Local Taxes Down

One problem we have in the United States is that so much of public revenue and spending is in the hands of state and local governments who are set up to run strongly pro-cyclical fiscal policies. When times get tough, revenues go down. Thus, instead of increasing spending to help tide people over during the downturn, balanced budget rules force spending to go down which tends to deepen the downcycle. With the downturn in the housing market, we're seeing a somewhat different spin on this as the mortgage collapse leads to declining property tax revenues. It's not clear yet to what extent these housing issues are going to spill over into the jobs and income picture -- so far a well-timed uptick in exports seems to be keeping people employed -- but the tax side is one of several mechanisms by which it threatens to do so, undermining local budgets even in the absence of a recession.

Photo by Flickr user jffmrk used under a Creative Commons license

Comments

I don't know about this. I think it depends on the timing of the reassessments in different communities. My city did its reassessments in 2006, using cyclical peak real estate values. As a result of that -- and despite a few new condo buildings and commercial buildings constructed since the last assessment -- my property taxes went up about 30%.

States like NJ have enjoyed the luxury of being able to keep raising taxes though. Even though people born here leave every year for lower-tax states, the population stays level due to an influx of legal immigrants (who, presumably, will also leave after a few years of paying through the nose so every cop and school principal can clear six figures on the public dime).

Posted by Fred | December 31, 2007 5:33 PM

Declining property values do not translate into lower revenues even if a recent revaluation has been done. The towns just adjust the mill rate to raise the money they need to operate. The absolute value of property is irrelevant.

Posted by bob h | December 31, 2007 5:35 PM

Um, Matt mentioned declining property tax revenues, not values.

From the LA times piece: Instead of the $2.6 million that Nash expected in sales taxes on new construction, Greeley will collect $1.2 million. As a result, Greeley has left vacant 49 city positions, most of them building inspectors whose services are, abruptly, no longer in demand.

Did I miss something?

Posted by Monty | December 31, 2007 5:44 PM

...but the tax side is one of several mechanisms by which it threatens to do so, undermining local budgets even in the absence of a recession...

Yup. One of my hobbyhorses is finance of local government. It would make more sense to collect all taxes at the state level -- preferably junking the volatile property tax altogether in favor of, perhaps, higher income or consumption taxes -- and then doling out revenues back to municipalities on a constitutionally guaranteed per capita basis.

This wouldn't end cyclical revenue volatility completely, mind you, but, combined with some relaxation in budget balancing rules (i.e., budgets must be balanced over five year periods rather than every year), it would go a long way toward making economic downturns more bearable.

Posted by Jasper | December 31, 2007 5:48 PM

Generally speaking a well designed property tax system will not change revenue along with valuation swings, up or down. The idea is to set the budget first then let the tax rate be the product of the budget divided by the taxable property. Unfortunately, many states don't have well designed tax systems and either give too much discretion to politicians in setting the tax rate, or have artificial assessment caps like California that leaves the counties dependent on new sales to generate revenue.

I have to disagree with Jasper both on the idea of collecting all revenue at the state level and increasing dependence on sales or consumption taxes. First, in Mass we've found time and again that the state legislature reaches first to cut local aid in hard times and not their own programs. Second, local control has real value to most citizens in connecting to government and local control does not exist without local revenue. Third, sales taxes and income taxes are both more cyclical than property taxes.

Posted by AJ | December 31, 2007 6:37 PM

Jasper, your plan would mean a total reworking of the current policy which has local taxes pay for local schools. That would have a colossal effect, analogous to getting rid of the federal income tax and replacing it with a flat tax. In many areas the property value is closely linked to the perceived quality of the schools. It's how Americans continue to geographically stratify themselves into different incomes and wealth levels.

My good friend just moved into a new house that is smaller than his previous one, has less land and cost more. It is just as far away from the nearest big city (NYC). His move was all about the school system. Your plan fails to take into account that middle class people don'e want to pay to educate poor people, and upper class people don't want to pay to educate everyone else. This is your America.

Posted by blah2 | December 31, 2007 6:39 PM

"Did I miss something?"

Apparently, yes. The excerpt you quoted from the L.A. Times referred to sales tax revenues. Matt mentioned declining property tax revenues. The point that I and Bob H. were making was that property taxes are based on the most recent tax assessment, not the current market value. If your house has a tax-assessed value of $300k and it is now worth $250k, you will still be paying property taxes based on its tax assessed value of $300k.

Posted by Fred | December 31, 2007 6:42 PM

IN a well administered (and honestly administered) government entity that assesses property taxes, there should be impact from changing property values, in either direction, in overall revenue stream. When values rise, and a reassessment is done, then the tax rate should be lowered, so that the assessments are revenue neutral. The best practice is to maintain values at as close to market value as possible, reassessing frequently. Frequent reassessments can be done using market models, like comparable sales or regression analysis to apply shifts in market value. Annual reassessments are certainly possible.

The amount of tax revenue needed--the budgets--are entirely distinct from property values.

In practice, of course, what many local governments do following a reassessment is reduce the rate by less than the increase in values. That is, if before reassessment they have total revenue of 100 million dollars on a 10 billion dollar tax base (1 percent property tax rate) then if the tax base doubles to 20 billion, the rate should be cut to 0.50%. In practice, it is cut to 0.55% or 0.6%, increasing tax bills. That increase is falsely attributed, by taxpayers and, often by elected officials, to the increase in values in the community. This is not the case. The budgets are independent of the tax base.

of course, if you have used this excuse following a reval, you're going to have a hard time justifying raising the tax rate as property values fall.

Posted by jayackroyd | December 31, 2007 6:43 PM

Millages have to be voted on virtually everywhere. Good luck passing increases.

Never in modern history has residential real estate fallen nationally as far as it did this year and next year will probably be worse. In other words never have local governments been under the pressure they will now face. Their best defense is to be slow in their reassessments and optimistic on them when they are made.

Property taxes have actually been an incredibly stable form of capturing revenue since it never goes down. The bubble has made local governments feel rich in the bubble hot spots. They will suffer the most in the downturn.

Posted by rapier | December 31, 2007 6:47 PM

It's how Americans continue to geographically stratify themselves into different incomes and wealth levels.

And that's a good thing?

Your plan fails to take into account that middle class people don'e want to pay to educate poor people, and upper class people don't want to pay to educate everyone else.

Is it my fault if I'm ahead of my time? Seriously, though, I didn't say my idea was politically very feasible. I wasn't even thinking so much about schools. I'm just thinking in general terms about how municipalities deal with the business cycle. The narrow tax base of even fairly large cities (narrow compared to that of an entire state, that is) makes for much less predictability when it comes to revenues. Poorer cities really get hammered by this dynamic. Middle and upper class people ought to think about this issue some time, because an ill central city creates spillover effects for the metro region as a whole, and central cities become ill as a vicious circle sets in with respect to declining property values and lack of funds for essential services (which in turn makes the city itself less habitable, which in turn effects property values, and so on). I mean, suburbanites living outside of Detroit can't be helped by the fact that their central city is considered less desirable than Seattle or Boston.

Posted by Jasper | December 31, 2007 6:49 PM

All I want to say is, I pay about twice as much to my condo association as I do in local property taxes. Which is strange, because my association dues are relatively low, whereas tax rates are relatively high, property taxes being the dominant source of local revenue in my city.

Posted by Grumpy | December 31, 2007 7:49 PM

Jasper's idea isn't politically feasible, because the current system of local government and revenue creates distinct groups of haves and have nots, and right now its the haves that control things. Statehouse politics in the U.S. are often even more sclerotic than federal politics, and federalism prevents the federal government stepping in and making the necessary changes.

However, just because its almost impossible for political reasons to change the system of local government doesn't mean that we shouldn't be rethinking it. Its a very inefficient system that is draining the national economy, and contributing to class stratification. If it can't be changed under the current political system, that fact is an indictment of that system.

My ideal would be two tiers of local government, one tier covering entire metropolitan areas or equivalently sized rural regions, and the other tier consisting of districts covering large towns or groups of urban neighborhoods. The first tier would collect revenue on a metropolitan area wide basis, then distribute it to the more local tier on a per capital basis, taking a big enough cut to run whatever services (mainly transportation) its better to run on a metropolitan or regional basis. The metropolitan or regional council would be made up of representatives appointed, and recallable, by the town councils, which would ensure that the latter got their fair share of the revenue.

This would prevent businesses from gaming local variations in tax rates, and ensure that poorer areas got revenue appropriate to their population, which again makes this a current non-starter politically. Add to that of course the factor that several metropolitan areas, particularly the NYC area, are divided by state boundaries

Posted by Ed | December 31, 2007 7:57 PM

Sales tax revenues are the most economically sensitive. Declining car sales hit revenues particularly hard, as cars account for a big percentage of sales tax revenues in many states.

Posted by Peter | December 31, 2007 9:42 PM

rapier-

Never in modern history has residential real estate fallen nationally as far as it did this year and next year will probably be worse.

Yet, my "property tax" on the 'condo' I bought in 2005 (at the "top") increased almost 5% this year over last- and I would bet "even odds" that it will not drop next year equivalent with the continued decline in my 'property value' (down 10-15% currently...)

Posted by fletch | December 31, 2007 9:49 PM

"Atlantic Voices" Bloggers (at least you and Andrew) have posted 2-3x the entries we're used to on Dec 31st, and seem to be raising incidental issues or slicing the salami on big ones - what gives? Quota?

Posted by Chris | December 31, 2007 11:59 PM

I recently got my estimated property tax statement for 2008. They estimate the value of my house went up 10%, on top of a 10% rise the prior year. Meanwhile there are nearby houses which have been on the market for > 1 year. So clearly the official estimated valuations of the tax base are trailing the current market.

But my property taxes went down. Not just percentage-wise, but in absolute terms.

I suspect the past housing boom has greatly increased the "book" value of the local real estate. There are more properties (spec homes sitting unsold) and the estimated value of existing homes went up too. So on paper the property base grew faster than spending, meaning lower taxes for each property.

Problem: What if many of those properties are unable to pay their taxes? Foreclosure, home building companies going bust, etc...? What will happen to those who are left standing?

Second, I wonder if this was a small feedback part of the housing boom. Higher values results in lower property taxes per unit which results in ability to spend more per unit which results in higher values which...

Posted by VOR | January 1, 2008 9:48 AM

So naturally, Matthew, you would advise local and state governments when times are good *not* to increase spending on whatever educational or health initiatives are the liberal flavor of the month. Rather, they could build up a surplus, which could be used for when times are bad.

Posted by Consistency | January 1, 2008 3:02 PM

"Yet, my "property tax" on the 'condo' I bought in 2005 (at the "top") increased almost 5% this year over last- and I would bet "even odds" that it will not drop next year equivalent with the continued decline in my 'property value' (down 10-15% currently...) - Posted by fletch

There are counties that cap assessment increases. My county, for instance, has a cap in place. We had a boom in value that outpaced the cap year after year. Even with the current drop in value, assessments will increase, and still not catch up to market prices.

Posted by Njorl | January 2, 2008 10:49 AM