the charge being capitalized in the price; hence,
regardless of who is responsible for the charge on the debt
component, the ultimate incidence is on the seller). The question of
compensation for the cost of acquisition (level 2) does not
arise in respect of acquisitions after the charge is
introduced, because the implications of the charge are accepted and
“priced in” before the cost is incurred.
Moreover, if the charge is already in place and collects
100% of the rental value of the land, then the capitalized value of
land is reduced to zero, so that no new debts or acquisition costs
can be incurred in respect of land (as distinct from the
improvements). Accordingly, from this point on, levels 1 to 3 are
taken as referring only to debts and costs incurred before
the introduction of the charge on land values.
To the extent that the charge on the beneficial owner of land is
reduced on account of a loan against the land, George’s
proposal (level 1 or level 3) is that the forgone revenue
be recovered from the counterparty to the loan. This is
feasible because the debt, no less than the land title itself, is an
income-bearing asset. The same cannot be said if the charge on the
beneficial owner is reduced on account of the past cost of
acquisition (level 2), because the counterparty, i.e. the party
from whom the land was acquired, may have spent the proceeds on
consumption. So, if level 2 is adopted, from whom should the
forgone revenue be recovered? One option is to abandon the strict “counterparty”
logic and bill the lender as for level 1 or level 3.
Another is to write off the forgone revenue on the following
grounds:
- The abolition of existing taxes will automatically generate
enough additional rent to replace the revenue from those taxes [10].
- For the purpose of capturing the additional rent, the new
charge on land values must collect 100% of increments in
rental values, but need not collect all of the rental values as
they are when the new charge is introduced, let alone the rental
values as they were when the land was acquired; and only
the last-mentioned are forgone by compensating beneficial owners
for acquisition costs.
- Moreover, the “last-mentioned” are not
completely forgone, because when the parties from whom
the land was acquired spent the proceeds, they transfered spending
power which contributed to subsequent increments in ground-rents.
- The concession granted to current land owners is not
capitalized in transfer prices, because it is not transferable;
there is no suggestion of compensation for acquisition costs
incurred after the new charge is introduced.
A third option, with less leakage
of revenue, is to bill the lender as for level 3, and bill the
beneficial owner as for the more “generous” of
levels 2 and 3 (that is, compensate the beneficial owner for the
greater of the cost of acquisition and the total outstanding debt—the
latter being “potentially” greater, but not
necessarily greater in the individual case). If there is more than
one lender against the same site, then obviously each lender is
billed for its part of the debt at the time of introduction of the
charge, and the “total outstanding debt” is the
total for all lenders, regardless of the purpose for which each debt
was incurred.
In the foregoing discussion, compensation for the
past cost of acquisition is presented as a compromise between two
possible interpretations of George’s position. It what
follows, the same level of compensation is suggested by independent
reasoning, and by one of George’s more conspicuous
omissions.
2.2 Spencer’s
“incongruous passage”
In A Perplexed Philosopher, George compliments
Herbert Spencer for demonstrating, in Chapter IX of Social
Statics, that equity does not permit private property in land.
Although dissatisfied with Spencer’s “clumsy”
remedy of “having the state formally resume land and let
it out in lots” [11],
George concedes that the argument is “clear and logical,
except in one place.” He then quotes the allegedly “weak
and confusing” and “incongruous”
passage:
No doubt great difficulties must attend
the resumption, by mankind at large, of their rights to the soil.
The question of compensation to existing proprietors is a
complicated one—one that perhaps cannot be settled in a
strictly equitable manner. Had we to deal with the parties who
originally robbed the human race of its heritage, we might make
short work of the matter. But, unfortunately, most of our present
landowners are men who have either mediately or immediately—either
by their own acts, or by the acts of their ancestors—given for
their estates equivalents of honestly-earned wealth, believing that
they were investing their savings in a legitimate manner. To justly
estimate and liquidate the claims of such, is one of the most
intricate problems society will one day have to solve [12].
On its face, this passage refers to compensation for the cost
of acquisition of the land, excluding improvements.
What the present owners have “given for their
estates” is the cost of acquisition of their estates.
While the word “estates” by itself can be taken
to mean both land and improvements, the opening sentence announces
that the passage is about resumption of “rights to the
soil”—not rights to improvements.
Moreover, the right to compensation for improvements (as if it were
necessary to resume them) is unequivocally conceded earlier in the
same chapter [13];
hence, if the “incongruous” passage were about
compensation for improvements, there would be no need for the
defensive words “believing that they were investing their
savings in a legitimate manner,” because the legitimacy of
investing in improvements was never in dispute. Only by investing in
the land itself does one deal “mediately or immediately”
with “the parties who originally robbed the human race of
its heritage”. To estimate the acquisition cost for each
present owner is indeed “intricate” because it
requires evidence of the historical cost of acquisition of the land—as
distinct from improvements which may no longer exist, and whose
state at the time of acquisition may not be known—and
converting that cost to a present value or annuity. If Spencer were
here referring to compensation for the current value of
the land and/or the improvements, the bill would normally be far
higher but also far easier to estimate, in which case he would
surely express concern about the size of the bill rather than the
intricacy of the assessment.
But according to George, “this passage seems to admit
that existing landowners should be compensated for the land
they hold” (emphasis added), this being “diametrically
opposed to all that has gone before and all that follows after,”
but nevertheless “the sense in which it has been generally
understood” and “the sense in which I understood
it when, in quoting from Social Statics in Progress and
Poverty [14],
I spoke of it as a careless concession, which Mr. Spencer
on reflection would undoubtedly reconsider.”
The passage would indeed be “diametrically opposed to
all that has gone before and all that follows after” if it
referred to compensation for the present value of the
land, but not if it referred to compensation only for the
cost of acquisition of the land; under the latter
interpretation, consistency alone would not require Spencer to “reconsider.”
But George, not noticing that possibility, does some reconsidering
of his own, asserting that Spencer really meant compensation for the
improvements, and explaining the new interpretation by
re-quoting the passage with some interpolated words. George duly
acknowledges the added words (using italics), but fails to
acknowledge that he has also omitted the first sentence,
containing the crucial words “rights to the soil”,
which do not fit his preferred interpretation! He further supports
that interpretation by noting:
And that this was what Mr. Spencer
had in mind is supported by his more recent utterances; for while he
has allowed these sentences to be understood as meaning compensation
to landowners for their land, yet in the only places where he has
stated in terms what the compensation he has proposed is to be for,
he has, as will hereafter be seen, spoken of it as “compensation
for the artificial value given by cultivation,” or by some
similar phrase showed that what was in his mind was merely
compensation for improvements [15].
That is true. But why should George, of all people, credit Spencer
with consistency on this point? Spencer’s “more
recent utterances” dated from after Progress and
Poverty, and were calculated to maximize the cost of the
required compensation so that he could claim that nationalization of
land, though imperative in theory, was impossible in practice—that
is, so that he could back away from his youthful radicalism without
admitting it. This he did by (among other devices) ignoring the
locational component of the unimproved value, so that the unearned
value conferred by the surrounding community would be wrongly
counted as improvements requiring compensation [16].
In view of this agenda, the mature Spencer was never going to admit
that the youthful Spencer’s “incongruous passage”
referred only to compensation for the past cost of acquisition,
because that level of compensation would have been too feasible.
2.3 George’s
incongruous omission
George’s first argument against compensation, namely
that it would “give the land holders in another form a
claim of the same kind and amount that their possession of land now
gives them” and in particular “raise for them by
taxation the same proportion of the earnings of labor and capital
that they are now enabled to appropriate in rent” [17],
assumes that the compensation is for the present value of
the land—not for any lesser value at which the land might have
been purchased in the past. Through the rest of his writings, George
likewise considers “compensation” as
compensation for the current value, and does not explicitly reject
compensation for the cost of acquisition.
To one who recognizes property in the products of labour but not
in land, the argument that some land “owners”
have bought their land with the proceeds of their own labour is, on
its face, an argument for compensation for the purchase price only—not
for any higher value that the land may have subsequently attained.
Yet even when addressing that argument, George does not distinguish
between compensation for the purchase price and compensation for the
current value, and does not make a separate case against the former.
His answer is that those who bought their land “got no
better title than the seller had to give” [18].
This is later elaborated as follows:
When a man exchanges property of one
kind for property of another kind he gives up the one with all its
incidents and takes in its stead the other with its incidents. He
cannot sell bricks and buy hay, and then complain because the hay
burned when the bricks would not. The greater liability of the hay
to burn is one of the incidents he accepted in buying it. Nor can he
exchange property having moral sanction for property having only
legal sanction, and claim that the moral sanction of the thing he
sold attaches now to the thing he bought. That has gone with the
thing to the other party in the exchange [19].
That is true of a valid exchange. But if the exchange was invalid,
does not the status quo ante, in so far as it was valid,
remain in force? (Note that this is a moral argument, not
a legal one.) And in the case of a sale of land, does this not mean
that the buyer can reclaim the purchase price?
Moreover, as taxes are paid by persons, not things, George’s
argument does not of itself tell us which (if any) party in the
exchange of land for money is to be credited with the moral
sanction. One might credit the seller by saying “Caveat
emptor!” But the purpose of caveat emptor, in
so far as modern consumer-protection laws have not abandoned it in
favour of the reverse (caveat venditor), is to avoid
interminable disputes of fact—not of law or morals.
For the same reason, George goes on to reject two other legal
doctrines as arguments for compensation:
Innocent purchasers of what involves wrong to others! Is not the
phrase absurd? If in our legal tribunals, “ignorance of
the law excuseth no man,” how much less can it do so in
the tribunal of morals—and it is this to which
compensationists appeal.
And innocence can only shield from the punishment due to
conscious wrong; it cannot give right. … Nor does
the principle of market overt, which gives to the
purchaser of certain things openly sold in certain places,
possession even against the rightful owner unless he proves fraud;
nor the principle of statutes of limitation, which refuses
to question ownership after a certain lapse of time, deny this
general principle.
The principle of “market overt” is not that
passage from hand to hand gives ownership, but that there are
certain things so constantly passing from hand to hand by simple
transfer that the interests of commerce and the general
convenience are best served by assuming possession to be
conclusive of ownership where wrongful intent cannot be proved.
The principle of statutes of limitation is not that mere length of
possession gives ownership, but that past a certain point it
becomes impossible certainly to adjudicate disputes between man
and man… No scheme of religion and no theory of morals
would hold him blameless who relied on a statute of limitations to
keep what he knew belonged morally to another. But legal machinery
… can inquire only into the evidence; and the
evidence of things past is to human perceptions quickly dimmed and
soon obliterated by the passage of time [20].
Likewise, the evidence of a factual grievance held by a
buyer against a seller may be obliterated as soon as the two part
company—in which case, caveat emptor. But where such
evidence exists, caveat venditor has been ascendant.
Ironically, caveat venditor apparently began with the “market
overt” rule, which Albert H. Putney explains thus:
Sales in market overt in England, offer
an exception to the general principle that the vendor can convey
only such title as he himself possesses. As has been stated, the
doctrine has no application in the United States. In London all
shops in which goods are exposed subject to sale are markets overt,
but in the country only such places are so considered, as are set
apart by custom for the vending of certain goods, and all shops are
not included. Even in London the shops are considered as markets
overt, only for such goods as are usually sold in the shop. The
shop-keeper himself is not protected from liability by this rule of
law; it is for the benefit only of the innocent purchaser. A
sale in market overt could not convey title to property of the
kings, nor could a sale there made, protect the purchaser who does
not buy in good faith. And the sale must not be made in a warehouse
or where the shop windows are closed [21].
The “market overt” rule has since disappeared
from English common law, but its intent survives in
consumer-protection laws and industry codes that require sellers in
certain markets to guarantee title. Where the guarantee takes the
form of a refund of the purchase price of any item that turns out to
be stolen, it amounts to compensation for the cost of acquisition.
In view of the retreat of caveat emptor, which in any case
concerns facts rather than morals, invoking caveat emptor to
penalize the buyer and absolve the seller of a morally invalid land
title would be, at best, arbitrary.
In his much-quoted chapter “The Great-Great-Grandson of
Captain Kidd”, George comes closest to rejecting
compensation for the cost of acquisition:
Or supposing it had happened that Mr. Kidd
had sold out his piratical business to Smith, Jones, or Robinson, we
will all agree that society ought to say that their purchase of the
business gave them no greater right than Mr. Kidd had [22].
As Mr. Kidd is assumed to have inherited the business, and as
neither he nor any of his ancestors appears to have bought or built
the business with the fruits of honest labour, George here implies—although
he nowhere draws attention to it—that there should be no
inclination to compensate the buyer of a piratical business for the
cost of acquisition.
This in turn implies that there should be no inclination to
compensate the buyer of land for the cost of acquisition, if
the two cases are sufficiently analogous. But are they? And would
George have claimed that they are? George goes on to say that
property in land has done far more mischief than sea-piracy.
Conceding that point, one is still confronted with an essential
difference: that while no one is obliged to be a sea-pirate,
everyone is absolutely obliged to use land [23].
Hence, while there is no sympathy for one who buys a piratical
business and loses it, there is instinctive sympathy for one who is
forced to pay more than once for the right to use a piece
of land. The Georgist doctrine that the landholder has the duty to
compensate society by paying the rental value of the land—no
more and no less—should not diminish that sympathy, but rather
reinforce it. With this in mind, consider the following scenarios.
Case 1: A tenant is renting land from
a landlord, who owns it by inheritance, when the State suddenly
starts collecting the full rental value of land (the “Public
Rent”) in lieu of taxes. Thereafter, the landlord
forwards the rent to the State. The tenant still pays the rent for
the use of the land, but the landlord no longer retains it, and
neither party pays tax any more. This is the desired outcome.
Case 2: As for case 1, except that the tenant
has prepaid 10 years’ rent and is partway through the
10-year lease when the State suddenly starts collecting the Public
Rent; moreover the State forbids the landlord to demand more rent
for the prepaid period. If the assessed Public Rent has increased
since the start of the lease, from which party shall the State
demand the increase?
(a) If the landlord, then in the absence of
purely arbitrary line-drawing, the same answer must be given for a
prepaid 20-year lease or 49-year lease or 99-year lease, or for a
perpetual lease, whose price would hardly differ from that of a
99-year lease, or indeed for an outright purchase, whose price would
hardly differ from that of a perpetual lease. So the outright
purchaser would not only be compensated for the purchase price, but
would escape the Public Rent in perpetuity! Clearly that is absurd.
(b) If the tenant, shall the State bill the tenant
only for the increase in the Public Rent since the start
of the lease, or for the whole Public Rent?
(i) If the whole Public Rent, then the
tenant pays ground-rent twice—once to the landlord and once
to the State—and is presumably ruined, which is presumably
unacceptable. Hence, if the prepaid period is extended until the
lease becomes an outright purchase, it is likewise unacceptable
that the buyer pays the purchase price to the seller plus the
Public Rent to the State; that is, it is unacceptable
that the buyer not be compensated for the purchase
price.
(ii) So the only remaining option is to bill the
tenant for the increase in the Public Rent. Then, if
the lease is extended into an outright purchase, the seller
continues to pay the rent as at the time of sale, while the
buyer pays the increase since that time. That is, the buyer is
compensated for the rental equivalent of the
purchase price, which is paid by the seller.
The resulting treatment of the buyer is not the proposal
of J. S. Mill, but differs from it in two ways. First, the
buyer pays the increase in the rental value since the time of
acquisition, not since the time of introduction of the Public Rent.
Second, the rental value at the time of acquisition is taken from
the seller. Consequently, there is no compensation for
landowners as a class, provided that the sellers are included
in that class. The practicalities of billing the sellers are
considered at the end of subsection 2.1,
above.
Case 3: If, contrary to the
conclusion in case 2(b)(i), it is acceptable that the buyer not
be compensated for the purchase price, let the Public Rent be
introduced immediately after the purchase (this being but a limiting
case), and let the seller be the State (this being but a special
case), and let the buyer be you. Then it is acceptable that the
State sells you the land, then immediately repents of its evil ways
and starts charging you the full rental value of the same land,
although its repentance does not extend to refunding the purchase
price!
If, in general, it is unacceptable that the buyer be compensated
for the cost of acquisition, then, in case 3 above, it is
unacceptable for the State to refund the purchase price, although
this would be equivalent to not selling the land in the first place.
Thus the rejection of compensation for the cost of acquisition is
distilled to an absurdity.
2.4 From George to Leo
XIII
Because George did not make the distinction between the cost of
acquisition and the present value when attacking property in land or
compensation for it, Pope Leo XIII was free to ignore that
distinction when defending the same, and thence to gloss over the
fact that land is usually worth more than the cost of acquisition,
whereas anything else acquired by the same means is usually worth
less:
If one man hires out to another his
strength or skill, he … expressly intends to acquire a
right full and real, not only to the remuneration, but also to the
disposal of such remuneration, just as he pleases. Thus, if he lives
sparingly, saves money, and, for greater security, invests his
savings in land, the land, in such case, is only his wages under
another form; and, consequently, a working man’s little
estate thus purchased should be as completely at his full disposal
as are the wages he receives for his labor. But it is precisely in
such power of disposal that ownership obtains, whether the property
consist of land or chattels [24].
If George, in his earlier writings, had expressly and prominently
approved compensation for the working man’s cost of
acquisition, that would have been far more clearly “only
his wages in another form”, so that Leo’s
statement above, had it been directed against George, would have
needed to defend speculative gains. That, I submit,
was and is an unlikely course for a Pope to take.
2.5 Debt vs. cost of
acquisition
Compensation for the cost of acquisition requires evidence of the
cost—that is, evidence of a past event. If there is
a current debt outstanding against the land, evidence of
that debt is likely to be more recent and voluminous, because the
lender is interested in enforcing the debt and monitoring its
performance. Similarly, the evidence of the amount of the
debt is likely to be more recent and voluminous than the evidence of
its purpose. So, if compensation for the cost of
acquisition (level 2) is accepted as the ideal, compensation
for the outstanding debt against the land regardless of purpose
(level 3), can be understood as a sort of ultimate extension of
the doctrine of statutes of limitations, to the point where one
inquires as to the amount of the current debt, but not the history
of it.
Alternatively, the State could consider any evidence of the cost
of acquisition only if it is to the advantage of the beneficial
owner. That is, the lender could be treated as part-owner to the
extent of the debt (level 3), and the beneficial owner could be
compensated for the greater of the debt and the verifiable cost of
acquisition. Apart from the obvious need for verifiability, this
option has already been canvassed [subsection 2.1].
3 Without jar or shock
3.1 Solvency of
lenders
The “too big to fail” doctrine holds that
large lenders are indispensable and must therefore be rescued from
mass defaults—as if rescuing them would make them lend for
productive purposes, and as if governments could not create credit
for the same purposes. One can deny that doctrine while still
admitting that, strictly speaking, a tax reform that bankrupted
mortgagees would not be “without jar or shock” [25].
If a bank has a portfolio of loans yielding interest of 8% (per
annum), against property with a rental yield of 5%, of which 2.5%
(i.e. half of the yield) is due to the land component, and if the
bank were suddenly required to pay the rental value of its claims on
the land in lieu of taxes, then that rental value would amount to a
little more than 30% of the interest. That would be similar to what
the bank presently pays in income tax on the interest. If any change
in the tax bill were shifted onto borrowers, the resulting change in
interest rates would be well within the limits of experience, and in
any case the central bank could make such compensating adjustments
as it thought fit.
That considers only the lending side of the business. Banks not
only lend but also borrow; and under the present system the interest
on their borrowings is tax-deductible. To preserve that feature
under a Georgist system, the borrowings would need to be deductible
at 2.5% in the hand of the bank, but taxable at the same rate in the
hands of the upstream lenders, who in turn could claim deductions
for their borrowings; and so on. To prevent tax avoidance through
securitization, the tax on securitized debt would be payable by the
holders of the securities. There would be some leakage of revenue
under this formula, because some lenders would be outside the taxing
jurisdiction while others (especially individual depositors) would
tend to attract exemptions. But one could tolerate such leakage for
much the same reasons as one could write off the tax payable by “counterparties”
under level 2.
The result is a general tax on pre-existing debt (that
is, debt dating from before the introduction of the Public Rent) at
the rate of 2.5%, except that a pre-existing debt backed by a claim
against property is taxed at the rental value of the land component
of the claim—the remainder of the rental value of the land
being payable by the beneficial owner, subject to any concession
that may apply where the historical cost of acquisition is greater
than the outstanding debt.
Thus the tax on debt [26],
payable by lenders, would be a transitional provision.
Initially there would be some political advantage in it, because of
the role of lenders in financing property bubbles, leading to
bursts, financial crises, and recessions. But as property bubbles
would be impossible under the new Georgist system, the reputation of
lenders would presumably improve, so that the gradual disappearance
of the tax (due to repayment of old debt) would be readily accepted.
3.2 Solvency of
borrowers
The same tax on pre-existing debt would give lenders an incentive
to write down non-performing debts to serviceable levels, in order
to avoid paying tax on debt that is not realistically recoverable.
In managing such write-downs, creditors would be keen to minimize
damage to the debtors’ credit in order to maximize the
debtors’ chances of servicing the remaining debt. The
maintenance of credit-worthiness would help to minimize “jar
or shock” and accelerate recovery from any crisis that
preceded the implementation of Public Rent. After the
implementation, such crises would be unlikely to recur, so the lack
of any similar tax on debt incurred after the
implementation would be readily tolerated.
If the State starts collecting the entire rental value of a site,
the sale price of the site falls to zero. If this happens suddenly
while the site is subject to a mortgage, the beneficial owner is
left with negative equity. Treating the lender as part-owner
for the purpose of collecting the rent does not solve this
problem, but does solve a more serious problem by ensuring
that negative equity is not reflected as negative cash flow—that
is, by ensuring that the beneficial owner does not pay both interest
and rent on the same portion of the site value.
If the cash-flow issue is thus addressed, and if the insolvency
laws are adjusted to ensure that beneficial owners are not deemed to
be insolvent solely by reason of wipe-outs of land prices, then it
becomes easier to argue that home owners are no worse off
due to the disappearance of the sale prices of their sites, because
the purchases prices of alternative home sites are likewise wiped
out.
Treating lenders as part-owners does not address the difficulty of
the retired home owner whose only asset is the home, and whose
income is now insufficient to pay the Public Rent, and who can no
longer get a reverse mortgage on the site, because it no longer has
a capitalized value. Neither does it deal effectively with the
investor who now has negative equity in several
properties, and who may therefore be tempted to “walk away”.
Rather than propose specific solutions, I point out that if the
State is to abolish existing taxes and collect enough site
rent to reduce capitalized site values to zero, it will need to
collect the rental values of sites not as they presently are, but
as they would be in the absence of the existing taxes. To
a first approximation, the amount of site rent collected will be the
total of present site rents and present taxes, so that the present
site rents will represent additional revenue, providing
ample means with which to respond to any remaining transitional
problems. If the responses can be characterized as middle-class
welfare or upper-class welfare or unjustified bailouts, they will
not be the first such abuses; but they can be the last.
If, on the contrary, the State were to collect only enough of the
site rent to replace existing taxes, then the sale prices of sites
would not be wiped out. Thus the issue of negative equity
would not arise, while the “asset-rich, income-poor”
home owner would remain asset-rich and would still be able to borrow
against the site value. But George did not approve any such limited
program, except “[f]or a beginning” [27],
from which he thought the end would “follow as a matter of
course” [28].
In cases where the State foreclosed on beneficial owners who
failed to pay their shares of the site rent, the enabling
legislation would need to specify the priorities of tax liens and
mortgages. In this paper, however, the focus is on avoiding the need
for such foreclosures.
3.3 Digression:
Exemptions for owner-occupied residential sites?
George would not have exempted the site under the “family
home” from the public collection of site rent, whether
that collection were full or partial. However, it may be of interest
to consider how the cost of such an exemption would be affected by
the transitional tax on debt—especially in the case of
Australia, where the “family home” is exempt
from State and Territory land taxes.
At June 2009, according to the Australian Bureau of Statistics [29],
Australia’s land was worth $3012 billion, of which
$2215 bn was residential, $592 bn commercial or rural, and
$205 bn “other”, all figures being
capitalized values in Australian dollars. Excluding the “other”
as being probably unavailable for environmental or cultural reasons,
we are left with a usable value of about $2800 bn, which, at an
annual yield of 5%, would give an annual rent of about $140 bn,
comprising about $110 bn residential, and $30 bn
commercial or rural. Of the residential land, perhaps $80 bn by
rental value would be owner-occupied. If that is exempt in the usual
sense, the forgone revenue is about $80 bn, which is comparable
to the combined revenue from GST (VAT), fuel excise and payroll tax.
However, of the exempt value, probably a little more than a quarter
is owed to lenders. Hence, if the corresponding rental value is
taken from the lenders, the “clawback” of
revenue is a little more than $20 bn, which is more than enough
to replace the much-ridiculed payroll tax.
These figures are conservative in that they fail to account for
the effect of abolition of existing taxes. If we accept the thesis,
as George did, that taxes in the aggregate are deductions from site
rent, then the figures just quoted can be “grossed up”
by a factor of at least three, in which case the “clawback”
would be at least equivalent to GST plus payroll tax.
The “clawback”, however, would be temporary,
because it would be reduced as pre-existing debts were paid off.
3.4 Notes on gradual
implementation
In theory, one way to implement George’s program “without
jar or shock” is to implement it gradually—first
moving property taxes from improvements to land, then gradually
increasing the rate while phasing out other taxes—giving
property owners ample time to avoid negative equity and negative
cash flow. In practice, however, land speculators will use that time
not to prepare for the reform, but to defeat it. That leads many
modern Georgists to reject gradual implementation.
But if public collection of site rent is implemented in one step,
how shall negative equity and negative cash flow be avoided? George
himself hoped that the mere expectation of reform would
gradually reduce capitalized values of land, and thereby gradually
reduce the motive for opposing reform. He used this as an argument
against compensation—and in the present context it is
noteworthy that his argument would be weakened if the compensation
were for a fixed historical cost of acquisition rather than the
increasing present value:
Take slavery. The confidence of American slave-holders, …
that abolition would not come without compensation, kept up to the
highest point the market value of slaves, …
whereas if there had been no paltering with the idea of
compensation the growth of the sentiment against slavery would by
reducing the selling value of slaves have gradually lessened the
pecuniary interests concerned in supporting it.
Take private property in land. Where the expectation of future
growth and improvement is in every advancing community a most
important element in selling value, the effect of the idea of
compensation will be to keep up speculation, and thus to prevent
that lessening in the selling value of land, that gradual
accommodation of individuals to the coming change, which is
the natural effect of the growth of the demand for the recognition
of equal rights to land [30].
This is true even if the “coming change” is to
happen in a single step—provided of course that the single
step is sufficiently delayed. And this mechanism is relied upon by
some modern Georgists who propose full implementation in one step.
The price of avoiding “jar or shock”, according
to them, is not gradual change but “gradual accommodation”
to a long-delayed single-step change. It is the gradualism that one
embraces when one does not admit being a gradualist. Meanwhile,
landed interests use the delay to prevent the necessary “gradual
accommodation”. In so doing, they indefinitely prolong the
delay.
A third option, which is a sort of political analog of the
biologists’ punctuated gradualism, is to move the
tax burden onto land values not in small steps, but in large
steps, each step being accompanied by the abolition of some
existing taxes for all of the people, or of all existing taxes for
some of the people, so that any politician who proposes to reverse
the step has a veritable cliff-face to climb—a cliff-face made
all the higher by the compliance costs that disappeared along with
the taxes. Thus each step, like the click of a ratchet, is easier to
do than to undo. If the first step is intrinsically free
of “jar or shock”, it can be implemented without
delay.
A particularly attractive “first step” is the
one that collects just enough of the site rent to abolish all
existing taxes for all of the people. But if this much is
to be done without forcing recent mortgagers into negative cash
flow, the lenders will need to be treated as part-owners in
proportion to debts incurred before the “first step”.
4 Conclusion
Because a tax on debt incurred for the purpose of acquiring land
is shifted onto the land, such debt is not a revenue base distinct
from the land value unless the debt was incurred before the
introduction of the public charge on the land value. Even then, a
tax on the debt is only a means of collecting that part of the land
rent which is no longer collectable from the beneficial owners
(borrowers) because they have pledged it to the lenders in the form
of interest.
In practice, however, if one wishes to collect the rent of land
for public purposes, one must collect it from those who actually
have it. In the case of the portion of the rent paid as interest
under mortgages taken out before the introduction of
public collection of land rent, those who have it are the lenders.
And because lenders also borrow, they must be allowed a deduction
for debt incurred before the introduction of public rent collection—that
debt being taxable in the hands of their creditors, and so on.
These remarks apply to pre-existing debt owed against land or owed
by those who have lent against land; the revenue potential of debt
in general is not considered here.
From the viewpoint of the beneficial owner, treating the lender as
part-owner for the purpose of the “single tax”
would be equivalent to compensation for the debt. One could err on
the side of generosity to the beneficial owner by stipulating that
if compensation for the proven historical cost of acquisition is
more generous than compensation for the debt, the former shall
apply. Neither arrangement is condemned in the writings of Henry
George, and neither would amount to compensation for land owners
as a class if that class includes mortgage lenders.
Acknowledgment
Without implying any endorsement of the finished
product, the author wishes to thank Michael Hudson, Terence M.
Dwyer, David W. Spain, and Bryan Kavanagh for discussions preceding
the writing of this paper.
Notes
[1] Michael
Hudson, “Henry George’s Political Critics”,
American J. of Economics and Sociology, vol. 67, no. 1
(Jan. 2008), pp. 1–45.
[2] Richard
Giles, “Henry George Under the Microscope: Comments on ‘Henry
George’s Political Critics’ ”,
American J. of Economics and Sociology, vol. 68, no. 5
(Nov. 2009), pp. 1153–1167.
[3] “ Land
and Taxation: A Conversation between David Dudley Field and Henry
George”, North American Review, July 1885;
reprinted in (e.g.) The Complete Works of Henry George (New
York: Doubleday Page & Co., 1904), vol. 8 (“Our
Land and Land Policy, Speeches, Lectures and Miscellaneous
Writings”), pp. 219–239. Emphasis added.
[4] Protection
or Free Trade (1886),
Chapter XXVII,
par. 14. Emphasis added.
[5] Henry
George, The
Condition of Labor (1891), Chapter II,
Ans. 8. Emphasis added.
[6] The
borrower is the mortgager (also spelt “mortgagor ”),
as is clear when the word mortgage is used as a verb.
[7] Constitution
of the State of California (1879), Art. XIII, s. 4.
The scope of “property” is very wide (Art. XIII,
s. 1). The author is indebted to Prof. Mason Gaffney for
pointing out this precedent.
[8] “In
point of constructive statesmanship…, the Constitution of
the United States, adopted a century ago, is greatly superior to the
latest State Constitutions, the most recent of which is that of
California—a piece of utter botchwork.” — Progress
and Poverty,
Book X,
Chapter 4, note 67.
[9] Mason
Gaffney mentioned the idea in “ The
Great Crash of 2008 ”, GroundSwell,
Jul.–Aug. 2008.
[10] Cf.
Progress and Poverty,
Book VI,
Chapter 1, s. I (“From Greater Economy in
Government”).
[11] Henry
George, A
Perplexed Philosopher (1892),
Part I,
Chapter II (“The
Incongruous Passage”).
[12]
Herbert Spencer, Social Statics (1851),
Chapter IX,
§ 9.
[13] Social
Statics, Chapter IX,
§ 4.
[14]
Book VIII,
Chapter 2, par. 7. (Footnote added.)
[15] The
quoted phrase is from Spencer’s letter in The Times
(London), Nov. 7, 1889, reproduced in A Perplexed
Philosopher,
Part II,
Chapter III.
[16] Cf.
A Perplexed Philosopher,
Part III,
Chapter VIII.
[17] Progress
and Poverty,
Book VII,
Chapter 3, par. 10.
[18] Henry
George, The
Land Question (1881), Chapter VI (“Landlords’
Right is Labor’s Wrong”).
[19] A
Perplexed Philosopher,
Part III,
Chapter XI.
[20] Loc. cit.
Emphasis added.
[21] Albert
H. Putney, Popular Law
Library, vol. V: Sales,
Personal Property, Bailments, Carriers, Patents, Copyrights
(Minneapolis: Cree Publishing Co., 1908), “Eleventh
Subject — Sales”,
Section 63
(“Purchaser in Market Overt”). Emphasis added;
punctuation original !
[22] The
Land Question, Chapter VII.
[23] Even
the sea is “land” in the economic sense, and
even a Flying Dutchman indirectly uses “land”
in the sense of terra firma.
[24] Leo XIII,
Rerum Novarum (1891),
English Ed.
(Vatican Publishing House), par. 5.
[25] “Nor
to take rent for public uses is it necessary that the State should
bother with the letting of lands… The machinery already
exists. Instead of extending it, all we have to do is to simplify
and reduce it. By … making use of this existing
machinery, we may, without jar or shock, assert the common right to
land by taking rent for public uses.” — Progress
and Poverty,
Book VIII,
Chapter 2, par. 13.
[26] That
is, the tax on debt as proposed here, and not necessarily as
proposed in any past or future document by this author!
[27] “ Land
and Taxation: A Conversation between David Dudley Field and Henry
George ”; see note 3.
[28] Progress
and Poverty,
Book VIII,
Chapter 2, par. 18.
[29] Australian
System of National Accounts, ABS 5204.0, Table 61
(“Value of Land, by Land use by State/Territory”).
[30] A
Perplexed Philosopher,
Part III,
Chapter XI. Emphasis added.
__________
*
HTML edition posted May 7, 2010. The author directs the
Land Values Research Group at
Prosper Australia, 1/27
Hardware Lane, Melbourne.
