Key message 3 – Land and property tax represent the largest source of untapped revenue for developing country cities.

 

One of a city’s most important assets is the land it is situated upon. As a city grows, so does demand for land. Given that land is a scarce resource, it therefore appreciates in value. Municipal authorities deserve to be the primary beneficiaries of this appreciation by capturing its value through taxation. Furthermore, land and property taxes are attractive as a local revenue source because they are levied on largely immovable assets, making them easier to target.

In developing countries, however, successful implementation of such taxes has been limited. For example, while Canada’s property taxes make up about 38% of municipal finance revenues, in Uganda, the comparative figure is only about 3% (Slack, 2009). This indicates that there is large untapped potential for developing countries to increase their revenues from land and property taxes.

Land and property taxes encourage more efficient land use in cities. They are also considered a fairer form of tax because in general, the appreciation of land value comes from population growth and external public investment, rather than from the land owner’s actions.

An example of this can be found in Accra, Ghana, where researchers found that properties benefitting from tarred roads and concrete drains are nearly twice as valuable as those in areas without these benefits (Awuah et al, 2013). Similarly, in Onitsha, Nigeria, studies have shown a strong correlation between public transportation and other infrastructure, and increases in surrounding land values (Emo et al, 2013).

From an administrative perspective, land and property taxes should also be easier to manage given they are largely levied on immovable assets. Although this does require upfront investments from local authorities on registries of all taxable land and property and their owners, this is likely to pay off very rapidly through increased tax intake. Furthermore, due to the permanent nature of land and property, the resulting revenue stream will be sustainable and will increase as the land appreciates in value.

Land taxation is preferable to property taxation as it is both fairer and more efficient. Due to its fixed supply, increasing taxes on land means that higher taxes should not discourage investment. Conversely, it will provide more incentives to use the land intensively, rather than keeping it underdeveloped or vacant for speculative purposes. This has been the experience for many East Asian countries.

There are two main reasons why these taxes have not been successfully implemented in developing country cities to date: first is the administrative challenge of not having the required data or sufficient organisational and technical expertise, and second is political opposition. Land and property owners, who have not had to pay these taxes in the past, privately capture the full value of the appreciation of their land over time.

Rapid and large increases in these tax rates can therefore elicit strong opposition
from these powerful and vested interest groups. This is particularly the case for vacant land that is held for speculative purposes, which in some cities is actually taxed at a higher rate to encourage investment.

When introducing or revising land and property tax rates, the sequencing and pace of the reforms are key to their potential success. Experiences from a variety of countries that have implemented these reforms suggest that initially broadening the tax base before ultimately increasing the rate is preferable.

If, in contrast, rates were raised first, those who are already paying tax would simply have to pay more at the expense of other ‘free riders’. The tax would also become more inequitable.

In countries that are at the initial stages of introducing a tax, or have failed to revise their tax rates in a while, gradual increases are advisable. For example, in Kampala, the last property valuation to determine the tax rate occurred in 2005. The city has grown rapidly since then and values of both property and land have increased. Research suggests the corresponding potential median increase in property taxes from a new valuation could be up to 300% (Kopanyi, 2015b).