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Property taxes Middle-East, North Africa's low-hanging fruit

MENA governments pursue foreign and domestic private investment but are historically slack on real estate.

Property taxes are a form of direct taxation and can be made progressive. They can thus serve social justice and income redistribution.

UNDER increasing pressure from restive populations that are demanding economic opportunity and social justice, many governments in the Middle East and North Africa (MENA) are keen to speed up economic growth and increase job creation.

But their policies, for the most part, prioritise attracting foreign and domestic private investment - as well as increasing foreign borrowing - over the redistribution of income and wealth.

They are missing one low-hanging fruit in particular: property taxes. Increasing levies on real estate, and improving their collection, can help to address demands for social justice as well as spur economic development.

That might seem blindingly obvious in the West, where in 2017 property taxes made up an average of 5.8 per cent of total tax revenue in the Organisation for Economic Co-operation and Development (OECD) countries. Their share reached 9.5 per cent, 12.5 per cent and 16 per cent in France, Britain and the US respectively.

But MENA nations have a poor track record in this regard: taxation on property is weak, in comparison with indirect taxes and non-tax revenue.

In general, MENA countries have a limited capacity to tax their economies. Even though this has historically been related to the abundance of oil rent, this pattern is also seen in non-oil countries.

In 2018, tax revenue to GDP ratios were 21.9 per cent and 21 per cent in Morocco and Tunisia, respectively, and a dismal 12.5 per cent in Egypt - compared to 40.3 per cent in the European Union.

The share of property tax to total revenue was a trifling 0.92 per cent in Tunisia (2017) and 0.55 per cent in Egypt (2016). Morocco was an exception, with 5 per cent in 2017; the share of taxes on immovable property was 2.6 per cent.

As a result, although the real-estate sector in the MENA region attracts substantial investment, it contributes very little to the tax revenues.

Moreover, real-estate investment has not led to the development of tradeable and productive assets that could reduce the region's chronic balance-of-payments deficits by increasing exports or reducing imports.

This, in turn, contributes to protracted fiscal crises, especially for non-oil states, increasing inequality in income and wealth distribution and a rising sense of injustice.

Real-estate taxes are a form of direct taxation and can be made progressive. They can therefore serve the twin purposes of social justice and redistribution.

Unlike income flows, these taxes target property that can be easily registered by the state, thus overcoming the problems of weak institutional capacity to collect taxes.

Real-estate assets, unlike financial ones, cannot be transferred abroad. They cannot be hidden, either.

Moreover, given that the informal sector makes up a large proportion of MENA economies, property is a good proxy for income and wealth and hence for tackling inequality.

In addition, property taxes are an instrument for economic development. Property tends to be a dead asset, since most units built for housing are not used for the production of goods or services afterwards.

Real-estate tax is not a tax on capital for countries short in that commodity and that need to encourage investment. It is not likely to contribute to capital flight, or reduce investment required for growth and job creation.

On the contrary, it is likely to help correct a structural problem with almost all Arab economies: the over-representation of non-tradeable and speculation-ridden sectors like construction and real-estate services.

These tend to be prevalent where most corruption and crony capitalism is rampant, given the heavy state control over the supply of land.

In many Arab countries, real-estate captures most middle-class savings. It creates dead assets, dampening the prospects for developing financial markets to serve investment in more productive and tradeable sectors that can positively impact the balance-of-payments positions.

Real-estate taxes can help correct the incentive structure and channel savings to more productive sectors, like manufacturing and high-skill services.

Last, but not least, much of the real-estate boom in MENA countries takes place in luxury compounds and villas, and does not contribute to solving the housing crisis.

Most housing supply in Arab countries happens through informal and largely unplanned housing that caters to the requirements of the low-income majority.

Egypt is a case in point. Urban expert David Sims examined around 20 new desert cities launched from the time of Anwar Sadat in 1976, which were intended to have a combined population of more than 20 million. By 2014, however, these cities had a combined population of less than a million.

The bulk of the country's population growth has been absorbed by informal settlement on scarce agricultural land close to the major cities.

Slums make up 40 per cent of Egypt's urban areas. Much of the investment in housing by upper-income groups in these new cities does not serve direct social goals, and can be targeted with taxation without much fear of a negative impact on the availability of housing for the majority.

The chronic problems bedevilling property tax policies and collection across the region cannot be fixed overnight. Sudden changes will likely be resisted by powerful vested interests that have enjoyed for long access to subsidised land without paying taxes.

Reforms should be introduced gradually, to allow investors and producers to adjust to a right set of complementary policies.

But governments have little time to waste. That's the lesson from the protests that have broken out in the streets of Lebanon, Iran, Egypt and other MENA countries.

Arab states must move quickly to address unequal redistribution without undermining investment and growth. Property taxes are a good place to start. BLOOMBERG