The land of Scotland and the common good: report

Section 25 - Land Taxation, Payments and Markets

1 For many centuries in Scotland, land has been subject to a range of taxes and historically, a significant proportion of all public revenues was raised from assessments on the rental value of land. In this Section, the Review Group firstly considers the relationship between land and the recurrent local taxes that contribute to local government funding. These include the Council Tax and non-domestic or business rates. The Group then considers national taxation as it relates to land.

2 The fiscal treatment of land and property has historically been a key influence in how the pattern of land ownership has developed in Scotland. The relationships between the current tax concessions over land, land use subsidy payments, land prices and the land market are, however, complex. The Review Group considers that these important relationships need to be more transparent and better understood. The Group therefore wrote to the Scottish Affairs Committee welcoming their inquiry into land reform with its emphasis on fiscal measures, because of the importance of the relationship between public funds involved in those measures and the pattern of land ownership in rural Scotland. ^[1]

25.1 Local Taxation

3 The modern system of local land tax dates from mid 19th century, when the Lands Valuation (Scotland) Act 1854 established a uniform system of land valuation across Scotland. Since then, important changes have taken place in local land taxation. Legislation in the 1920s reduced the valuation of agricultural land by 50% and then to 12.5% of its gross value, before agricultural land was removed from the valuation roll completely by the Valuation and Rating (Scotland) Act 1956. Owners' rates were also abolished in 1956, so that rates became paid solely by occupiers whether that was the owner or a tenant. In 1987, rates on domestic property were abolished and replaced by the Community Charge or poll tax. That was then replaced by the Council Tax in 1992.

4 Local taxation used to form a far greater proportion of local government finance than it does today. In the post-war years, rates accounted for approximately half of local council funding. The proportion of their finance now raised by local authorities is down to around 10%.

Council Tax

5 As part of the introduction of the Council Tax, domestic properties were categorised into 8 bands A-H based upon the capital value of the property on 1 April 1991. An annual rate is set for Band D and the rate for other bands is a fixed multiplier of this (6/9ths for Band A and 18/9ths for Band H). The Council Tax is a regressive tax in that the more a house is worth, the less of a proportion of the value is paid in Council Tax.

6 No revaluation of domestic property has taken place in Scotland since 1991. This means that the value of properties is now almost quarter of a century out of date. There has also been a freeze on the Council Tax rate since 2007. The increasingly historic basis of the value of properties means that Council Tax becomes less and less of a tax on property, just as charging income tax on the basis of earnings in 1991 might no longer be considered a tax on people's income.

Business Rates

7 The non-domestic or business rating system is the last remnant of the historic rating system. All land that is occupied for any of a specified number of non-domestic uses is liable for an annual rate (poundage) based upon the rental value of the property. The Non-Domestic Rate is, however, now different in two key ways from its 19th century precursor. Firstly, the vast majority of the area occupied by non-domestic property is now exempt from rates. Agricultural and wooded land which accounts for over 90% of the land area of Scotland and which was, for most of the past few centuries assessed and taxed, is no longer entered on the valuation roll. Secondly, the Non-Domestic Rate is no longer really a local tax. Since 1990, the rate has been set centrally by Scottish Ministers and while collected locally, the revenue is pooled on a Scotland-wide basis and then redistributed according to a needs-based formula.

8 In 2012, the Scottish Government published proposals for how the Non-Domestic Rate might be improved. Following the consultation, Scottish Government concluded that " All rates reliefs will be kept under regular review ..... the Scottish Government has on balance decided that all current exemptions provided, including to agriculture, should be retained". ^[2] These exemptions include the exemption introduced in 1994 for sporting rates on fishings and shootings.

9 The exemption of agricultural land from business rating has been heavily criticised by a number of reviews of the UK tax system. In 1976, the Layfied Committee on local government finance published the first comprehensive review of local government finance since 1914. The Committee concluded that, " We can see nothing in the nature of agricultural land or buildings which takes them outside the scope of a tax based very widely, as rates are, on the occupation of property of all kinds. We conclude that there are no grounds of principle for continuing to de-rate agricultural land and buildings". ^[3]

10 In 2011, the Mirrlees Review of the UK tax system noted that one of the features of the Non-Domestic Rate which makes it "not a good tax", is the fact that it discriminates between different sorts of businesses - " agriculture is exempt, for example". ^[4] In recent evidence to the Scottish Affairs Committee, it was observed that: " There is one big tax relief in relation to land that is huge, and that is the abolition or the non-rating of agricultural property, which, of course, is geographically the largest part of land in the country. That is the biggest one that is around. It is sometimes seen as a law of nature that farming does not pay tax on land. It is not a law of nature; it is a public policy from the 1920s, at a time when agriculture was in some trouble and the remaining rates in agriculture were abolished then. It is not obviously economically rational that land use for one purpose is taxed and land use for another purpose is not". ^[5]

11 The Review Group considers that the historical and universal exemption of agriculture, forestry and land based estate businesses from non-domestic or business rates should be reviewed. Re-introducing rates on these businesses, potentially in a phased manner, would bring them into line with other rural businesses. Land based businesses would then be able to apply for the same types of existing exemptions and discounts as other rural businesses, making the reliefs available to land based businesses a clearer reflection of public policy aims than the current universal exemption. In addition, as considered further below, one important consequence of the current exemption of agricultural and forestry land has been that this business rates relief has been capitalised into higher land values.

12 The Review Group considers that there is no clear public interest case in maintaining the current universal exemption of agriculture, forestry and other land based businesses from non-domestic rates. The Group recommends that the Scottish Government should review this historic exemption, with a view to the phased introduction of non-domestic rates for these land based businesses.

Sporting Rates

13 Sporting rates are a form of non-domestic or business rate charged on freshwater salmon fishing, deer stalking and shootings such as grouse moors. Sporting rates were introduced in the mid 19th century when land owners started to lease fishings and shootings commercially, and therefore became liable for local government rates. Initially the rates were only charged if the fishing and shooting rights were let. However, from 1886, the rates were charged independently of whether or not they were commercially let or not. ^[6]

14 The rates are based on attributing a net annual value to the species involved, for example, per red deer stag or brace of grouse, and charging a rate in the pound on that value. With red deer, for example, the rate was charged on the actual or potential cull of stags based on a five year average. Sporting rates were abolished in 1994. This exemption is considered here in relation to three topics covered elsewhere in this Report - salmon fishing, deer stalking and grouse shooting ( Sections 31, 32 and 23 respectively).

15 The exemption for freshwater wild salmon fishing is different from the exemptions for shootings, because local District Salmon Fishery Boards ( DSFBs) still have the power to require the local government rates assessor to assess salmon fishings. However, these rates are then paid to the DSFB rather than the local authority. DSFBs are statutorily created and this levy helps them fulfil their responsibilities. The Review Group proposes in Section 31 that, after 150 years, DSFBs should be replaced by a more modern arrangement and that the levy on salmon fishings should continue to be paid under that arrangment to support the public interest regulation and management of freshwater wild fisheries.

16 The Group also considers that the basis of the payment should be reviewed to make the charge a more effective instrument of public policy. The priority is the conservation of freshwater salmon stocks and there has been a substantial reduction in the coastal netting of salmon. However, the size of rod fishing catch has been maintained and accounted for 84% of all salmon caught in 2012 (see Section 31). These salmon fishings have very high capital values based on average catches and, while 74% of the 2012 rod catch was released back into the river for conservation purposes, the level of catch helps maintain capital values. However, if the main public benefit comes from reducing the number of salmon caught (so that stocks increase), the levy system needs to encourage this.

17 The position with sporting rates on deer is different from salmon in a number of respects. One of the reasons for exempting deer stalking was that the charges were seen as working against encouraging higher deer culls in the public interest. The need to reduce deer populations continues to be an issue in some areas and a revised approach to sporting rates on deer could help address this. As discussed in Section 32, wild deer belong to no-one until they killed or captured and the owners of land have a monopoly over deer hunting on their land. A revised rate on deer shooting could, for example, be based on the level of deer cull required to protect public interests and then only be charged when an owner or occupier was not achieving adequate culls.

18 The exemption of shootings from sporting rates should also be reviewed. At present, for example, grouse shooting makes no contribution to the provision of public services, when the use of muirburn as part of grouse moor management results in call-outs for local fire services. Figures for the Grampian area from the Scottish Fire and Rescue Service for the 3 years 2011-2013, for example, indicate that a third of the wildfires attended by the Service resulted from controlled burning which had got out of control. ^[7]

19 Salmon, deer and grouse are, as wild animals, part of the public domain and rates should be seen as a means of encouraging the appropriate management of these species in the public interest.

20 The Review Group considers that 'sporting rates' could be tailored to each of the species involved and have the potential to be one of the tools available to help deliver the Scottish Government's Land Use Strategy and other rural objectives. The Group recommends that the Government should review the current exemptions from sporting rates and introduce a reformed rates system as appropriate in the public interest.

Land Valuation Taxation

21 There have long been calls for the reform of the Council tax and non-domestic rates as the basis of local government taxation. In the most comprehensive review in recent years of the current UK tax system, Mirrlees recommended abolishing both these taxes. ^[8]

22 One of the prominent issues is that there is no recurrent tax on land itself. Both Council Tax and business rates apply to the whole package of the built property along with the land on which it stands. However, land and the activity carried out on the land are distinct. The value of the land, known as the site value, can therefore be calculated separately from the value of the property. This is the basis of Land Value Taxation ( LVT). The principles of LVT were encapsulated in the evidence to the Scottish Affairs Committee: " A rational system of property taxation would have as its broad general principle the taxation of all real property, principally on the basis of taxing the value of the land on which the property sits. This has two advantages. The first is that it reduces the disincentive to investment in new buildings (whether residential and non-residential) insofar as the value of the house, office or factory will not itself be subject to additional taxation. The second is that it recognises that much of the value of land is not intrinsic, but is created by the rules which apply to its use, enforced principally through the planning system: this is easily seen in land which has been redefined to housing rather than agricultural use which immediately increases in value: there is an argument of equity for some of that benefit coming back to the wider community through taxation". ^[9]

23 Mirrlees suggests there is a strong case for LVT. ^[10] Wightman argues that it could be a substitute for both the Council Tax and business rates, while views were divided over the merits of LVT in the submission to the Review Group. ^[11] The Group considers that taxing land is a good basis for local government revenue and that LVT has a number of strong advantages. One is that the tax does not disincentivise the owner from investing in and improving the property. Another is that LVT returns to the public the benefits that result from any increase in land values caused by public investment. These include that there is a recurrent tax on all land, but one which 'returns' to the public the benefits that have not been earned by the owner and does not act as a disincentive to investment by the owner in improving the property.

24 There have, however, been difficulties implementing LVT in some countries. ^[12] There would also be particular challenges introducing it in Scotland, because this would require knowing who owns every bit of land. While information on this is currently very limited, the Group considers that Scotland should have a comprehensive map based register of land ownership for the many benefits that would bring (see Section 4). The introduction of LVT would also require the land to be valued and there would be further challenges in managing a transition from the current arrangements to LVT. However, the Group considers that there is a mounting case for serious consideration to be given to LVT in Scotland. The Group notes a recent study evaluating the scope and practicalities of introducing LVT in Northern Ireland. ^[13]

25 The Review Group considers that local government taxation in Scotland needs to be modernised and that Land Value Taxation should be given serious consideration as an option. The Group recommends that there should be a detailed study of the scope and practicalities of introducing Land Value Taxation.

25.2 Fiscal Measures and Land Ownership

National Taxation

26 In addition to local taxation, national taxes have played an important role in the development of land ownership in Scotland. The Land Tax, which was introduced in Scotland in 1667, was paid by the owners of all land according to the size of their landholding. The Land Tax was the first and, for a long time, the only form of direct taxation in the UK and lasted longer than any other form of direct taxation until its final abolition by the Finance Act 1963. ^[14]

27 There have continued to be taxes on the value of land and property at the time of the disposal or transfer of its ownership. One of these is Stamp Duty Land Tax. This is paid by the purchasers of land at the time it is bought and produced revenue of £275 million in Scotland in 2011-12. ^[15] Responsibility for this tax was devolved to the Scottish Parliament by the Scotland Act 2012 and, in 2013, the Scottish Parliament passed legislation to replace Stamp Duty Land Tax with the Land and Buildings Transaction Tax. This will introduce some improvements to the tax, including how the charge is structured. The Land and Buildings Transaction Tax is a charge on a buyer of land, rather than the owner disposing of land.

28 The other two main national taxes on land are both charged on the owner disposing of or transferring the land. These are Inheritance Tax and Capital Gains Tax, both of which are reserved to Westminster. Inheritance Tax on the value of land and property at the time of inheritance dates back to the introduction of Estate Duty in 1894. That was replaced by Capital Transfer Tax in 1975 and then by Inheritance Tax in 1986. Capital Gains Tax on the disposal or transfer of the ownership of land is charged on the basis of the gain that may exist between the cost at acquisition and value at disposal.

29 A number of reliefs from Inheritance Tax and Capital Gains Tax exist for the owners of land and property. Domestic property occupied as a principal residence is, for example, exempt from Capital Gains Tax. However, there are also a number of special reliefs for agricultural and forestry land which, as stated in paragraph 7 above, account for around 90% of Scotland's land area. Agricultural and forestry land is, for example, eligible for relief from Inheritance Tax and land of national heritage value may also be eligible for a conditional exemption from Inheritance Tax. While taxing inheritance does not affect many of the larger landholdings as they are owned by companies, there are also special reliefs for agricultural and forestry land from Capital Gains Tax. These 'roll-over' reliefs enable liabilities for Capital Gains Tax to be carried forward.

30 These reliefs for agricultural and forestry land from national taxation, like the exemption of this land from business rates, reflect the reduction during the 20th century in the contribution of land to taxation. However, all these reliefs and exemptions are also a cost to public funds in terms of the income foregone. The scale of the income foregone through the different reliefs and exemptions is far from clear, as illustrated by the recent National Audit Office's report of Tax Reliefs. ^[16] While the UK Treasury now conducts a full impact assessment of new proposed reliefs, existing ones such as those considered here for agricultural and forestry land have apparently never been reviewed or assessed in relation to their public benefits. The Review Group considers that the public interest justification for each of the blanket reliefs and exemptions for agricultural and forestry land should be clear and transparent in terms of the public benefits that result from the income foregone.

31 The Review Group also considers that a direct subsidy which is targeted is more effective in the public interest than a blanket or generic tax relief. As the witness from the Institute for Fiscal Studies commented recently to the Scottish Affairs Committee: " You would want to ask what precisely the reason is that you want to subsidise it. What precisely is the activity you would want to encourage, and then let's subsidise that...whatever it is that you want to achieve, identify that carefully, define it and target that. It is not obvious to me that agricultural relief in business rates or inheritance tax is doing that". ^[17]

Land Use Payments

32 Scotland's two most extensive rural land uses, agriculture and forestry, have been and continue to be eligible for a range of direct payments from public funds. The subsidies for forestry are in the form of grants to plant and maintain woodlands, while for agriculture, the payments are the subsidies paid in Scotland under the European Union Common Agricultural Policy ( CAP).

33 There are two elements to the CAP funding. The first 'pillar' involves direct payments to farmers and accounts for around three-quarters of the CAP funding, with qualifying farmers receiving these payments as an entitlement. The second 'pillar' is to support rural development and payments are made on a competitive basis, with the largest part of this funding paid through the Less Favoured Support Scheme to farmers on 85% of Scotland's total agricultural land area. The second pillar is managed by the Scottish Government through the Scottish Rural Development Programme ( SRDP) and during the SRDP funding scheme for 2007-13, payments totalled around £1.2 billion. ^[18] The next programme of CAP funding will start in 2015, following 2014 as a transition year.

34 There has been no cap or upper limit on the total amount of agricultural subsidy that can be paid to a single business and the inequality in the distribution of the subsidies amongst farm businesses has increased. In 2008, for example, the top fifty recipients were paid £22 million and that had risen to £35 million by 2011, with the top 10% of farm businesses receiving 48.6% of the total amount of agricultural support of £710.4 million that year. ^[19] The European Parliament voted to limit the amount of agricultural payments to any farm under the new CAP scheme to €300,000, with additional conditions on any farm receiving more than €150,000. However, this was overturned by the Council of Ministers, who decided that any capping of the size of payments to large beneficiaries could be done on a voluntary basis by each country.

35 The new system of CAP agricultural subsidies to be introduced in Scotland from 2015, will be based on a fixed payment per hectare of land occupied. While the details are yet to be published, it is already clear that under the new Basic Payments from 2015, the larger the farm business in any payment region, the larger the subsidy payment any farmer will receive. In addition, there are over 1.1 million hectares of land that are potentially eligible for Basic Payments, much of which appears to be part of large upland landholdings and possibly used to a very limited extent for agricultural purposes. ^[20]

36 Agricultural subsidies play an important role in underpinning the viability of farm businesses in Scotland and the wider agricultural sector as a valuable part of the Scottish economy. However, the Review Group considers that there should be limits on the payments to the largest beneficiaries. The agricultural subsidies are, like the tax concessions described above, capitalised into higher land prices and contribute to an increasing concentration in the ownership of farms on Scotland's better agricultural land (see Section 23). The Group also considers that the value for money in terms of public benefits from public funds for aspects of the CAP agricultural subsidy schemes, should be much clearer than is the case at present.

Rural Land Market

37 The price of land can be considered to reflect the anticipated net flow of future costs and benefits from owning that land. Changes in the balance of that equation will affect the capital value of the land, with reduced costs or higher benefits leading to higher land prices. The financial benefits of the special tax reliefs and exemptions for agricultural land, together with the land use subsidies available, contribute to this equation. These special benefits for agricultural land become capitalised into the value of that land and, as described by witnesses to the Scottish Affairs Committee, result in the price of agricultural land being several times what might otherwise be expected. ^[21]

38 The capital value of agricultural land in Scotland has increased considerably over the last ten years, as shown in Fig. 27. ^[22] The highest increase was in the price of good arable land, which rose from £2,040 per acre (£5,038 per ha.) in 2003 to £7,698 (£19,014 per ha.) in 2013. However, the value of all types of agricultural land in Scotland increased significantly over the period. As the graph also shows, the increases continued through the UK economic recession from 2008. The extent to which Scottish farmland has been a good investment over the period is emphasised by Fig. 28, comparing the increase in its value with that of other assets. ^[23] Thus, while there was an increase of 32% in UK house prices and 55% increase in the FTSE 100 Share Index, Scottish farmland increased in value by 204% and was only outperformed in the data available by the more variable 286% increase in the price of gold.

39 Agricultural and forestry land with their special fiscal treatment account for over 90% of Scotland's land area, and the value of rural estates has also shown very positive capital growth compared to other investments. One land management company recently reported, for example, that " Rural assets continue to outperform alternative assets and our survey again records a healthy investment performance. In the year to 5 April 2013, the average total return for all estates for all let property (agricultural and residential) was 10.8% comprising 1.3% net income return and capital growth of 9.5%". ^[24]

40 Many factors are involved in the price of land and estates in Scotland. As the same company has commented in the context of the international market in Scottish estates, " It is possible to buy 10,000 acres in the Highlands with a Grade A listed nine bedroom castle and 10 ancillary dwellings for the same price as a 3 bedroom flat in Knightsbridge". ^[25] The Review Group considers, however, that there needs to be far greater transparency and understanding of the particular role that public funds play through tax concessions and payments, in the high price of rural land in Scotland.

41 The Group also considers that there should be a much wider examination of the special treatment of rural land in national and local taxation. The current arrangements have evolved through various changes during the 20th century and there seems little evidence to suggest they are best suited to contemporary circumstances. As commented above, both the costs (to public funds) of the existing tax concessions for land, and the public interest justifications for the current blanket exemptions are far from clear.

42 The relationships between tax concessions for rural land, land use payments and land markets are complex and the current regime of concessions and payments involves the European Union and both Westminster and Holyrood Governments. The Review Group considers, however, that they are important relationships to understand in the public interest and it welcomes the continuing investigations of the Scottish Affairs Committee into the current fiscal arrangements. ^[26]

43 The Review Group considers that there is a lack of clarity over the public costs and public benefits that result from the current exemptions and reliefs for agricultural and forestry land in national and local taxation. The Group recommends that each of the exemptions and reliefs should be reviewed and reformed as necessary, to ensure that there is a clear and transparent public interest justification for the public expenditure through revenue foregone.

Rural Land Ownership

44 With over 90% of Scotland's land area classified as agricultural and forestry land, there is also the wider question of the influence of the current fiscal benefits of land ownership not simply on land prices, but on the continuing very concentrated pattern of large scale rural land ownership in Scotland.

45 At one level, the relatively high price of rural land in Scotland can be considered to limit the number of people who can afford to buy land, while the positive capital growth in land values might be seen to favour those who own land and to provide an incentive for them to continue to hold on to their land. The capital growth may provide a good return if an owner sells their land and mean that existing estate owners can achieve high prices for selling relatively small parts of their land. However, the concentrated pattern of private land ownership continues and, as described earlier, there is also the relatively high degree of intergeneration continuity amongst the owners of larger estates, whether as owners in their own right or the beneficiaries of ownership through companies and trusts (see Section 24).

46 The Review Group considers that the continuity in the concentrated pattern of rural land ownership is, like high land prices, one reflection of the very favourable fiscal environment for private estate owners in rural Scotland. There are no recurrent local taxes or public charges on the rural land they own. As their land is very largely classified as agricultural and forestry land, they also receive exemptions and reliefs on that land in national taxation. In addition, they receive public subsidies to manage their land through agricultural, forestry and other grants. As Highlands and Islands Enterprise concluded when commenting on land values that " are disproportionate to the return on investment that such assets typically generate. This could be shown as a direct legacy of the economic context and fiscal environment of land ownership over time in Scotland, and the legacy which presents a barrier to diversified land ownership patterns in Scotland today". ^[27]

47 The Scottish Government's policy aim is now to create "a fairer, or wider and more equitable, distribution of land in Scotland", and as part of the Group's remit, to propose changes "which will lead to a greater diversity of land ownership, and ownership types in Scotland" ( Annex 1). ^[28] This could be achieved by a range of measures including, for example, greater support for community land ownership as described in Part 4 of this Report. However, the Review Group considers that any significant increase in the number of land owners in rural Scotland will need the current fiscal regime to be revised. The Group considers that fiscal measures should be more transparent in costs and more accountable in their public interest benefits than the current regime. Additionally, the Group considers that fiscal measures should be progressively structured to promote an increase in the number of land owners in rural Scotland.

48 The Review Group considers that the current fiscal regime for land ownership and use plays an important part in maintaining the concentrated pattern of large scale, private land ownership in rural Scotland. The Group recommends that changes to the current fiscal regime should include structuring them to encourage an increase in the number of land owners in rural Scotland, in the public interest.