MT205: How Paul Keating caused an Australian Home Shortage
David Noel
<davidn@aoi.com.au>
Ben Franklin Centre for Theoretical Research
PO Box 27, Subiaco, WA 6008, Australia.
Paul Keating and the Capital Gains Tax
As of 2025, Australia is suffering a country-wide housing shortage. Supply is insufficient to meet demand, and this has caused an unprecedented rise in nominal house costs,
Conventional reasons for this shortage are readily available (such as insufficient building workers and materials flows), but here I will show that these are only a part of the real forces operating. These background factors have altered dramatically over the years, but these alterations are seldom considered for their effects on something like housing.
Lodgers and Landladies
When you look at it closely, it will be realized that the whole situation of how people are accommodated (where they find a roof over their heads) has changed dramatically over the years.
During the 1950s and 1960s, in Britain and Australia, it was common for people (especially single people) to live in lodgings -- renting a room and board from a landlady (or landlord) who lived on the same premises.
This situation existed as a good use of housing. A widowed lady living in a larger house would let rooms to lodgers, who would pay the landlady rent each week. The lodgers' rents would form an important part of the landlady's budget in running the whole house -- covering costs of rates, maintenance, and utilities such as gas and water. A single man or women might spend their whole working life as a lodger.
Figure MT205-F1. 1950s comic postcard.
In 2020s Australia, the "lodger plus landlady" situation now hardly exists. This point explains quite a lot about the housing situation, where quite a big fraction of available rooms in houses remain empty and unused. There are now big disincentives to "letting out a spare room" in the house.
Most of the problem in Australia comes from the introduction of a Capital Gains Tax (CGT) in 1985 by Treasurer Paul Keating. The apparent rationale for this tax was as "an integrity measure for the broader income tax system, to prevent tax avoidance, and to improve the overall equity and efficiency of the tax base" [1].
You might think that this justification is so diffuse as to be meaningless. What Paul Keating was apparently trying to crack down on, was people taking profits as increases in their capital, rather than as income, and so avoid paying income tax on these profits.
We'll see shortly that this tax was very poorly designed, and in hindsight is a total administrative failure, one which still (2025) only exists because it is widely disregarded or circumvented, and so has little effect.
Proposition MT205-P1.
How the tax applies is, if you sell an asset (such as a property, a piece of furniture, a business, shares, or rights to royalties) which you have held for more than a year, the difference between the sale price and the original purchase cost is the Capital Gain. Half the Capital Gain is added to your other income for the year and taxed at your marginal rate for the year, as if it was just another income stream.
The glaring defect in this approach is that it takes no account of inflation. If, say. you bought a house to rent out in 1986 for $100,000, and you sell it in 2026 for $1 million (Google says: "An Australian house valued at A$100,000 in 1986 would be worth likely between A$600,000 and A$1,200,000 or more, depending on the specific city and sub-market"), the taxman would say you have made a Capital Gain of $900,000, and must pay tax on $450,000.
Clearly this capital gain is a mirage. The huge inflation in Australian house prices in recent years means that getting a high price for a sale is not a sign that an item has improved in value, only that inflation has struck. No real capital gain has been achieved.
The Family Home and capital gains tax
Paul Keating's CGT exempted a small number of assets from the tax, notably the "family home". If you sell the property in which you live (including a small amount of surrounding land), the CGT legislation says you do not have to pay tax on any part of the selling price.
Some would regard this as "Fair", and the situation has remained as (barely) workable in general society. But what the CGT legislation did not foresee was its effect on where people keep their savings.
You have money? The Government wants it.
The Australian Government has a bad reputation for pursuing Australians for taxes, particularly the poorer part of the population. Perhaps the worst recent incident was the "Robodebt" scheme which it began in 2015, a plan where it illegally and falsely claimed debts to be due from Centrelink clients (Centrelink is the organization which oversees government pensions, so it deals with the needier part of the population).
Here is what Google says about the scheme: "Robodebt was an unlawful Australian government scheme (2015-2019) that used automated data-matching to incorrectly issue over $1.8 billion in Centrelink debt notices, causing significant financial hardship and mental distress, leading to a major class action settlement (over $1.1 billion total repaid/compensated) and a Royal Commission finding severe failings by public servants and ministers".
Although over a billion dollars was repaid of the extorted funds, this was too late for those who had suicided or had their livelihoods bankrupted.
Still today, the ATO's (Australian Tax Office's) treatment of its clientele, particularly its weaker clientele, can be regarded as inequitable. As an an example, consider its attitude to bank account interest.
Almost everybody has a bank account, and in fact if you are a Centrelink client, you need to have a bank account for Centrelink to pay benefits into. If you have savings in the bank, the ATO treats any interest as income and taxable. Is this fair enough?
On the face of it, maybe, but consider again the effects of inflation. These days the amount of interest banks give on deposited funds varies from close to zero, up to about 5%. So if you are getting 3% interest on your money, and inflation is 3%, you are only just retaining the value of your funds, before you pay out income tax on the 3% -- just leaving funds untouched in the bank means you are steadily going backwards.
Individual Australian government pensions are reduced or cancelled if the recipient has income of more than a certain amount per fortnight, or if they possess assets above a certain amount (in 2026, $321,500 for a single homeowner).
Suppose you are a pensioner who has their savings in a no-interest bank account, will you be taxed on this account's (non-existent) interest? Yes, even for no-interest accounts, the ATO "deems" your account is paying interest.
Google says: "The ATO applies two different deeming rates to a pensioner's total financial assets, including bank accounts. For single pensioners, the first $64,200 is deemed to earn 0.75% per year, any amount over $64,200 is deemed to earn 2.75% per year. Deeming is used to estimate the income from the financial assets for the pension income test".
Whether fair or not, the ATO setup means that it can be detrimental to have your savings nest-egg deposited in a financial institution, and it can be detrimental to hold shares or other fixed assets (since these may fall in value due to annual depreciation), and if you are a government pensioner, these assets may reduce your pension under the assets or income tests. If you are working, you may put funds into a superannuation scheme, which has favourable tax treatment.
So easily the best place to build up your financial status is in your family home, which is not liable to capital gains tax if sold, and if you are eligible for a government pension, is not counted in assessing your assets. It's a no-brainer for Australians.
It is this no-brainer situation which has driven Australia into the current housing crisis. For most, the best place to put any available savings is into their house. And so, Australians have ended up owning the largest houses in the world, often with many little-used rooms.
Currently, there is no other place for an Australian to put savings which will be free from
government predation. It is this "no-other-rational-choice" which has exacerbated the current housing shortage -- the classical "too-much-money" seeking "not-enough-supply". In the old days, you would put surplus funds in the bank, where it would be quietly be represented by a figure denoting a number of dollars. If you instead put money into your house, you have to do something which will usually involve builders and architects (themselves relatively scarce in Australia), it's not just a book transaction.
And if you own a large house, there is little incentive to let out any of these spare rooms and subject yourself to tax scrutiny on the rentals, no incentive to downsize to a smaller house when the kids have left -- this would leave you with an embarrassing amount of cash.
Moreover, letting out a room or two would expose you to a very nasty possibility -- if you did, the Government might say that a proportion of your house was an income-earning asset and thus liable to capital gains tax on disposal. The general conclusion is, "just not worth the trouble".
There is a way to change all this, what will here be called the Domestic Accommodation Act. The basis is, that a property owner residing on a property may chose to have anyone else residing on the property under a "Domestic Accommodation" agreement, of which the government has no knowledge or oversight.
A Domestic Accommodation agreement would cover everything between children living at home with their parents, right through to the owner of a block of flats choosing to live on their premises and accommodate whoever they liked -- including otherwise possibly homeless people.
The passing of such a Domestic Accommodation Act would immediately allow the release and occupation of a huge amount of accommodation at present sectioned off because of income tax and capital gains tax considerations.
Arrangements between a property owner and other residents on the property would be purely private, any agreements as to residency would not be enforceable in a court. However, the owner would still have the right to seek a court order for a named individual to leave the premises, as is applicable now -- a parent can obtain a court order forcing a wayward daughter to leave the parents' home.
Time for a Proposition.
Proposition MT205-P2.
And it would be appropriate to look again at the principal cause of the Australian housing crisis -- the Capital Gains Tax.
Before 1985, the Australian economy ran quite well without this tax. We have seen that the CGT has, accumulating over the years, led to an unhealthy distortion of the economy and of human behaviour in Australia, channelling the population into acts not beneficial to the country as a whole.
On the other hand, look at the benefits accruing to Australia from the CGT, where are they? There is nothing obvious at all. This would not be the first time that a government has introduced a new tax, only to discover unforeseen drawbacks, sometimes even with a net loss in tax available to the economy
Time to ditch the Capital Gains Tax?
Proposition MT205-P3.
Seems pretty obvious, doesn't it?
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References and Links
[1]. Google AI. Why was a capital gains tax introduced in Australia? 2025 Dec 16. www.aoi.com.au/MT205/Capital Gains Tax.pdf .
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