Can a tax cut breathe life into the Spanish property market?

An emergency meeting of Spanish government ministers announced a cut in the rate of IVA (Spanish VAT) on new build houses from 8% to 4%. The tax had only been raised from 7% thirteen months ago. The abrupt change of policy is aimed at reviving the housing market.

Something certainly needs to be done if Spain is to start to grow its economy. Before the crash the construction sector accounted for more than 15% of economic output; now it seems to be dead on its feet. Recent figures showed Spanish construction activity fell 43% in the year to June, a steeper fall than anywhere else in Europe. Will the tax cut help?

The idea is that this will help banks and property developers offload a lot of the new build properties that have lain empty since the housing crash hit hard in 2008. Estimates vary but their could be up to a million empty and unsold units weighing down on the whole market. New building will remain depressed until the backlog is at least partly cleared.

4% is a chunky reduction - around €5-8,000 off the purchase price for an average property. The reduction is temporary - just until the end of the current year - which may have the effect of bringing forward some activity and creating some momentum.

But there are doubts - transfer tax on existing home sales remains at 7-8% (depending on the area). Furthermore house prices still appear high in relation to incomes; "stratospherically" so according to one economist who produced a graph showing that average prices are more than 6 times annual average incomes in Spain; much higher than the UK and US: Spanish house prices still high

Banks don't have much of an incentive to shift properties while they hold them on their books at cost; selling them at current market prices would crystalise their losses and actually make their balance sheets look worse.

The tax cut may be helpful to those with property deals in the pipeline but don't expect it to trigger a wider revival in the Spanish property market.

Related on our website:

Capital Gains Tax on Spanish Property Sales

Ten Reasons Spanish Property Prices Will Stay Depressed

Can you do business in Spain without registering?

In my experience as an accountant most people wish to play by the rules, do the right thing, fulfil their responsibilities etc ... so long as doing so is not unduly complicated or punitively expensive.

A consequence, which I see a lot, is a frustration among people in Spain who want to do business legally but are put off by the red tape and tax implications, especially social security and IVA (spanish VAT). The problem applies mainly to small part time businesses where the income is expected to be patchy or very low. If you are only expecting to earn a couple of hundred euros a month or are doing something which brings in revenue periodically (e.g. running courses) then it is totally infeasible to set up as properly registered business with the following expenses:

monthly social security

accountancy costs

quarterly taxes

In addition all businesses have to charge IVA which, while it should not be an expense of the business, nevertheless results in higher charges to the customers and a lot of admin.

Also you can't declare income for tax unless it has been earned through a registered business with the IVA accounted for. It's like the old saying about it not being possible to be "a bit pregnant". You can't be "a bit legal" - it's all or nothing. If you want to make your small business earnings legal you have to do all three things - start paying the social security, deal with IVA and pay income tax.

The situation is a bit more complicated than this (see the autonomo guide on our website) but in essence that is the situation - it is totally uneconomic to legalise a small business unless you expect to earn a decent income right away - you either don't start up in business at all or do so on a cash in hand basis.

And lots of people in Spain do. Much more so than in the UK. One of the reasons for this is that in the UK there is a threshold of 70.000 before which businesses do not have to register for VAT. This means small businesses do not have to worry about one of the main business headaches until they are well-established. Imagine if Spain had a similar system - some IVA would be lost to the government but many more businesses would go legal and pay income tax and social security. Some would grow big enough to start paying IVA.

In the UK some voices are calling for the VAT threshold to be raised even further. The Federation of Small Businesses has suggested a rise to 90.000£ would create 35,000 new jobs according to the BBC. Spain can only dream of such a windfall. But this is what Spain badly needs. With so many people unemployed and the Spanish economy stagnating, making it easier to initiate LEGAL new businesses is essential.

The UK also has national insurance breaks for small businesses and is much more flexible in allowing income to be declared when there is no job or registered business involved. Spain desperately needs a similar approach.

From the main website What should you do with your savings in 2011