A proposed proportional property tax backed by Andy Burnham could hit mortgage lending, tighten affordability and put downward pressure on house prices, according to estate agency Maskells.

The proposal, supported by the Fairer Share campaign, would replace council tax with an annual charge of around 0.48% of a property’s value, with the option for homeowners to defer payment in some cases, allowing liabilities to build up against the property.

Charles Curran, principal at Maskells, said the structure of the proposal could have far-reaching implications for mortgage lending depending on how deferred liabilities are treated.

He explains how..

WHAT THE PROPOSAL MEANS FOR PROPERTY CHARGES

“The crux of any recurring property tax is whether any unpaid tax would be secured on the property, and attract a statutory charge ranking ahead of any mortgage lender’s first legal charge.

Council Tax arrears does not – it is recovered via a liability order against the person, and not as a charge against a property.

Importantly, the Fairer Share model supported by Mr Burnham explicitly allows owners to defer payment with the deferred liability accruing as a charge on the property.

This raises questions as to how this accrued liability may be treated:

Firstly, if the property tax is treated like council tax there will be no impact on a mortgage lenders’ security.

Secondly, if any unpaid tax is ranked as a statutory charge on the property, ranking behind the mortgage lender where the lender’s first lien is maintained and with the tax authorities as a junior creditor, there may well be an impact on the ability to remortgage and or obtain a new mortgage.

This is due to a lenders duty of care to subordinated creditors in the event of a forced sale.

Lastly the unpaid tax is ranked as statutory super priority, ranking ahead of the mortgage Lender. The latter would be a huge problem for the UK market.

AFFORDABILITY AND BORROWER IMPACT

As the annual charge is to be paid for out of net income, many will not be able to afford it or will choose not to pay it, having to allocate those funds to other costs (cost of living for example).

This is why the Fairer Share proposal explicitly allows owners to defer payment. If that deferred liability accrues with interest, and if the rolled-up charge takes priority over a mortgage, then the lenders loan to value cushion is eroded over time.

A 0.48% annual deferred charge compounded over say 15 years on a non-moving owner – perhaps they are elderly or cash-poor and asset rich – could accumulate to become approximately 10% of the property value and could be ranked ahead of any lender.

This would subordinate a loan that banks currently treat as fully secured first lien exposure.

HOUSE PRICES AND LTV IMPLICATIONS

Even if the tax is paid and not rolled up, we expect to see a drop in house prices as the annual tax amount is capitalised into lower property values.

This, in turn, will have the effect of raising LTV ratios across an entire existing mortgage book.

Lastly any property tax will impact new lending as an annual charge of 0.48% tightens affordability which lowers the amounts people can borrow and subsequently forces house prices down, which in turn increases LTV ratios on lenders’ books.

LENDING STRUCTURE AND PRIORITY RISK

If the rolled-up property tax is in second priority, any lender in any forced sale, as we understand, does have a duty of care to junior creditors and this may well reduce the amount a lender is prepared to lend on a property to allow for an additional cash cushion to provide for that duty.

If the Proportional Property Tax is treated as statutory super priority, then any mortgage below immediately becomes second priority and, in principle would attract onerous regulatory capital charges.

This means the lenders would have to assign more cash to a loan, leaving less available to lend to other borrowers (housing or companies), thus reducing their own profitability and therefore lowering the amount of tax they pay.

WIDER MORTGAGE MARKET IMPLICATIONS

Any tax which has the effect of reducing house prices (as we discussed above), will have an impact on the weighted average LTV of a mortgage portfolio.

We must also consider how these mortgages are funded and if this tax is deemed to be in priority over a lender, it will also impact any issued and outstanding mortgage-backed securities, especially Master Trust structures.

Even an increased LTV can have an impact on the mortgage loan security which may lead to an increase in mortgage funding costs. Naturally any tinkering of this nature is more likely than not to result in higher mortgage costs for the public.

TAXATION AT DEATH AND INHERITANCE IMPACT

We have also heard loose policy ideas surrounding the removal of rebasing of assets for capital gains tax at death.

For example, at the current rate of 40% IHT, 24% CGT and say 10% of the value accrued in deferred tax, the tax on an inherited property sold after death could exceed 70% after allowances.

That’s real financial obliteration.

PRIVATE RENTAL SECTOR IMPACT

And we have not even mentioned that Fairer Share are seeking for the tax to be paid by landlords of rental properties and not tenants and the disastrous impact that would have on the private rental sector with almost guaranteed increase in rents.

In light of the above, we cannot conceive of a situation where any Government would seek to put not only our housing market at risk but also our private rental sector; our banking system (including reduced lending and higher funding costs and mortgage rates, reducing banking profits and therefore tax) and then, to cap it all off, to tax families at over 70% after allowances on death.

We suspect such a government would have a tough time at the next elections…

Charles Curran, Principal at Maskells