Announcement Effects: Taxation of Housing Capital Gains in Seoul

Under these circumstances, as sellers rush to beat the actual implementation of the tax, and the inventory of houses for sale increases, it becomes harder for builders to compete against the resale inventory. Thus, during the announcement period, it would be natural for new construction to decline. However, over time as the capital gains tax on housing gives rise to lock-in effects that inhibit trade, new construction should actually accelerate (Englund (1986)).

Several empirical studies have analyzed the relation between the level of transaction taxes or capital gains taxes and residential house price growth across countries and within countries (Crowe et al. (2011), Aregger, Brown, and Rossi (2013)). Areggar, Brown, and Rossi (2013) find that capital gains taxes, and in particular penalty taxes on short-term gains, paradoxically seem to fuel, rather than dampen, house price growth. There is an extensive literature on the size of the lock-in effect due to capital gains and property transaction taxes (Hoyt and Rosenthal (1992), Lundborg and Skedinger (1999), Cunningham and Engelhardt (2008), Shan (2011), Deng, Tu, and Zhang (2019)) and how capital gains taxes affect the risk associated with home ownership (Rosen, Rosen, and Holtz-Eakin (1984)). Studies have also examined the impact of capital gains taxes and purchase restriction policies on new housing construction (Cao, Huang, and Lai (2015)).

Nominal prices are from Neonet.​com. Real prices are obtained by deflating the respective price series by a consumer price index in Seoul. The consumer price index is from the Statistics Korea.

Property assessments are completed by appraisers appointed by the national government. Thus, the practice of assessment is uniform across districts.

Given the movements in prices shown in Fig. 1, it is only longer term (over three years) holders of properties that would have had significant gains to reap. Because large investors were already being taxed on actual gains, only those holding a few properties were affected.

Enactment was assured much earlier. The House-Senate conference committee passed the bill on August 16, and the full Senate approved a similar bill by a 97–3 vote on June 24. Cutler (1988) identifies May 7, 1986 when the Senate passed the bill as the key date.

Slemrod (1990, pp 8-9) describes the timing of transactions with respect to anticipated changes in the tax structure as the most sensitive behavioral response. Numerous examples beyond capital gains realizations are given.

While long-term capital-gains realizations of corporate stock in the fourth quarter of 1986 were up 373% relative to 1985, realizations of depreciable property were up only 27%, likely owing to larger transactions costs (Burman et al., 1994, Tables 4 and 6).

Hendershott and Downs (1987, Tables 2 and 3) compute that the relatively more favorable treatment of old capital (new capital lost an investment tax credit and rapid structure tax depreciation) should have raised stock valuation by 10 to 13%.

From 1978 on there was a once in a lifetime exclusion of $100,000 in housing gains for those over age 55. The dollar exclusion was raised in the 1978 Tax Act and the age limit was lowered from 65. Newman and Reschevsky (1987) showed that the annual mobility rate for those ages 55–64 increased in response.

Fu, Qian, and Yeung (2013) find that transaction taxes on property sales in Singapore are ultimately associated with a significant drop in trading activity as speculators are deterred. They also find that house price volatility increased after the policy intervention as a result of the decline in trading and the loss of price informativeness).

If sellers were buying condos in the previously designated areas, the buying pressure could raise prices there. We tested for this and found little effect (see the end of Section 5).

But note that prices rose at more than double this rate in Jung and Gangseo, which were soon to be designated as watch areas.

Gwangjin is an outlier here with appreciation of 38%, far higher than the other districts and even greater than the previously designated districts (see Table 5 below for further evidence on the unusual behavior of prices in Gwanglin).

The methodology assumes that there is no opportunity immediately prior to the tax selling to make economic profits by buying (selling) houses whose prices are too low (high). Fama et al. (1969) stipulate this by assuming security prices reflect all available information.

That is, prices in the 14 early designated districts fell relatively, possibly in response to their designation and thus higher capital gains tax rate.

See Ambrose and Kim (2003) for a detailed discussion and analysis of the Korean rental contract.

If the speculative watch area announcements are partially or completely anticipated, the new information will be acted upon before the announcement date and one might observe price declines prior to the announcements.

We averaged estimated residuals with and without the Gwangjin data because the prediction value of this equation is so poor. Excluding the Gwangjin data had no impact.

Because the correlation of real rent and house price in the overall Seoul market was above 0.95, we did not include Seoul real rent as a state variable.

The eleven Seoul equations differ in that the district price and rent variables are from different districts.

The interest rate is after tax. For simplicity, we assume no location variation in income tax rates.

An assumption is required to solve the model in terms of Δτ_i and ΔP_i. The assumption is that the government will not change capital gains tax law in the future and that households correctly anticipate that there will be no changes.

Obtained by discounting for five years with a discount rate of 7 %.