HOUSING FINANCE: IMPACT OF HEAVY INTEREST INCOME TAX
Keywords:
Housing Market, Direct Real Estate, Price-Rent Ratio, Return, Macroeconomics, Tax, Fixed-Income.
Abstract
Heavy taxation of interest income becomes a structural driver of property prices in a low-interest-rate environment. Inflation-adjusted price appreciation in 1996-2017 is approximately 200 basis points higher in 14 countries allowing no exemptions on interest income than in 37 countries that tax interest income at favorable rates or provide exemptions. Results for average returns over long-term periods are confirmed in models with annual frequencies, city-level data, and in a sample of 39 OECD countries for which price/rent ratios are available. It appears that investors view direct real estate, a heavily tax-favored asset, as an inflation hedge and/or alternative to fixed income asset. Higher interest income taxation may be fueling demand for direct real estate investments by retail investors. Separately, my empirical findings suggest that easy monetary policy effects can be magnified through the housing channel in countries that do not allow exemptions on interest income. Consequently, we should expect larger investment misallocations due to asset prices departure from fundamentals in some geographies.
JEL Classification Codes: E3, E4, F3, G1, G5, H2.
References
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Campbell, S. D., Davis, M. A., Gallin, J., & Martin, R. F. (2009). What moves housing markets: a variance decomposition of the rent-price ratio. Journal of Urban Economics, 66(2), 90-102.
Capozza D. R., Hendershott, P. H., Mack, C., & Mayer, C. J. (2002). Determinants of real house price dynamics, NBER Working Paper, No. 9262.
Case, B., Goetzman, W., & Rouwenhorst, K. G. (2000). Global real estate markets – cycles and fundamentals. NBER Working Paper,No. 7566.
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Case, K. E., & Shiller, R. J. (1990). Forecasting prices and excess returns in the housing market. American Real Estate and Urban Economics Association Journal, 18(3), 253-273.
Case, K. E., & Shiller, R. J. (2003). Is there a bubble in the housing market? Brookings Paper on Economic Activity, 2, 299-362.
Case, K. E. (2008). The central role of home prices in the current financial crisis: how will the market clear? Brookings Paper on Economic Activity, 39(2), 161-193.
Clayton, J. (1998). Further evidence on real estate market efficiency, Journal of Real Estate Research, 15(1/2), 41-57.
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Gan, J. (2010). Housing wealth and consumption growth: evidence from a large panel of households. The Review of Financial Studies, 23(6), 2229-2267.
Gatzlaff, D. H. (1994). Excess returns, inflation and the efficiency of the housing market. Journal of the American Real Estate and Urban Economics Association, 22(4), 553-581.
Gatzlaff, D. H., & Tirtiroglu, D. (1995). Real estate market efficiency: issues and evidence. Journal of Real Estate Literature, 3(2), 157-189.
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Heckman, J. S. (1985). Rental price adjustment and investment in the office market.Real Estate Economics, 13(1), 32-47.
Ho, D. K. H., Addae-Dapaah, K., & Glascock, J. L. (2015). International Direct Real Estate Risk Premiums in a Multi-Factor Estimation Model. Journal of Real Estate Finance and Economics, 51(1), 52-85.
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Hwang, M., & Quigley, J. M. (2006). Economic fundamentals in local housing markets: evidence from US metropolitan regions. Journal of Regional Science, 46(3), 425-453.
in't Veld, J., Kollmann, R., Pataracchia, B., Ratto, M., & Roeger, W.(2014). International capital flows and the boom-bust cycle in Spain. Journal of International Money and Finance, 48(B), 314-335.
Inglesi-Lotz, R., & Gupta, R. (2013). Relationship between house prices and inflation in South Africa: an ARDL approach. International Journal of Strategic Property Management, 17(2), 188-198.
Kishor, K. N., & Marfatia, H. A. (2017). The dynamic relationship between housing prices and the macroeconomy: evidence from OECD countries. Journal of Real Estate Finance and Economics, 54(2), 237-268.
KPMG. (2021). Individual tax rates for 2011-2021. Retrieved from https://home.kpmg/xx/en/home/services/tax/tax-tools-and-resources/tax-rates-online/individual-income-tax-rates-table.html
Krainer, J., & Wei, C. (2004). House prices and fundamental value.FRBSF Economic Letter, November-October, 1-3.
Kuttner, K. N. (2012). Low interest rates and housing bubbles: still no smoking gun. Department of Economics Working Papers from Department of Economics, Williams College, Working Paper No. 2012-01.
Lai, R. N., & Van Order, R. (2017) U.S. House Prices over the last 30 years: bubbles, regime shifts and market (in) efficiency. Real Estate Economics, 45(2), 259-300.
Linneman, P. (1986). An empirical test of the efficiency of the housing market. Journal of Urban Economics, 20(2), 140-154.
Liu, C. L., & Mei, J. (1992). The predictability of returns on equity REITs and their co-movement with other assets. Journal of Real Estate Finance and Economics, 5(4), 401-418.
Lowry, M. (2003). Why Does IPO Volume Fluctuate so much? Journal of Financial Economics, 67(1), 3-40.
Mankiw, N. G., & Weil, D. N. (1989). The baby boom, the baby bust, and the housing market. Regional Science and Urban Economics, 19(2), 235-258.
Myers, D., & Pitkin, J. (2009). Demographic Forces and Turning Points in the American City, 1950-2040.The Annals of the American Academy of Political and Social Science, 626(1), 91-111.
Pavlidis, E., Yusupova, A., Paya, I., Peel, D., Martinez-Garcia, E., Mack, A., & Grossman, V. (2016). Episodes of exuberance in housing markets: in search of the smoking gun. Journal of Real Estate Finance and Economics, 53(4), 419-449.
Poterba, J. M., Weil, D. N., & Shiller, R. (1991). House price dynamics: the role of tax policy and demography. Brookings Papers on Economic Activity, 2, 143-203.
Shindler, F. (2013). Predictability and Persistence of the Price Movements of the S&P/Case-Shiller House Price Indices. Journal of Real Estate Finance and Economics, 46(1), 44-90.
Taylor, J. B. (2013). International monetary coordination and the great deviation. Journal of Policy Modeling, 35(3), 463-472.
Wheaton, W.C., Torto, R. G., Sivitanides, P. S., Southard, J. A., Hopkins, R. E., & Costello, J. M. (2001). Real estate risk: a forward-looking approach. Real Estate Finance, 18(3), 20-28.
Williamson, K.M. (1933). The taxation of real estate: a survey of recent discussion. The Quarterly Journal of Economics, 48(1), 96-128.
Ahuja, A., Lillian C., Porter, G., N., & Zhang, W. (2010). Are house prices rising too fast in China? IMF working paper, No. WP/10/274.
Arrazola, M., de Hevia, J., Romero-Jordan, D., & Sanz-Sanz, J. F. (2015). Long-run supply and demand elasticities in the Spanish housing market. Journal of Real Estate Research, 37(3), 371-404.
Bandt, O. de, Karim, B., & Bruneau, C. (2010). The international transmission of house price shocks. In O. de Bandt, T.Knetsch, J.Pealosa and F.Zollino (eds.), Housing markets in Europe (129-158). Heidelberg: Springer.
Bates, L. J., Giaccotto, C., & Santerre, R. E. (2015). Is the real estate sector more responsive to economy-wide or housing market conditions? An exploratory analysis. Journal of Real Estate Finance and Economics, 51(4), 541-554.
Belsley, D. A., Kuh, E., & Welsch, R. E. (1980). Regression Diagnostics: Identifying Influential Data and Sources of Collinearity, New York: Wiley.
Bork, L., & Müller, S. V. (2018). Housing price forecastability: a factor analysis. Real Estate Economics, 46(3), 582-611.
Campbell, S. D., Davis, M. A., Gallin, J., & Martin, R. F. (2009). What moves housing markets: a variance decomposition of the rent-price ratio. Journal of Urban Economics, 66(2), 90-102.
Capozza D. R., Hendershott, P. H., Mack, C., & Mayer, C. J. (2002). Determinants of real house price dynamics, NBER Working Paper, No. 9262.
Case, B., Goetzman, W., & Rouwenhorst, K. G. (2000). Global real estate markets – cycles and fundamentals. NBER Working Paper,No. 7566.
Case, K. E., & Shiller, R. J. (1989). The efficiency of the market for single-family homes. American Economic Review, 79(1), 125-137.
Case, K. E., & Shiller, R. J. (1990). Forecasting prices and excess returns in the housing market. American Real Estate and Urban Economics Association Journal, 18(3), 253-273.
Case, K. E., & Shiller, R. J. (2003). Is there a bubble in the housing market? Brookings Paper on Economic Activity, 2, 299-362.
Case, K. E. (2008). The central role of home prices in the current financial crisis: how will the market clear? Brookings Paper on Economic Activity, 39(2), 161-193.
Clayton, J. (1998). Further evidence on real estate market efficiency, Journal of Real Estate Research, 15(1/2), 41-57.
Deschamps, T. (2018). Many Canadian homebuyers believe foreign ownership is influencing prices: CMHC. The Canadian Press. Retrieved from https://www.theglobeandmail.com/business/article-many-canadian-home-buyers-believe-foreign-ownership-is-influencing
Demary, M. (2010). The interplay between output, inflation, interest rates and house prices: international evidence. Journal of Property Research, 27(1), 1-17.
Freedman, C., Kumhof, M., Laxton, D., & Lee, J. (2009). The case for global fiscal stimulus.IMF Staff Position Note, SPN/09/03.
Federal Reserve Bank of St. Louis. (2021). Federal funds rate. Retrieved from https://fred.stlouisfed.org/series/FEDFUNDS
Fu, Y., & Qian, W. (2014). Speculators and price overreaction in the housing market. Real Estate Economics, 42(4), 977-1007.
Gan, J. (2010). Housing wealth and consumption growth: evidence from a large panel of households. The Review of Financial Studies, 23(6), 2229-2267.
Gatzlaff, D. H. (1994). Excess returns, inflation and the efficiency of the housing market. Journal of the American Real Estate and Urban Economics Association, 22(4), 553-581.
Gatzlaff, D. H., & Tirtiroglu, D. (1995). Real estate market efficiency: issues and evidence. Journal of Real Estate Literature, 3(2), 157-189.
Gau, George W. (1984). Weak form test of the efficiency of real estate investment markets.Financial Review, 19(4), 301-320.
Girouard, N., Kennedy, M., van den Noord, P., & Andre, C. (2006). Recent House Price Developments: The Role of Fundamentals.OECD Economics Department Working Papers, No. 475, OECD Publishing.
Gomez-Gonzalez J. E., Gamboa-Arbelaez, J., Hirs-Garzon, J., & Pinchao-Rosero, A. (2018). When bubble meets bubble: contagion in OECD countries. Journal of Real Estate Finance and Economics, 56(4), 546-566.
Gu, A. Y. (2002). The Predictability of House Prices. Journal of Real Estate Research, 24(3), 213-233.
Heckman, J. S. (1985). Rental price adjustment and investment in the office market.Real Estate Economics, 13(1), 32-47.
Ho, D. K. H., Addae-Dapaah, K., & Glascock, J. L. (2015). International Direct Real Estate Risk Premiums in a Multi-Factor Estimation Model. Journal of Real Estate Finance and Economics, 51(1), 52-85.
Horan, S. M., & Robinson, T. R. (2008). Taxes and private wealth management in a global context. Reading 9, Level III CFA curriculum, 2008 CFA Institute.
Hwang, M., & Quigley, J. M. (2006). Economic fundamentals in local housing markets: evidence from US metropolitan regions. Journal of Regional Science, 46(3), 425-453.
in't Veld, J., Kollmann, R., Pataracchia, B., Ratto, M., & Roeger, W.(2014). International capital flows and the boom-bust cycle in Spain. Journal of International Money and Finance, 48(B), 314-335.
Inglesi-Lotz, R., & Gupta, R. (2013). Relationship between house prices and inflation in South Africa: an ARDL approach. International Journal of Strategic Property Management, 17(2), 188-198.
Kishor, K. N., & Marfatia, H. A. (2017). The dynamic relationship between housing prices and the macroeconomy: evidence from OECD countries. Journal of Real Estate Finance and Economics, 54(2), 237-268.
KPMG. (2021). Individual tax rates for 2011-2021. Retrieved from https://home.kpmg/xx/en/home/services/tax/tax-tools-and-resources/tax-rates-online/individual-income-tax-rates-table.html
Krainer, J., & Wei, C. (2004). House prices and fundamental value.FRBSF Economic Letter, November-October, 1-3.
Kuttner, K. N. (2012). Low interest rates and housing bubbles: still no smoking gun. Department of Economics Working Papers from Department of Economics, Williams College, Working Paper No. 2012-01.
Lai, R. N., & Van Order, R. (2017) U.S. House Prices over the last 30 years: bubbles, regime shifts and market (in) efficiency. Real Estate Economics, 45(2), 259-300.
Linneman, P. (1986). An empirical test of the efficiency of the housing market. Journal of Urban Economics, 20(2), 140-154.
Liu, C. L., & Mei, J. (1992). The predictability of returns on equity REITs and their co-movement with other assets. Journal of Real Estate Finance and Economics, 5(4), 401-418.
Lowry, M. (2003). Why Does IPO Volume Fluctuate so much? Journal of Financial Economics, 67(1), 3-40.
Mankiw, N. G., & Weil, D. N. (1989). The baby boom, the baby bust, and the housing market. Regional Science and Urban Economics, 19(2), 235-258.
Myers, D., & Pitkin, J. (2009). Demographic Forces and Turning Points in the American City, 1950-2040.The Annals of the American Academy of Political and Social Science, 626(1), 91-111.
Pavlidis, E., Yusupova, A., Paya, I., Peel, D., Martinez-Garcia, E., Mack, A., & Grossman, V. (2016). Episodes of exuberance in housing markets: in search of the smoking gun. Journal of Real Estate Finance and Economics, 53(4), 419-449.
Poterba, J. M., Weil, D. N., & Shiller, R. (1991). House price dynamics: the role of tax policy and demography. Brookings Papers on Economic Activity, 2, 143-203.
Shindler, F. (2013). Predictability and Persistence of the Price Movements of the S&P/Case-Shiller House Price Indices. Journal of Real Estate Finance and Economics, 46(1), 44-90.
Taylor, J. B. (2013). International monetary coordination and the great deviation. Journal of Policy Modeling, 35(3), 463-472.
Wheaton, W.C., Torto, R. G., Sivitanides, P. S., Southard, J. A., Hopkins, R. E., & Costello, J. M. (2001). Real estate risk: a forward-looking approach. Real Estate Finance, 18(3), 20-28.
Williamson, K.M. (1933). The taxation of real estate: a survey of recent discussion. The Quarterly Journal of Economics, 48(1), 96-128.
Published
2021-04-21
How to Cite
Semenenko, I., & Yoo, J. W. (2021). HOUSING FINANCE: IMPACT OF HEAVY INTEREST INCOME TAX. International Journal of Accounting & Finance Review, 6(2), 102-124. https://doi.org/10.46281/ijafr.v6i2.1092
Section
Research Paper/Theoretical Paper/Review Paper/Short Communication Paper
Copyright (c) 2021 Igor Semenenko, Jun Wook Yoo
This work is licensed under a Creative Commons Attribution 4.0 International License.
