buildings

Article The Effect of Taxation on Investment Demand in the Market: The Italian Experience

Benedetto Manganelli 1 , Pierluigi Morano 2 , Paolo Rosato 3 and Pierfrancesco De Paola 4,*

1 School of Engineering, University of Basilicata, 85100 Potenza, Italy; [email protected] 2 Department of Civil Engineering Sciences and Architecture, Polytechnic University of Bari, 70126 Bari, Italy; [email protected] 3 Department of Engineering and Architecture, University of Trieste, 34127 Trieste, Italy; [email protected] 4 Department of Industrial Engineering, University of Naples “Federico II”, 80 V. Tecchio Square, 80125 Naples, Italy * Correspondence: [email protected]

 Received: 23 May 2020; Accepted: 23 June 2020; Published: 27 June 2020 

Abstract: This study investigates the effect that taxation has on investment in the real estate market. There is a close relationship between investments in the real estate market and taxes, local communities, public policies and economic development. The analysis was developed with reference to the Italian real estate market and its tax regime. In Italy, taxation on real estate affects possession, transfers and income. These three tax rates vary according to the subjects who exchange assets and manage them, to the intended use of the real estate property and to the options for choosing the type of tax regime permitted by law. On the basis of these parameters, a financial analysis of real estate investment is constructed and simulated in order to understand to which types of taxation investment is most sensitive. The results showed that a change in income taxation can have an important effect on the investment choice. This evidence may also suggest fiscal policy actions aimed at stimulating the real estate market.

Keywords: property taxation; real estate market; financial analysis; buildings; investment

1. Introduction The reasons that push a family or a businessperson towards buying an urban property are essentially twofold: (1) to take advantage of the direct utilization of a property, when the building is either destined for residence or if it is instrumental to production; and (2) to guarantee a flow of future income and/or to achieve a capital gain, when the property is considered an asset of investment. This study focuses on the investor’s performance, whether a real estate company or a small real estate owner, and on how taxation can influence their choices. For this purpose, the taxes applied to transfers, income and ownership, which are differentiated in relation to the subjective requirements of the operator and the objective requirements of the asset, are examined. A model of investor behavior will then be defined by a financial equation that identifies the ratio between income and the value of real estate as the internal rate of return. This rate constitutes a minimum threshold that, if exceeded, determines the convenience of the real estate investment in comparison with alternative investments whose profit is known. Changes in this threshold produced by changes in taxes are able to highlight the influence of the current tax regime on the demand for real estate. For the development of the model, exemplary cases of real estate transfers are therefore constructed.

Buildings 2020, 10, 115; doi:10.3390/buildings10070115 www.mdpi.com/journal/buildings Buildings 2020, 10, 115 2 of 14

The results of the analyses carried out on these cases and the subsequent comparison of the results allow for the measurement of the influence of taxation on the minimum threshold of return. A sensitivity analysis is carried out for all the possible combinations of the characteristics that distinguish, on the one hand, the categories of the subjects taken into consideration, and on the other, the real estate property. Section2 provides a literature review on the subject of property taxation and its e ffects on prices. Section3 describes the tax regime in the Italian real estate market. Section4 illustrates the model implemented for case analyses, and Section5 reports the results. Section6 shows the results of the sensitivity analysis obtained by varying each of the combinations, including the range of the cases examined, the rates of the income, ownership and transfer taxes, in different ways. To conclude, these results are discussed in the last section.

2. Real Estate Market and Taxation The literature review shows that an increase in property taxes generates a decrease in the price of [1–5]; however, it should be specified that the effect of taxation varies according to the local market conditions [6,7], to the quality of the home [8] and also to the use of the real estate unit—i.e., if it is used as the owner’s home or as an investment. Regarding the latter, it should be clarified that the distinction also pertains to the type of taxation. Taxation can affect transfer, ownership or income. Property taxation on secondary homes (income and ownership) has opposite qualitative effects compared to transfer taxation on owner-occupied homes [9]. In other words, in the first case, taxation is partially capitalized in prices, while in the second case taxes are paid by the seller [10,11]. Transfer transaction has negative consequences on the price of houses, while income tax has a significant positive effect [12,13]. Vendor taxes raise prices and buyer taxes lower them [14]. This evidence is consistent with the results of some studies that show that property taxation affects demand but does not disturb the performance of the offer [15,16]. Therefore, in this study, we try to examine the behavior of demand and in particular of that part of the demand that sees the property as a production asset. When the purchase of a property is determined by the desire to obtain a profit (flow of income or capital gain), the determining factors are the ease in repositioning the asset on the market (sale or ), location, protection against inflation, loan security, capital protection and the weight of the tax system [17,18]. This profit can be assessed by analyzing the cash flows generated by the real estate investment during the period in which the property is held. The accumulated rents and the price collected from the sale of the property at the end of the holding period are the incoming flows. Taking into account the volatility of the real estate market and its cyclical trend, the likelihood that the property increases in value compared to its purchase price (a capital gain) can obviously depend on the choice of the duration of the holding period. Figure1, which illustrates the change in the index of real average price of housing in Italy from 1990 to 2004, shows precisely the cyclicality of this market. Buildings 2020, 10, 115 3 of 14 Buildings 2020, 9, x FOR PEER REVIEW 3 of 15

140.0

130.0

120.0

110.0 Index 100.0

Price 90.0

80.0

70.0

60.0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 Years

Figure 1. House price index in Italy in the period 1990–2018 (2004 = 100). Figure 1. House price index in Italy in the period 1990–2018 (2004 = 100). The estimation of incoming flows therefore implies the forecast of a series of factors closely linked to theThe volatility estimation of the of real incoming estate marketflows therefore or, better implies still, of the twoforecast sub-markets: of a series the of sales factors and closely rental linkedmarkets to [ the19]. volatility of the real estate market or, better still, of the two sub‐markets: the sales and rentalOutgoing markets [19]. flows consist of the purchase price of the property and related expenses: maintenance and managementOutgoing flows expenses consist andof the financial purchase and price fiscal of charges. the property and related expenses: maintenance and managementIn this context, expenses it is clear and that financial the level and of fiscal taxation charges. is the only certain element among those that contributeIn this tocontext, the formation it is clear of that the the return—at level of anytaxation rate, is in the the only short certain term. element This is a among factor thatthose could that contribute(even with to small the formation oscillations) of the act return—at as a flywheel any or rate, a curb in the for short the demand term. This for is real a factor estate, that which could is (evenundoubtedly with small true oscillations) for the part act that as containsa flywheel the or prevailing a curb for economic the demand component for real byestate, virtue which of the is undoubtedlystrong elasticity true that for it the shows part in that proximity contains to anthe expected prevailing rate economic of return closecomponent to the rateby virtue of alternative of the stronginvestments elasticity [20 ].that it shows in proximity to an expected rate of return close to the rate of alternative investmentsFollowing [20]. the economic crisis that has affected almost all global economies, an increase in property taxesFollowing has been onethe ofeconomic the many crisis corrections that has that affected have beenalmost applied all global in order economies, to avoid an the increase collapse in of propertynational budgets.taxes has In been many one countries, of the many property corrections taxes are that a fundamental have been sourceapplied of in revenue order to for avoid local andthe collapsenational of administrations national budgets. [10, 21In]. many countries, property taxes are a fundamental source of revenue for localReal and estate national is considered administrations a very attractive [10,21]. goal for the tax office because, in contrast to income, immovableReal estate property is considered cannot be a hidden very attractive [22]. In almost goal for all the countries tax office with because, modern in tax contrast systems, to theincome, basis immovablefor real estate is the cannot property be hidden value. [22]. This In is almost defined all in countries very diff witherent modern ways in tax relation systems, to particular the basis forsocial real and estate historical tax is the circumstances property value. [23]. This is defined in very different ways in relation to particular socialThe and benefits historical of circumstances property taxation [23]. are also recognized in those countries which do not have a comprehensiveThe benefits list of of property taxable propertiestaxation are and also adequate recognized data onin those transaction countries prices which [24]. do not have a comprehensive list of taxable and adequate data on transaction prices [24]. 3. The Tax Regime on Property in Italy 3. TheBetween Tax Regime 2008 andon Property 2013, the in Italian Italy tax policy brought Italy to the top of the ranking of European countriesBetween with 2008 the highestand 2013, tax the levy Italian on real tax estate. policy Despite brought a Italy taxation to the system top of on the buildings ranking whichof European is very countriessimilar to with that inthe other highest Euro-area tax levy countries, on real theestate. level Despite of total a taxation taxation in system Italy is on definitely buildings higher. which is very similarAlmost to all that Western in other economies Euro‐area do countries, not include the a level figurative of total income taxation of the in Italy main is residence definitely in higher. the tax base.Almost The focus all Western of our study economies is not on do this not aspect include but a on figurative the taxes income that aff ofect the the main purchase residence and holding in the taxof a base. residential The focus property of our for study investment is not on use. this In aspect this case, but the on taxthe systemtaxes that common affect tothe most purchase European and holdingcountries of means a residential that income, property ownership for investment and transfer use. are In athisffected case, by the taxes. tax Thesesystem e ffcommonects are specifiedto most Europeanin more detail countries below. means that income, ownership and transfer are affected by taxes. These effects are specified in more detail below. Buildings 2020, 10, 115 4 of 14

Income tax: The income generated by ownership of the asset is the prerequisite for the application • of this tax. If the property is owned by a company, the income is subject to a fixed tax percentage. In the event that the property belongs to a natural person, the income contributes to the determination of the total income and is subject to a progressive tax. For some cases of real estate units, and under certain conditions, the Italian legislation introduced the option to choose a fixed replacement tax, the so-called “cedolare secca” (flat tax). This involves compliance with the right to request, for the entire duration of the option, a revision of the rent, even if it is included in the contract. The option can be implemented for residential real estate units and leased for residential use. If a company has not opted for the “flat tax” the tax return must include the fee reduced by 5% (until 2012, the fee was reduced by 15%; the change was made in accordance with Article 4, paragraph 74, of Law No. 92/2012). This deduction represents a lump sum for the management costs of the building; Possession tax: The requirement for this tax is the possession of an asset. This tax affects all • buildings, with the exception of those used as a main residence. Tax on public services provided to property owners: This is a tax paid to the municipalities • and which concerns the indivisible municipal services; i.e., those services aimed at the entire community for which it is impossible to quantify the benefit to the individual citizen. Property taxes and taxes on public services are calculated as a percentage of the cadastral value of the property in line with the share and the months of possession of the property. Transfer tax is a tax levied when purchasing a property (VAT, registration, mortgage, cadaster); • The sale of a residential property, with some exceptions, is exempt from VAT. The exception is true in the case of buildings sold by the parties (companies) who built or restructured them. In the sale of residential properties, the principle of substitution between VAT and registration tax is applied. Mortgage taxes and cadastral taxes are fixed but vary depending on whether the sale is subject to VAT or exempt. The percentages of these two taxes and of the VAT and registration taxes, when they do not concern the purchase of a primary residence, have an equivalent measure for the buyer and are equal to about 10%. The payment of the registration tax is required for the annotation of every written (contracts, private writings, constitution of companies, etc.) in a public register, so as not to change the date and the content. This tax therefore also affects, as with transfers of wealth (if not subject to VAT), the property values contained in the sale or lease contracts of a building. For the cases involved here, the tax base consists of the amounts expressed in the contract. Only in the case of the sale of residential properties can the buyer—under certain conditions—request that the tax base be equal to the cadastral value and not the agreed price. When the transfer of ownership is subject to VAT, the mechanisms of control and taxation encourage contractors to write the cadastral value and not the one agreed upon in the contract. This means that, in any case, the tax on the transfer of a residential property for investment purposes has the cadastral value as the tax base at all times.

4. The Model The model aims to measure the influence of the tax level on the choice of investment property, and it is therefore based on the analysis of the investor’s behavior. The fundamental factors involved in the decision-making process are the return on an alternative investment, the duration of the investment (holding period), the incoming flows (rents and final sales value) and the purchase costs and expenses management. The taxes, which represent the object of this research, are part of the outgoing flows. The income obtainable from the lease of real estate (rents) can be expressed with the use of the annual rate (which will be better defined as profitability, r) equal to the ratio between the same rents (Ri) and the price of the asset (PR). Buildings 2020, 10, 115 5 of 14

The estimate of the sale value at the end of the holding period is based on a revaluation (or devaluation) ratio of the real estate capital, expressed by rv in Equation (1). r n V rv = i 1 (1) PR − where Vi is the market value of the property at the end of the holding period (n). The eventual loss of value, if it were to occur, would be the consequence of contingent phenomena related to the generality of the real estate market (or segment) and not the effect of capital depreciation (aging of the building), which is taken into account in the analysis by the annual capital recovery (ACR). Among the most effective instruments for the valuation of a real estate investment, the discounted cash flow is used, which is derived from the precedent equity valuation model or Ellwood model [25–28]. The proposed model starts precisely from the writing of a financial balance equation, on the basis of which the convenience of the real estate investment is assessed by focusing on one parameter: the minimum threshold of profitability (Pmt). This threshold, defined by the ratio between gross rent and property value, if exceeded, determines the convenience for real estate investment. The two terms—profitability and rate of return—which are equivalent with respect to a generic financial capital, instead assume different meanings for real estate capital. Profitability indicates the relationship between the rent and the capital value of the property. The rate of return considers not only the income from the lease but also the possible capital gain, net of all related investment costs. The comparison between the gross profitability—the ratio between the annual market rent and the purchase price of the property—and the minimum profitability threshold defined above (Pmt) allows us to evaluate the convenience of real estate investment compared to alternative investments whose performance is known (r*). The equation consists of terms which vary according to the objective characteristics of the goods, to the individual investor requirements and to the subjective requirements of the seller. On the one hand, in fact, by changing the actors of the real estate market, the types and percentages of tax can change; on the other hand, in relation to the investor’s attitudes, the parameters of comparison change. When the point of view changes, the minimum threshold of profitability also changes. This is higher for companies, as their expected return on investment is higher due to their greater risk attitude, compared to that which characterizes the behavior of the small owner (or family). The latter, as an alternative to real estate investment, would probably use their savings to buy public debt securities, bonds or equity funds with guaranteed capital. The financial analysis attempts to define the economic advantage of a real estate investment compared to an alternative investment whose performance is known (r*). The financial balance equation is

h  i n 1 2 (1+r∗) − 1 PR Pmt (1 Lv) PR (Cm + ARC) + Vc Pt + PR Pmt It 0.95 − · · − − · 3 · · · · · · r∗ (2) +PR (1 + rv)n [PR + (Tt + N f ) Vc] (1 + r )n · ≥ · · ∗ where

PR is the market value (price); • Vc is the cadastral value of the property; • Pmt is the minimum threshold of profitability; • Lv is the percentage of loss on income for vacancies and non-collection; • Cm is the percentage of construction costs for maintenance, administrative and insurance; • ARC is the percentage of construction costs for annual recovery capital; • Pt is the percentage of possession tax; • It is the percentage of income tax; • r* is the rate of return of the alternative investment; • Buildings 2020, 10, 115 6 of 14

rv is the rate relative to the increase or decrease in a capital asset’s value (capital gain or capital • loss); Tt is the percentage of transfer tax; and • Nf is the percentage of notary fees. • The ARC is calculated using the formula

r∗ u (3) (1 + r∗) where u indicates the years of probable residual life of the asset. It is an exogenous variable, and its estimate depends on a series of parameters (the type and age of the building, its state of conservation). The first part of the Equation (2) consists of two elements that together express the return: the income flows (profitability) and the increase or decrease in a capital asset’s value. Volatility in the real estate market can generate capital gain or loss at the end of the holding period. The series of the property price index shows a long-term trend of growth. In addition to this dynamic, property prices often deviate from their fundamental values, with a cyclical trend that depends on some macroeconomic variables that influence demand and/or supply, on the friction in the interaction between supply and demand and on speculation [29–33]. In the first element, the gross revenue from the fees is reduced by the costs that the owner must bear for the maintenance, administration and insurance of the property (PR 2/3 (Cm + ARC)), the taxes on · · possession (Vc Pt) and income taxes (PR Pmt It 0.95). The costs for the administration, maintenance · · · · and insurance of the property are related to the construction cost, which is assumed here to be equal to two-thirds of the market value, assuming that the area of land has an incidence of approximately 30%. In the case of ordinary taxation (the inequality refers to this hypothesis), the income taxes are related to the contracted agreement reduced by 5%. In the second part of the inequality (2), the principal and interest of the invested capital at the end of the holding period are included, which are calculated using the return rate of the alternative investment. If all parameters are given in in Equation (2) with the exception of Pmt, it can be transformed into Equation (4), where Pmt represents the explained variable. If the profitability exceeds the calculated minimum threshold (Pmt) in Equation (4), then the inequality is satisfied and the investment becomes convenient. Therefore, Pmt is an indicator of the convenience of the investment; the lower this threshold, the better the investment. n o h i n n r∗ 2 [PR + (Tt + N f ) Vc] (1 + r∗) PR (1 + rv) n 1 + PR 3 (Cm + ARC) + Vc Pt · · − · · (1+r∗) − 1 · · · Pmt = − (4) PR (1 Lv It 0.95) · − − · The measurement of the minimum threshold of profitability (Pmt) requires that the parameters be estimated. The financial analysis is developed below based on two illustrative cases. According to Equation (4), calculating the first derivative as a function of the holding period could help to determine the condition of convenience. By placing the first derivative as equal to zero and setting all the other variables, the most convenient holding period can be identified.

5. Analysis The property examined is a residential in the center of Salerno. Salerno is a city in the south of Italy; it is one of the provincial capitals of the Campania region, with about 135,000 inhabitants. It is located on the northern coast of the homonymous gulf. The purchase price of the property is €300,000.00, while the cadastral value is Vc = €108,564.12. The latter is the tax base for the payment of transfer taxes. The first case assumes that the buyer is a juridical person (an entrepreneur) while the second case assumes that the investor is a natural person who, therefore, could opt—in the phase of leasing to another natural person—for the flat tax on rent. Buildings 2020, 10, 115 7 of 14

5.1. Case 1 In relation to the two selected cases, it is reasonable to assume that some parameters of the inequality have values which oscillate in a defined interval, while other parameters a fixed measure. Specifically, the parameters defining the costs and the taxation are defined Buildingswith a fixed2020, 9 measure., x FOR PEER The REVIEW percentages of tax are different depending on the type of buyer and the7 of type 15 of lease. The rate of return on the alternative investment and the holding period are variable in the and the type of lease. The rate of return on the alternative investment and the holding period are defined range. variable in the defined range. In the first case, the fixed parameters are as follows: In the first case, the fixed parameters are as follows: Transfer tax (Tt) = 9%; • Transfer tax (Tt) = 9%; Possession tax (Pt) = 10.6 per million; • Possession tax (Pt) = 10.6 per million;  Income tax (It) = 24%; • Income tax (It) = 24%;  Maintenance,Maintenance, insurance insurance and and administration administration costs costs ( (CmCm)) are are defined defined at 1.8%; •  TheThe annual annual recovery recovery capital capital ( (ARCARC)) is is calculated calculated assuming assuming that that the the residual residual life life of of the the property property • isis equal equal to to 60 60 years years ( (uu);); since since the the building building is is made made of of reinforced reinforced concrete, concrete, this this is is given given by by the the differencedifference betweenbetween the the maximum maximum service service life comparedlife compared to the currentto the conditions,current conditions, the assumption the assumptionof normal (extraordinary of normal (extraordinary and ordinary) and ordinary) maintenance maintenance of the building of the building (100 years) (100 and years) the and life thealready life already spent (40 spent years); (40 years);  NotaryNotary fees fees ( (NfNf) )== 2%;2%; and and •  TheThe loss loss on on income income for for vacancies vacancies and and non non-collection‐collection ( (LvLv)) is is set set equal equal to to 4%. 4%. • FigureFigure 2 showsshows the the moving moving average average calculated calculated over over a aperiod period of of 15 15 years years of ofthe the annual annual growth growth of theof thehouse house price price index index illustrated illustrated in Figure in Figure 1. Therefore,1. Therefore, considering considering a holding a holding period period of 15 of years, 15 years, the averagethe average annual annual increase increase in capital in capital value value fluctuated fluctuated between between 0.8% 0.8% and and3.2% 3.2% over over the last the last30 years. 30 years.

3.5%

3.0%

2.5%

2.0% averege

1.5%

moving 1.0%

0.5%

0.0% 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 years

Figure 2. Moving average over a 15-year period of the annual growth of the house price index. Figure 2. Moving average over a 15‐year period of the annual growth of the house price index. The first graph in Figure3 is constructed assuming that the annual increase in capital value is constantThe first and graph roughly in equivalent Figure 3 is to constructed the maximum assuming average that value the recorded annual increase (rate rv in= 3%).capital value is constant and roughly equivalent to the maximum average value recorded (rate rv = 3%). BuildingsBuildings 2020, 9, 2020x FOR, 10 PEER, 115 REVIEW 8 of 15 8 of 14

22.00% 20.00% 18.00% 16.00% 14.00% 12.00% 10.00% 8.00% 6.00% 4.00% 2.00% 0.00% Return on 2% 3% 4% 5% 6% 7% Alternative Investment

5 2.64% 4.28% 6.01% 7.80% 9.65% 11.55% 10 1.88% 3.43% 5.06% 6.75% 8.49% 10.28% Minimum 15 1.57% 3.19% 4.87% 6.60% 8.38% 10.20% period Threshold of 20 1.36% 3.07% 4.84% 6.65% 8.49% 10.35% Profitability 25 1.17% 3.01% 4.87% 6.76% 8.67% 10.58%

Holding 30 0.99% 2.96% 4.94% 6.91% 8.87% 10.82%

FigureFigure 3. Distribution 3. Distribution of the minimum of the minimum threshold threshold of profitability of profitability (Pmt), depending (Pmt), depending on the holding on the holding periodperiod and return and on return alternative on alternative investment. investment.

WhenWhen the return the returnon alternative on alternative investment investment exceeds exceeds4%, the most 4%, theconvenient most convenient holding period holding is period is betweenbetween 15 and 15 20 and years. 20 years.In fact, Inthe fact, lowest the values lowest of values the minimum of the minimum thresholds thresholds of profitability of profitability are are recordedrecorded in this in period. this period. The nextThe graph next graph(Figure (Figure 4) shows4) showsthe change the changein the minimum in the minimum threshold threshold of profitability of profitability according according to theto annual the annual rate of increase rate of increase in capital in value capital and valuethe rate and of return the rate of an of alternative return of an investment. alternative The investment. Buildings 2020, 9, x FOR PEER REVIEW 9 of 15 holdingThe period holding is instead period set is insteadto 5 years. set to 5 years.

22.00% 20.00% 18.00% 16.00% 14.00% 12.00% 10.00% 8.00% 6.00% 4.00% 2.00% 0.00% 2% 3% 4% 5% 6% 7% Return on 0% 8.00% 9.48% 11.13% 12.85% 14.63% 16.45% Alternative Investment

1% 6.23% 7.82% 9.49% 11.23% 13.03% 14.88%

2% 4.47% 6.08% 7.78% 9.55% 11.38% 13.25% Minimum value 3% 2.64% 4.28% 6.01% 7.80% 9.65% 11.55% Threshold of increase 4% 0.74% 2.41% 4.16% 5.98% 7.86% 9.78% Profitability 5% 0.00% 0.45% 2.24% 4.09% 6.00% 7.95% capital

in Annual Figure 4. Distribution of the Pmt depending on the annual increase in capital value and return on Figure 4. Distribution of the Pmt depending on the annual increase in capital value and return on alternative investment. alternative investment. Figure 4 shows, as expected, that the Pmt is directly proportional to the profitability rate of an alternative investment (opportunity cost) while it decreases when the revaluation rate of the real estate capital increases (capital gain). It is interesting to note that when the annual increase in capital value exceeds 4%, the minimum threshold of profitability is lower, or roughly equal, to the return on alternative investment. In some cases, the minimum profitability threshold becomes null: this means that the profitability of the property constitutes an additional value since real estate investment without profitability is already financially advantageous. The cancellation of the profitability threshold is also achieved when its variation is calculated on the basis of the annual increase rate in capital value and of the holding period (Figure 5). The return on the alternative investment (r*) is set at 2% in this example. The minimum threshold of profitability becomes null already from the 10th year if the annual increase in capital value is at least 4%. Even in these cases, the profitability of the property constitutes an additional value since the real estate investment is already financially convenient without a minimum threshold. Buildings 2020, 10, 115 9 of 14

Figure4 shows, as expected, that the Pmt is directly proportional to the profitability rate of an alternative investment (opportunity cost) while it decreases when the revaluation rate of the real estate capital increases (capital gain). It is interesting to note that when the annual increase in capital value exceeds 4%, the minimum threshold of profitability is lower, or roughly equal, to the return on alternative investment. In some cases, the minimum profitability threshold becomes null: this means that the profitability of the property constitutes an additional value since real estate investment without profitability is already financially advantageous. The cancellation of the profitability threshold is also achieved when its variation is calculated on the basis of the annual increase rate in capital value and of the holding period (Figure5). The return on the alternative investment ( r*) is set at 2% in this example. The minimum threshold of profitability becomes null already from the 10th year if the annual increase in capital value is at least 4%. Even in these cases, the profitability of the property constitutes an additional Buildings 2020, 9, x FOR PEER REVIEW 10 of 15 value since the real estate investment is already financially convenient without a minimum threshold.

22.00% 20.00% 18.00% 16.00% 14.00% 12.00% 10.00% 8.00% 6.00% 4.00% 2.00% 0.00% 0% 1% 2% 3% 4% 5% Annual 5 7.92% 6.23% 4.47% 2.64% 0.74% 0.00% increase in Capital value

10 6.69% 5.23% 3.62% 1.88% 0.00% 0.00% 15 6.34% 4.97% 3.38% 1.57% 0.00% 0.00% Minimum

period 20 6.18% 4.86% 3.27% 1.36% 0.00% 0.00% Threshold of 25 6.08% 4.81% 3.21% 1.17% 0.00% 0.00% Profitability 30 6.02% 4.80% 3.16% 0.99% 0.00% 0.00%

Holding Figure 5. Distribution of the Pmt depending on the annual increase in capital value and the holding Figure 5. Distribution of the Pmt depending on the annual increase in capital value and the period. holding period.

5.2. Case5.2. 2 Case 2 The secondThe secondcase concerns case concerns the evaluation the evaluation of the affordability of the affordability of an investment of an investment made by a madenatural by a natural person who in turn acquires a residential real estate unit from another natural person. person who in turn acquires a residential real estate unit from another natural person. The property considered in the example is the same as previously presented. The property considered in the example is the same as previously presented. The case is structured in two parts: the first (case 2.1) is related to the lease of the property under The case is structured in two parts: the first (case 2.1) is related to the lease of the property under ordinary taxation, while the second (case 2.2) assumes the choice of a flat tax. ordinary taxation, while the second (case 2.2) assumes the choice of a flat tax. It is assumed that the investor, when they opt for ordinary taxation, has a total income subject to a tax of 38%,It is while assumed the single that the rate investor, of 21% whenwill apply they in opt the for case ordinary of the choice taxation, of a has flat a tax. total The income other subject to a tax itemstax will of 38%, be the while same the as singleseen in rate the previous of 21% will case. apply in the case of the choice of a flat tax. The other tax Initems the case will of be ordinary the same taxation as seen (Figure in the 6), previous the analysis case. shows a general increase in the minimum threshold ofIn profitability, the case of ordinaryas an effect taxation of the greater (Figure tax6), theburden. analysis With shows respect a generalto the previous increase case, in the it minimum seems thresholdadvantageous of profitability, to extend the as duration an effect of of the the investment. greater tax In burden.fact, it is Withobserved respect that towhen the previousthe case, holdingit seemsperiod advantageousexceeds 15 years—in to extend particular, the duration for returns of the of investment. alternative Ininvestment fact, it is of observed more than that when the 5%—theholding changes period in the exceedsminimum 15 threshold years—in of particular, profitability for are returns almost ofnegligible. alternative investment of more than 5%—the changes in the minimum threshold of profitability are almost negligible. Buildings 2020, 9, x FOR PEER REVIEW 11 of 15

Buildings 2020Buildings, 9, x FOR2020 PEER, 10, 115REVIEW 11 of 15 10 of 14 22.00% 20.00% 22.00% 18.00% 20.00% 16.00% 18.00% 14.00% 16.00% 12.00% 14.00% 10.00% 12.00% 8.00% 10.00% 6.00% 8.00% 4.00% 6.00% 2.00% 4.00% 0.00% 2.00% 2% 3% 4% 5% 6% 7% Return on 0.00%5 9.67% 11.59% 13.82% 15.85% 17.98% 20.17% Alternative 2% 3% 4% 5% 6% 7% InvestmentReturn on

10 8.18% 9.84% 11.82% 13.61% 15.48% 17.42% 5 9.67% 11.59% 13.82% 15.85% 17.98% 20.17% Alternative 15 7.75% 9.34% 11.25% 12.97% 14.78% 16.67% Investment 10 8.18% 9.84% 11.82% 13.61% 15.48% 17.42% Minimum

period 20 7.55% 9.11% 10.99% 12.68% 14.47% 16.32% 15 7.75% 9.34% 11.25% 12.97% 14.78% 16.67% Threshold of 25 7.43% 8.97% 10.84% 12.52% 14.29% 16.14% ProfitabilityMinimum

period 20 7.55% 9.11% 10.99% 12.68% 14.47% 16.32% Threshold of 30 7.36% 8.89% 10.75% 12.42% 14.18% 16.03% 25 7.43% 8.97% 10.84% 12.52% 14.29% 16.14% Profitability

Holding 30 7.36% 8.89% 10.75% 12.42% 14.18% 16.03% Figure 6. Distribution of the Pmt, depending on the holding period and return on alternative Holding investment (case 2.1). Figure 6. Distribution of the Pmt, depending on the holding period and return on alternative Figure 6. Distribution of the Pmt, depending on the holding period and return on alternative investment investment (case 2.1). In the case(case of 2.1).a flat tax (Figure 7), the data show a general lowering of the minimum threshold of profitability that stabilizes after the 10th to 12th year. In comparison with the previous cases, we In the case of a flat tax (Figure 7), the data show a general lowering of the minimum threshold can say, in general,In the case that of the a flat flat tax tax (Figure option7), certainly the data showmakes a generalthe investment lowering more of the advantageous. minimum threshold of of profitability that stabilizes after the 10th to 12th year. In comparison with the previous cases, we However,profitability higher returns that could stabilizes be achieved after the 10ththrough to 12th the year. foundation In comparison of a business with theentity previous (legal cases,person) we can say, can say, in general, that the flat tax option certainly makes the investment more advantageous. which wouldin general, enjoy thata lower the flattax taxlevel option and some certainly tax makesbenefits the (for investment example, more the possibility advantageous. of deducting However, higher However, higher returns could be achieved through the foundation of a business entity (legal person) operatingreturns costs). could be achieved through the foundation of a business entity (legal person) which would which wouldenjoy enjoy a lower a lower tax level tax level and some and some tax benefits tax benefits (for example, (for example, the possibility the possibility of deducting of deducting operating costs). operating costs). 22.00% 20.00% 22.00% 18.00% 20.00% 16.00% 18.00% 14.00% 16.00% 12.00% 14.00% 10.00% 12.00% 8.00% 10.00% 6.00% 8.00% 4.00% 6.00% 2.00% Return on 4.00% Alternative 0.00% 2.00% InvestmentReturn on 2% 3% 4% 5% 6% 7% Alternative 0.00%5 7.73% 9.26% 10.86% 12.54% 14.27% 16.05% Investment

2% 3% 4% 5% 6% 7% 10 6.53% 7.86% 9.27% 10.75% 12.28% 13.86% Minimum

period 5 7.73% 9.26% 10.86% 12.54% 14.27% 16.05% Threshold of 15 6.19% 7.46% 8.82% 10.24% 11.72% 13.25% 10 6.53% 7.86% 9.27% 10.75% 12.28% 13.86% ProfitabilityMinimum period 20 6.01% 7.28% 8.61% 10.01% 11.47% 12.98% Threshold of 15 6.19% 7.46% 8.82% 10.24% 11.72% 13.25% Profitability 25 5.94% 7.17% 8.49% 9.88% 11.33% 12.83% Holding 20 6.01% 7.28% 8.61% 10.01% 11.47% 12.98% 30 5.88% 7.10% 8.41% 9.80% 11.24% 12.74% 25 5.94% 7.17% 8.49% 9.88% 11.33% 12.83% Holding Figure 7. 30Distribution5.88% of the 7.10%Pmt, depending 8.41% on 9.80% the holding 11.24% period and12.74% return on alternative investment

(case 2.2). Buildings 2020, 9, x FOR PEER REVIEW 12 of 15

Figure 7. Distribution of the Pmt, depending on the holding period and return on alternative Buildingsinvestment2020, 10, 115 (case 2.2). 11 of 14

6. Comment on the Results and Sensitivity Analysis 6. Comment on the Results and Sensitivity Analysis The above figures show the results obtained for the cases described, depending on the The above figures show the results obtained for the cases described, depending on the characteristics of the purchaser and the seller and of property features, in order to provide indications characteristics of the purchaser and the seller and of property features, in order to provide indications of the impact of the taxation level on the demand for investment properties. of the impact of the taxation level on the demand for investment properties. A comparison between Figures 3, 6 and 7 is possible. The minimum profitability threshold is an A comparison between Figures3,6 and7 is possible. The minimum profitability threshold is indicator of the convenience of the real estate investment; the lower the threshold, the better the an indicator of the convenience of the real estate investment; the lower the threshold, the better the investment. Based on the current taxation regime in Italy, for the same holding period and rate of investment. Based on the current taxation regime in Italy, for the same holding period and rate of return on the alternative investment, the lowest Pmt values are recorded when the investment is return on the alternative investment, the lowest Pmt values are recorded when the investment is made made by a legal person. When the investment is made by a family (natural person), it is better to opt by a legal person. When the investment is made by a family (natural person), it is better to opt for the for the flat tax. flat tax. The graph om Figure 8 shows the results of the sensitivity analysis. In the inequality represented The graph om Figure8 shows the results of the sensitivity analysis. In the inequality represented by the model, the rates of income, possession and transfer taxes are modified in an alternative way by the model, the rates of income, possession and transfer taxes are modified in an alternative way for for each of the combinations included in the range of the cases examined. The weight of the individual each of the combinations included in the range of the cases examined. The weight of the individual tax tax items on the change in the minimum threshold of profitability, and consequently on the demand items on the change in the minimum threshold of profitability, and consequently on the demand for for real estate, is measured. The diagram in Figure 8 shows the results of the sensitivity analysis, real estate, is measured. The diagram in Figure8 shows the results of the sensitivity analysis, which which can be generalized to be less than the ratio between the market value and the tax base of the can be generalized to be less than the ratio between the market value and the tax base of the property. property. This ratio, which is very important in the composition of the total measure of the actual tax This ratio, which is very important in the composition of the total measure of the actual tax burden, burden, was excluded from the analysis because it was too variable. This ratio should be measured was excluded from the analysis because it was too variable. This ratio should be measured for each for each case and included in the calculation of the change in the minimum threshold of profitability. case and included in the calculation of the change in the minimum threshold of profitability. In each In each case, the diagram shows, for an equal percentage change of the individual tax items—for case, the diagram shows, for an equal percentage change of the individual tax items—for example, example, 10%—that the minimum real estate profitability threshold is strongly sensitive to the level 10%—that the minimum real estate profitability threshold is strongly sensitive to the level of income of income tax. In fact, the Pmt varies by 5.7% due to the change in income tax, or 2.3% when transfer tax. In fact, the Pmt varies by 5.7% due to the change in income tax, or 2.3% when transfer tax changes, tax changes, while its variation due to the change of possession tax is relatively negligible, at 0.9%. while its variation due to the change of possession tax is relatively negligible, at 0.9%.

100.00%

95.00%

90.00%

85.00%

80.00%

75.00% percentage variation of the Pmt

70.00% 50.00% 60.00% 70.00% 80.00% 90.00% 100.00% percentage variation of the tax

Possession tax Income tax Transfer tax

Figure 8. Change in the Pmt for changes in the individual tax items. Figure 8. Change in the Pmt for changes in the individual tax items. 7. Conclusions 7. ConclusionsThe real estate market has always been perceived in Europe—in particular, in Italy—as a good investmentThe real opportunity estate market for savings.has always The been diff erencesperceived that in characterize Europe—in propertiesparticular, oinff erItaly—as a wide a range good ofinvestment choices that opportunity allow amounts for savings. of any The size differences to be invested, that dependingcharacterize on properties the needs offer and a the wide risk range that characterizesof choices that the allow investor. amounts An investor of any who size wishesto be invested, to invest depending in real estate, on as the well needs as a company,and the risk makes that choicescharacterizes with the the aim investor. of obtaining An investor the best who return. wishes The to choices invest stem in real from estate, a series as well of information as a company, and expectationsmakes choices relating with the both aim to of the obtaining real estate the market best return. (sales The and choices rental values,stem from expenses a series and of information taxes) and to the long-term capital market. In fact, it is precisely the comparison between the interest rate of the capital invested in the financial market and the return on the real estate capital that provides the Buildings 2020, 10, 115 12 of 14 elements for the assessment of the economic advantage of the investment. The level of taxation on the possession, transfer and income of a property can significantly affect the affordability of real estate investment. If property taxes are considered by local governments as a reliable source of income to the local budget, they can become a tool for promoting the effective development of real estate. Property tax is a factor that could determine, through modest fluctuations, the revival of real estate demand, generating positive effects also for the construction sector [34–36]. The present research analyzed the effects of taxation on the investment demand of urban properties destined for residence in the Italian real estate market. For this purpose, a model of investor behavior expressed through financial inequality has been defined. With the modification of the parameters that define the inequality, the model has been adapted to the characters of the parties involved in the buying of real estate. The model has been applied to some cases constructed as extremes of the range of combinations of the different elements that characterize real estate investment. The analyses have shown that the highest returns are achievable by those who operate systematically in this sector by a company (legal person). If, on the other hand, the investor is a small saver (e.g., family), higher returns can be achieved through the flat tax option. The elaboration of the inequality was then repeated for each of these combinations, alternatively varying—according to the sensitivity analysis scheme—the rates of the tax types (possession, income and transfer) and recording the consequent variation of the minimum threshold of profitability. The results suggest that, within the current tax regime, tax policy interventions aimed at stimulating the real estate market and supporting investment demand should be directed towards reducing income taxation. However, the operation could be effectively implemented by increasing the flat-rate reduction applied to income for maintenance costs. The tax on the transfer of real estate has minor importance in terms of influencing investors’ choices; even less important in percentage terms is the effect of changes in the possession tax [37].

Author Contributions: Conceptualization and methodology: B.M. and P.M.; validation, formal analysis and data curation, all authors; writing—original draft preparation, B.M.; writing—review, editing, visualization, and supervision: B.M., P.M., P.R. and P.D.P. All authors have read and agreed to the published version of the manuscript. Funding: This research received no external funding. Conflicts of Interest: The authors declare no conflict of interest.

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