To Own or to Rent? The Effects of Transaction Taxes on Housing Markets

Using transaction records on residential property sales and leases, this paper estimates the effects of Toronto’s imposition of a tax on property purchases in 2008. Three novel effects are uncovered: (i) a rise in buy-to-rent transactions alongside a fall in transactions by owneroccupiers in spite of the tax applying to both; (ii) a simultaneous fall in the ratio of the numbers of sales to leases and the ratio of prices to rents; and (iii) a decline in homeowners’ moving rates and an increase in the time taken for properties to sell. This paper develops a housing search model in which households make an owning or renting choice and where there is entry of investors. The model explains the three new facts by predicting that the transaction tax leads to an increase in demand for rental properties, which generates a fall in the homeownership rate, and a reduction in mobility for homeowners. The implied deadweight loss of the tax is large at 79% of revenue raised, with nearly 40% of this due to distortions related to the rental market.