Igor Semenenko (Acadia)

Junwook Yoo (California East Bay)

Housing finance:
impact of heavy interest income tax

• CFA level III reading 11 (Deloitte, PwC)

• exhibit 1: classification of income tax regimes
1 – common progressiveincome tax: progressive
2 – heavy dividend tax
interest income: taxed at ordinary
3 – heavy capital gain taxrates
4 – heavy interest tax
5 – light capital gain taxdividends : some dividends taxed
at favorable rates or exempt
6 – flat and light
7 – flat and heavy capital gains: some capital gains
taxed favorably or exempt
4. heavy interest tax: Canada, Denmark, Germany, Luxembourg,
Pakistan
5. light capital gain tax: Australia, Belgium, India, Kenya, Mexico, New
 Research design
- sample: 51 national market/27 capital cities in
1996-2017
- OLS regression with means/annual regressions
with Newey-West standard errors and AR(1) term. A
total of seven models employ a battery of control
variables: currency depreciation, growth GDP per capita, log GDP
per capita, inflation, tax rate, population increase, immigration
change, increase in building permits, interest rate, after-tax interest
rate, change in credit to households; but not credit spreads, survey
r = αi + βHT
measures,
× HT + βt × X it +
personal savings
eit and consumer confidence
rates
ri = αi + βHT × HT + βt × X it + βt-1,t-5 × X i,t-1,t-5+AR(1) + eit

- each model is tested in five datasets: whole sample,

high/low ratedomestic
low-interest interest2008-2016
year, USA = 2001-2005; rates, high/low US
interest rates
low-interest rate year, domestic = 1 if R ×  1 - T  < inflation, 0 otherwise
 Selected results - 1
comparison of means
heavy tax regime light tax regime
whole sample 3.45% 1.79%
low interest rates, USA 3.11% 0.58%
high interest rates, USA 3.97% 3.93%
low interest rates, domestic 3.62% 1.61%
high interest rates, domestic 3.32% 1.90%
mention AR(1), momentum

… Kishor and Marfatia (2017) find a positive relationship between real

interest rates and house price dynamics in five out of fifteen OECD
markets;
Kuttner (2012) shows that effect of interest rates on house prices is
 Selected results - 2
pairwise correlations
heavy tax categorical variable & inflation-adjusted real estate returns
means annual data
whole sample 0.34** 0.10**
low interest rates, USA 0.38** 0.15***
high interest rates, USA -0.07 0.00
low interest rates, domestic 0.13 0.13**
high interest rates, domestic 0.26* 0.08*
 panel A: heavy tax betas in regressions with means; national sample
(1) (2) (3) (4) (5) (6) (7)
whole sample 0.017* 0.024***0.018* 0.021** 0.013** 0.017* 0.018**
low interest rates, USA 0.025** 0.035***0.023* 0.026** 0.016** 0.022* 0.026**
high interest rates, USA -0.010 -0.001 -0.005 0.000 -0.001 0.001 0.002
low interest rates, domestic 0.019* 0.020* 0.020 0.021* 0.019* 0.021* 0.023**
high interest rates, domestic 0.012 0.022 0.012 0.018 0.007 0.006 0.011
panel B: heavy tax betas in regressions with annual data; national sample
whole sample 0.006 0.005 0.003 0.006 0.009* 0.004 0.007*
low interest rates, USA 0.010* 0.008 0.007 0.010* 0.012** 0.008 0.010*
high interest rates, USA 0.000 0.001 -0.006 -0.001 0.003 0.000 0.006
low interest rates, domestic 0.011** 0.013** 0.006 0.012* 0.019***0.007 0.011**
high interest rates, domestic 0.002 -0.002 0.000 -0.001 0.005 0.001 0.004
panel C: heavy tax betas in regressions with means; capital cities sample
whole sample 0.027* 0.032* 0.025 0.028* 0.019 0.016 0.028*
low interest rates, USA 0.038* 0.040* 0.035 0.038* 0.015 0.027 0.043**
high interest rates, USA -0.009 -0.010 -0.014 -0.004 0.001 -0.020 -0.008
low interest rates, domestic 0.022 0.022 0.025 0.024 0.017 0.027 0.034
high interest rates, domestic 0.025 0.027 0.016 0.025 0.024 -0.010 0.019
panel D: heavy tax betas in regressions with annual data; capital cities sample
whole sample 0.013* 0.013 0.011 0.014* 0.013 0.011 0.013*
low interest rates, USA 0.021** 0.021** 0.021* 0.020** 0.013 0.021* 0.021**
high interest rates, USA -0.003 -0.005 -0.005 0.055 -0.013 -0.004 -0.001
low interest rates, domestic 0.017 0.019 0.018 0.025* 0.027 0.017 0.017
high interest rates, domestic 0.013 0.007 0.005 0.012 0.008 0.004 0.013
 Robustness checks
- different dependent variable: price/rent ratio
instead of inflation-adjusted returns
- two outliers dropped
- returns for common-law countries; heavy tax
countries outperformed during bear markets;
more stickiness
mean annual returns, 1996-2017
heavy interest tax light interest tax
Australia, Canada and New Zealand U.S.A. and U.K.
4.70% 3.40%
 Bells and whistles
- we do not suggest a central role of interest income taxation
for predictable changes in housing prices. Several variables
– economic growth, building permits and AR
term/momentum effect – have a larger explanatory power
- it is possible that heavy tax acts as a trigger in low-interest
rate environment, but its ripple effects manifest over longer
periods

- Canadian angle:
1. we historically adjusted our monetary policies in lockstep
with the United States. … different interest income taxation
regime may promote excessive house price inflation,
creating wealth effect and further increase in consumption
2. immigrants in gateway cities