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EDIT: I’m not sure if “burden” implies I’m talking about incidence on sellers/buyers but I’m not; I’m just asking about who bears the cost of the tax (as in which people - current owners, future owners, etc.)

(For the sake of understanding the fundamental workings of the tax I'm imagining a world in which the value of the land is not changing)

My understanding is that the additional cost from the tax is factored into the price of the land, so the burden lies with the owners at the time the tax is introduced, not with subsequent owners as they are compensated for it by the cheaper land. However, this seems absurd – a tax that potentially has large enough revenue to eliminate income tax indefinitely has all of the burden fall on the landowners at the time of introduction? Clearly I'm missing something.

I think this might be related to what I don't understand: land can generate indefinite income as you can rent it forever, but it doesn't have indefinite price. I guess this has to do with a discount rate placed on the value of future rent, so if this same discount rate is applied to future tax payments, what does this mean for who bears the burden of the tax over the long-term? Maybe this is not how it works idk.

Thanks a lot

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  • $\begingroup$ "land value tax": Do you mean an annual tax paid by landowners at a percentage of the value of their land? $\endgroup$ May 14 at 13:54
  • $\begingroup$ @AdamBailey Yes (specifically the value of the unimproved land). Am I correct in thinking that's the standard meaning of the term? $\endgroup$
    – Monkle
    May 14 at 17:20
  • $\begingroup$ Yes, it's how the term is usually understood (eg here) and as you say a key point is that the tax is on the value of the unimproved land. $\endgroup$ May 14 at 18:56

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The burden of a land value tax falls, as you say, on those who are landowners at the time the tax is introduced.

A key to this question is to recognise that for land, as for many capital assets, there are two distinct markets. When considering prices, we need to be clear as to which market we are referring to.

There is the market for ownership of land or capital market. In that market, demand in any period means willingness to buy land (pay to obtain ownership) and supply in any period means willingness to sell land (receive payment for relinquishing ownership). Both demand and supply are likely to be fairly price-elastic (eg because some potential buyers and potential sellers will be flexible as to the timing of purchase / sale and prepared to monitor trends in prices and wait for what they judge to be a good time to transact). While supply is ultimately limited by the fixed quantity of land, the practicality is that in normal circumstances only a small proportion of the total land area changes ownership in any one period.

Then there is the market for use of land or rental market. Here, demand in any period means willingness to pay a landowner for the use of land in that period, and supply means willingness on the part of a landowner to allow a party to use their land in that period in return for payment. It is in this market that supply is highly inelastic (because only a fixed amount of land exists). Of course, some landowners will choose to use their land themselves, but that situation can be regarded as a self-supply forming part of total supply (and part of total demand).

In the absence of a tax, and if we ignore complications such as irrationality and imperfect foresight, there will be a simple relationship between the price of a piece of land in the capital market and its price in the rental market. The capital price will be the discounted present value of the stream of future rental prices. I refer to “a piece of land” because there is no single price of land in either the capital or the rental market. Prices of land per unit area can differ widely (eg because of differences in climate or soil quality, or in distance from consumers).

If a land value tax is introduced, and if the supply of land in the rental market is completely inelastic, then (as explained in the answer by 1muflon1) the rental price of a piece of land will not change but, because the owner must pay the tax, the net rental income to the owner will be less than before. The net rental income can also be described as ‘producer surplus’, although this is a slightly odd usage since land is not normally produced. Provided the land value tax is levied in all future periods, the net rental income will be lower than it would have been in all such periods.

As a consequence of the reduction in net rental incomes, the financial benefit of owning land is reduced. Hence in any period demand in the capital market will be less than it would have been (ie the demand curve will be shifted to the left), and supply in the capital market will be more (ie the supply curve will be shifted to the right). Regardless of the relative price-elasticities, the effect will be that the capital price will be lower than it would have been, other things being equal. Ignoring complications as above, the capital price in any period will then be the discounted present value of the stream of future net rental incomes.

Note in particular that the fall in capital price is immediate on introduction of the tax (it is not a gradual effect over many years). Anyone buying land once the tax is in place will buy at a price that already reflects their stream of future tax liabilities, so the effective burden of the tax on them is nil. The entire burden falls on those who are landowners when the tax is introduced, although it may take more than one form. If they hold their land in perpetuity, the burden consists in their stream of future tax liabilities. If they decide to sell their land when the tax is introduced, it consists in their receiving a lower price than they would have received in the absence of the tax. And if they sell at a later date, it will consist in both a stream of tax liabilities up to the date of sale, and a lower sale receipt (although the present value of the burden will be no more than in the other cases after allowing for discounting of the sale proceeds).

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  • $\begingroup$ Crazy that the whole burden genuinely only falls on the owners at the time of introduction - thanks a lot! Having thought some more about it I think if you have a discount rate on future utility that is unrelated to the interest rate, then some of the burden would fall on future owners. As an extreme example, if people had a super-sharp discount rate such that they didn't really care about next year's payment, then once next year comes around and they do actually care, whoever was the owner during that year will have lost out. $\endgroup$
    – Monkle
    May 16 at 19:22
  • $\begingroup$ @Monkle Yes, I referred in my answer to discounted present value, but one of many complications I passed over was what the discount rate would be. If an individual tries to calculate the present value of the stream of tax liabilities from owning a piece of land, the answer they will get may depend partly on their rate of time preference, which may vary from one person to another. $\endgroup$ May 18 at 13:07
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Who bears the burden of a land value tax over the long-term?

Tax burden is determined by relative elasticity of supply & demand. The tax burden generally falls mostly on the side that is less elastic.

Supply of land is very inelastic. People can decide to let the land they have go to waste and not bring it to the market, but the sum total of all land on earth is limited, so the elasticity of supply of land can be reasoned to be very low, for sure it should be significantly lower than the elasticity of demand for land. Over long term the supply might be slightly more elastic (e.g. land could be reclaimed like in Netherlands), but most likely over long term demand becomes even more elastic as well.

As a consequence of this most of the tax burden would fall on the individuals supplying the land.

My understanding is that the additional cost from the tax is factored into the price of the land, so the burden lies with the owners at the time the tax is introduced, not with subsequent owners as they are compensated for it by the cheaper land.

No, assuming that supply of land would be perfectly inelastic price would not change at all. The tax is reflected in lower producer surplus from the sale of land.

This can be easily seen from the basic supply-demand model. If supply is fixed taxing supply side does not lead to changes in tax (see the picture below I borrowed from wikipedia).

enter image description here

a tax that potentially has large enough revenue to eliminate income tax indefinitely has all of the burden fall on the landowners at the time of introduction?

If the supply would be infinitely inelastic yes. Realistically the supply is only very strongly inelastic so it would be almost all tax burden but not all.

Also,this only hold for scenario where the tax is not so large as to completely eliminate whole producer surplus. If utility of holding/bringing to the market the land is negative people simply will stop doing so. Hence the limit is up to whole producer surplus that landowners would get (in textbook example that assumes 0 marginal costs it would be whole revenue, realistically it might be less since land has to be upkeeped and maintained).

I think this might be related to what I don't understand: land can generate indefinite income as you can rent it forever, but it doesn't have indefinite price. I guess this has to do with a discount rate placed on the value of future rent,

Yes this part is correct.

what does this mean for who bears the burden of the tax over the long-term?

No tax burden depends on relative elasticity of supply and demand not discount rate. Discount rate can affect people's decision to hold/buy land.

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  • $\begingroup$ Sounds like you are talking about a sales tax for land. A “land value tax” is different $\endgroup$
    – Monkle
    May 14 at 11:12
  • $\begingroup$ @Monkle no I am talking about land value tax $\endgroup$
    – 1muflon1
    May 14 at 13:50
  • $\begingroup$ It seems like you've misunderstood what LVT is. You said "price would not change at all. The tax is reflected in lower revenue from the sale of land." but if the price were unchanged then sale revenue would also be unchanged since the tax is not charged on the sale, it's charged over time to the landowner. $\endgroup$
    – Monkle
    May 14 at 17:26
  • $\begingroup$ @Monkle no I didn't misunderstood. Click on that wikipedia link look at that graph on the right. Price and rent (both) of land won't be affected under the above mentioned assumptions. I made a mistake, I shouldn't write revenue, I meant producer surplus/profit. Price would not be affected at all, but owner gets smaller producer surplus (assuming no implicit costs also lower profit). $\endgroup$
    – 1muflon1
    May 14 at 17:48
  • $\begingroup$ The page has a section on real estate prices which says it would decrease price. Tbf it has no citation but I found this IMF working paper that says on page 4 "The value of the land thus decreases with the level of land value taxation" $\endgroup$
    – Monkle
    May 14 at 17:59
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Presumably, the biggest land tax burden would be on the people who have large tracts of land that they get large revenues from. The highest land tax rate for a given amount of land would likely be for commercial properties (if zoning ordinances are still a thing under this system). Homesteads (where the owners live off the land) would likely enjoy the lightest land tax burden, as would those who only lived on their land and didn't make money from it.

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  • $\begingroup$ Why would it make a difference whether they made money from it? The tax is the same regardless $\endgroup$
    – Monkle
    May 18 at 6:03
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The value of a constant stream of rents in perpetuity with interest rate i is $\frac{rent}{i}$. The proof of this is here: http://www.netmba.com/finance/time-value/perpetuity/. Note that I'm using "rent" as a synonym for benefits from land ownership in a given period - it could be actual rent or agricultural production or the benefit of living there.

A reduction in the net rent (which is one way to think about the imposition of a tax) will see a commensurate reduction in the present value of the land. In your simplified model that's really all there is to the story since you're holding the value of the land fixed. The value of land has decreased because the cost of holding the land has increased - if the landowner hangs onto the land forever they will receive a reduced net benefit because of the tax. So if the value has decreased, it makes sense the price would decrease.

If you relax the assumption of land value which is not changing, then the logic of land taxes starts to appear. Maybe the government completes a train line nearby and the land value increases because it's more transport-connected. Or a company moves their headquarters to the city and so there are more employment opportunities nearby and so the value of the land increases. The great thing about the land tax is it recaptures some of this value, which is (at least partly) created by governments.

And of course no one knows the exact future value of land rents, so disagreement on that question is what drives speculative trading.

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  • $\begingroup$ your answer does not discuss the tax incidence. Also, rents are not fixed so you cannot use the perpetuity formula. $\endgroup$ May 15 at 0:13
  • $\begingroup$ "A reduction in the net rent (which is one way to think about the imposition of a tax)" this is not valid way how to think about impact of taxes. For example, often companies respond to taxes by increasing prices. Why does in your case rent stays fixed? I am not saying it has to increase but you are not explaining it. It is simply not true that tax on x always means an owner of x will get less net benefit because owner of x has some influence over price of x. For example if the tax is 10 dollars rent can increase by 10 dollars and in net terms owner has the same net rent. $\endgroup$
    – csilvia
    May 15 at 1:07
  • $\begingroup$ @Lorenzo Pozzi - the question also doesn't mention the tax incidence. $\endgroup$
    – Robertiton
    May 15 at 2:12
  • $\begingroup$ @csilvia -I'm using "rent" as a synonym for benefits from land ownership in a given period - it could be actual rent or agricultural production or the benefit of living there. Agricultural production from the land doesn't change in response to an increased tax - the fundamental productive value of the land (the rent) is fixed in this example by the question. $\endgroup$
    – Robertiton
    May 15 at 2:14
  • $\begingroup$ @Robertiton The question title literally says: "Who bears the burden of a land value tax" so the question is about tax incidence. $\endgroup$ May 15 at 10:15

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