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Home-sales tax cut among fresh batch of economic measures as market falls again

Cabinet halves VAT on new home purchases in bid to move unsold stock; government also approves additional five billion euros in budget savings

he government on Friday reduced the sales tax on new home sales in an effort to revive the moribund housing market, at the same time approving additional budget savings as the local stock market suffered another testing session.

The value-added tax on new housing purchases was cut from eight percent to four percent. The government is also aiming to save five billion euros from cuts in spending on medicines and through higher revenues from amendments to the corporate tax system.

The latest budget measures come on top of an austerity drive already in place that includes public sector wage cuts and a freeze in pensions that aims to further reduce the shortfall in the government finances from 9.2 percent last year to six percent this year.

Meanwhile, the blue-chip Ibex 35 index shed a further 2.11 percent on Friday. That came on top on a drop of 4.70 percent in the benchmark index on Thursday.

"The government has approved a reduction in the value-added tax from eight to four percent for the purchase of a new home [...] of an exceptional and temporary nature until December 31," government spokesman José Blanco told a news conference after the regular weekly Cabinet meeting.

"We are aiming to find a solution to the stock of [unsold] houses and revitalize the construction sector in areas where there is demand or potential demand for housing," Blanco, who is also the public works minister, explained.

The slump in home-building has helped reduce construction's contribution to Spain's GDP has fallen to four percent from 10 percent. According to figures released Thursday by the European Union's statistics office construction output in Spain fell 43.7 percent from a year earlier, compared with a drop of only 8.1 percent in the EU.

There is an estimated pile of some 700,000 unsold new housing units built up during the excesses of a decade-long boom that burst over three years ago. Although houses prices have fallen continuously since then, experts believe they need to drop more to get the market moving again.

House sales have remained anemic despite short-lived jumps in anticipation of a rise in the VAT rate for new housing from 7 to 8 percent in July of last year and the removal of tax benefits for the purchase of the main residence at the end of 2010. Sales of new homes in the first half of this year fell by 10.1 percent.

Economy Minister Elena Salgado emphasized the cut in VAT would be a temporary move aimed at trying to jump-start the market. "The fall in the construction sector is not something we would want to see continuing, given that the contraction is greater than we would have forecast under normal conditions," she said.

Salgado estimated the cut in VAT could have a positive impact on government revenues. "In the case of a house that doesn't get sold VAT, revenues are zero. The figures for the past few months show that the sale of homes has fallen by more than would reasonably be expected."

The economy minister said the cut could also help free up funds for lending as a lot of the unsold homes remain on the books of banks as a result of foreclosures or lenders having accepted property as a form of payments for loans that have disbursed.

As had been flagged, the Cabinet also approved spending cuts of some 2.4 billion euros on medicines, in part through the greater use of generic drugs. The prices of drugs with patents that have been on the market for more than 10 years will also be cut by 15 percent.

The government also gave the go-ahead for amendments to the corporate tax system for big companies that will add a further 2.5 billion euros to the government's coffers. Rather than increasing tax rate, the measures include changes such as eliminating the deductions allowed for goodwill in acquisitions. The move will affect 3,900 firms with annual turnover of over 20 million euros.

The government wants Congress to return from its summer recess to ratify the measures approved on Friday.