A VALUE-BASED tax on property holdings should help bring stability to the housing market, but not unless the central government offers clarity and local governments offer compliance.

China's property price growth may have eased nationwide in recent months, but sustained liquidity and strong land sales do not suggest the market is about to go into decline.

And a property tax - once heralded as a "nuclear weapon" that would bring reform to the real estate market but now subject to an intra-government tug-of-war - is unlikely to spoil the speculators' party.

Pilot projects

While homeowners in most countries pay annual tax based on the value of their property holdings, Chinese are only liable for stamp duties and transaction taxes when buying or selling real estate. The State Council wants to remedy this by introducing a property tax.

It has been reported that Shanghai and Chongqing have already submitted proposals for pilot projects and both are expected to launch in the first quarter of this year.

The Chongqing authorities want to mainly target high-end apartments and villas while Shanghai plans to levy a tax on new homes only, based on average per capita living space.

According to media reports, Chongqing is expected to tax all villas as well as apartments with a floor area of more than 144 square meters and priced at 2 to 2.5 times the average price.

The tax will target owners who have more than one flat and have a total floor area of more than 200 square meters. Under such cases, the tax rate may be 0.5 to 1.5 percent.

Shanghai is likely to tax only new homes. Some analysts speculated that the city would tax families who have a floor area of more than 200 square meters or 70 square meters per person. The tax rate is likely to be about 0.5 percent.

China initiated rules on real estate taxes as early as October 1986 but exempted non-commercial properties. The Shanghai and Chongqing proposals are in effect versions of their current tax systems modified to include residential properties.

One of the major objectives of the property tax is to help break the volatile price cycles in the market. Imposing a tax on property holdings, rather than just at the transaction stage, would make investors more cost conscious. Speculators tend to buy property with a view to capital appreciation, not rental income. But if they pay an annual tax - which rises as the property value rises - it makes no sense to leave the apartment standing empty; so they are likely to be more careful about when and where they buy.

Developers, facing penalties if they allow land to stand idle, would in turn become more conservative with land purchases, aware that there needs to be a closer match between demand and supply. The days of sky-high bids at land auctions would end and end-users may end up benefiting from lower retail prices.

Money spinners

Local governments, reliant on premiums from land sales for a large chunk of their fiscal revenues, would receive the proceeds of the property tax instead - swapping a revenue stream that varies according to market conditions for one that offers consistent returns.

The problem is that local authorities don't completely buy into this theory and are wary of anything that threatens land auctions, which are established money spinners. Shanghai and Beijing generated record takings of US$23 billion and US$24 billion-plus, respectively, from auctions in 2010. These concerns might explain why Chongqing and Shanghai's proposals only target a tiny portion of home purchasers, most of whom are not sensitive to taxation.

It might equally be a response to the mixed messages coming from the central government, which has a long way to go to inspire confidence. At first officials stressed the property tax would lead to lower house prices, but more recently they have played down this idea. They have also been reluctant to comment on what the tax means for the government's commitment to lower overall tax burdens and what will happen to existing transaction tax rates.

The worst case scenario is that the property levy doesn't bring house prices in check while also presenting buyers a larger tax bill.

China made it harder for second and third home buyers to obtain mortgages over the course of 2010 and then implemented two interest rate hikes at the end of the year. Yet prices of new homes in Shanghai and Beijing rebounded in November and December as people rushed to buy apartments in expectation that tightening measures will intensify in 2011.

The property tax has the potential to bring a more rational, long-term mind-set to the market - but only if the details and objectives are clearly expressed, and not watered down by vested interests.

Points of view

"From my personal point of view, I don't think it is an appropriate time now to introduce the property tax. It is perhaps better for the government to closely observe the real estate market for a longer period of time as we expect the lag-effect of tightening measures, launched since mid-April 2010, to gradually filter through to the market after the first quarter of 2011. Even though the property tax is levied, its impact on the residential market will be rather short-term and limited."

- David Chen, senior director for residential project marketing of CBRE Residential China

"Over the medium to long term, we do not expect a property tax to have a major impact on housing prices as more owners of investment properties turn to the rental market to generate income to offset the cost of the tax, particularly in cities like Shanghai where leasing demand is strong. The continuing rise in housing prices has been rooted in an insufficient supply of housing to meet demand. The government is aware of this issue, as evidenced in the latest rounds of policies which are aimed at increasing the new supply of both commodity and social housing."

- Michael Klibaner, head of research at Jones Lang LaSalle China

"Introduction of the property tax will play a very limited role in curbing house price growth because the real reason behind surging home prices right now across the country is an imbalance between supply and demand. In fact, the property tax will probably first serve as a means to adjust income structure in society, then to modify the current model for sustainable development and finally, to have some influence on property prices."

- Chen Sheng, vice head of China Index Academy

"Existing landlords are likely to pass the additional holding cost onto tenants in an attempt to maintain existing meagre yields, while owners who currently leave units vacant may begin leasing them as a way of offsetting the additional cost."

- James Macdonald, senior manager for China Research of Savills China