Limiting the distortionary effects of transaction taxes: Scottish stamp duty after the Mirrlees Review

Abstract

We investigate the distortionary impacts of transaction taxes through a case study of the Scottish property market. We make use of three sources of variation in transaction tax rates present in recent Scottish tax systems: price notches, time notches and a shift to a more progressive transaction tax regime. Our results indicate that both kinds of notches have a distortionary impact that is sub-optimal. The Scottish Government s recent reforms had a positive impact through removal of the price notches, but time notches re-emerged allowing other distortions to persist. Using variation in effective tax rates from a progressive reform of the transaction tax system, we also find that the permanent effect of increased tax rates is a reduction in transaction activity. Looking across the price distribution, our results indicate that the strongest permanent responses occur in price ranges where tax rates fell due to the reform. This suggests that if governments insist on keeping transaction tax regimes, progressive taxation might be a good way to limit their distortionary impact, whilst also encouraging transaction activity in the lower end of the market.