Land Reform and Taxation in Estonia
The introduction of a market-oriented economic policy in Estonia after independence in 1991 set the stage for a plethora of reforms to restore property rights and establish a price system for goods, labor, capital and land. Land and ownership reforms had two goals: the restoration to former owners of land "unlawfully expropriated" during the Soviet regime, and the treatment of land as a valuable and scarce economic resource. As one might expect, these tasks have not been easy to accomplish, and frequent revisions in the laws and methods governing restitution and valuations have been made.
Despite the far-reaching reforms taking place in Estonia today, the transformation of land ownership and the patterns of land use still reflect 55 years of history, including wars, occupation and annexation. In the first of three working papers I analyze the impact of these historical developments on land use, population structure and farm wealth in pre-Soviet Estonia. Prior to annexation to the Soviet Union in 1940, Estonia had a flourishing farm sector. Land was used mostly for agriculture, with the majority of the population residing in rural communes or municipalities.
Research also shows that a market for land was well established and reflected site specific characteristics. A distinguishing feature of this market was the coexistence of a sale-purchase price determined by the forces of supply and demand and other prices reflecting the "social" character of land use. For example, land acquisition for use by landless farmers (communal land) had a much lower price than the market price. This feature, although it may have served a social purpose, impacted the value of land for compensating former owners.
Another significant finding relates to the taxation of farms in pre-Soviet Estonia. Land and improvements on land (fixed assets) were subject to taxation, although the effective rate of taxation was quite small. This tax was a local tax with the receipts allocated to local government budgets.
The second paper provides a framework for the analysis of valuation formulae used by the Estonian Land and Tax Boards for the valuation of land for tax purposes. It includes a brief overview of the current land stock and land use, a discussion of land and ownership reforms, including valuation laws and methods, and a statistical analysis of the valuation model used by the Land Board.
Estonia's experience with privatizing its economy is without a doubt at the forefront of liberalization efforts undertaken by the new independent states. The transformation of collective rights to land into individual rights took place in Estonia by means of legislation. First, the new Constitution in 1992 restored to citizens the rights of ownership of productive assets, including land, and property and land reform laws established a system for the restitution of land to former owners. Second, principles for establishing land value for compensation and privatization were spelled out by the valuation law(s).
A land market, especially for urban land, is likely to develop quickly, offering the Land Board useful information for adjusting their valuation models. Once a sufficient number of observations on land transactions becomes available, a hedonic price model or present value model can be developed to provide information on the marginal valuation of each land attribute, as well as the significance of other land characteristics not included in the current model. Using the Estonia Base Map, the spatial aspect of land and other amenities (GIS variables) may be incorporated in the model to yield good estimates of the marginal product of land in both urban and rural municipalities.
Given that land value is used as a tax base, it is incumbent upon public sector officials to assess it fairly and accurately. A land tax yield hinges on the size and distribution of the base. If the tax model neglects this, revenue will suffer and land use will be suboptimal. Economies in transition can ill afford this road.
Land Taxation and Tax Reform
The third paper integrates the two aspects of land reform, valuation and taxation, beginning with an historical overview of land taxation in Estonia leading up to the current (1995) land tax. It addresses the assignment of tax sources between the state and local governments, and the significance of land taxation as a revenue source for local governments. The paper also offers a statistical model for estimating land tax revenues based on the Estonian Land Board valuation maps, the land cadastre and tax rates selected by local municipalities and then contrasts the estimates with actual data obtained from the Estonian National Tax Board.
After independence in 1991, the Estonian government introduced a new tax system that replaced the Soviet system, and the state budget was completely "decoupled" from the USSR's All-Union budget. On May 10, 1993, the Estonian parliament passed the Law on Land Tax as part of a reform agenda dealing with budgetary reform in general and land reform in particular. The path followed by Estonia is similar to that prescribed by the World Bank for many former Soviet republics. Guided by "western" principles of taxation, the Estonian tax system was designed to achieve efficiency in resource use as well as to meet national and local budgetary needs.
The land tax is one of several revenue sources collected from people and enterprises in Estonia. Although the land tax was established as a state tax with shared revenues between the state and local governments, it was quickly designated as a local tax with its proceeds dedicated for local budgets. Estonia also recognizes the efficiency of a special tax on land value, even though at the time of this study it accounted for only seven percent of local revenues.
Several conclusions emerge from this part of the study. First, a tax on land offers special efficiency benefits, although its implementation needs to be considered carefully. Second, for land to be a viable tax source serious attempts should be made to enhance the efficiency of financial and insurance markets, especially in rural areas. Third, land valuation should reflect two elements: the value of present attributes and the value of these attributes in the future, because a parcel of land valued at the best use of these attributes today may not capture their full value in the future.
Finally and perhaps most importantly for economies in transition, valuation and taxation of land should be viewed in the context of a "learning curve." With the progress of the economy in general and land markets in particular, land taxation should be strengthened through annual valuation to enhance the tax capacity of municipal governments and to encourage the optimal development of land use over time.
Attiat F. Ott is professor of economics and director of the Institute for Economic Studies at Clark University in Worcester, MA. This article is adapted from three new working papers resulting from research supported by the Lincoln Institute.