Presentation Transcript

1. Public Finance SeminarSpring 2013, Professor Yinger

   The Property Tax
2. PPA 810: The Property Tax Lecture Outline The U.S. Federal System Design of the Local Property Tax Determinants of Assessment Quality
3. PPA 810: The Property Tax The Federal System in the U.S. Broad outlines defined by constitutions Details determined by politics Units Defined by U.S. Constitution The Federal Government State Governments Units Defined by State Constitutions The State Government Counties and (usually) Townships Municipalities (Cities and Villages) School Districts Special Districts
4. PPA 810: The Property Tax CountyTownship Municipality School District
5. PPA 810: The Property Tax
6. PPA 810: The Property Tax
7. PPA 810: The Property Tax
8. PPA 810: The Property Tax Variation Across States, 2012
9. PPA 810: The Property Tax The Design of the Local Property Tax A property tax is levied on all properties in a jurisdiction, with the exception of properties owned by non-profit organizations, such as churches and universities. The tax payment, T, on the ith parcel equals the jurisdiction’s nominal tax rate, m, multiplied by the parcel’s assessed value, A; that is
10. PPA 810: The Property Tax The Nominal Tax Rate The nominal tax rate is often called a mill rate(hence the symbol m) because it is often expressed in terms of mills. In the dictionary, a “mill” is defined as one tenth of a cent or one thousandth of a dollar, so a “mill rate” is the dollars of tax per $1,000 of assessed value. A tax rate of 20 mills, for example, indicates that a house assessed for $100,000 must pay an annual tax of (20)($100) = $2,000. A 20 mill tax rate corresponds to a 2 percent tax rate, so one can also say that a mill equals one tenth of a percent.
11. PPA 810: The Property Tax The Nominal Tax Rate, 2 The mill rate is usually set by local elected officials, such as the school board or the mayor and the city council. In some cases, particularly in school districts, it must be ratified directly by the voters. As discussed below, many states place some limits on property tax rates and may entirely eliminate local control.
12. PPA 810: The Property Tax Assessment The base of a property tax is property wealth, or at least on property wealth in the form of real estate. The market value of property (= V = the amount the property could command in a competitive market) is an objective measure of this wealth. The administrative problem is that V is not observed unless the property is sold in a competitive market, which is not true for most properties in most years. This problem is solved through a tax assessor, who must estimate the market value of every property in every year. This estimate is called assessed value, A. In a few states, the property tax also applies to some types of personal property or to business inventories and equipment.
13. PPA 810: The Property Tax Assessing Methods An assessor has three principal methods for estimating the market value of a property. The market data method, has three steps: (1) collect information on houses that sold along with information on property and neighborhood characteristics for all houses; (2) run a regression analysis of sales price on property and neighborhood characteristics for houses that sold; and (3) predict the sales prices of houses that did not sell on the basis of their property and neighborhood characteristics and the estimated impact of those characteristics on sales price. This approach works best when many sales can be observed, as for residential property in a large suburb.
14. PPA 810: The Property Tax Assessing Methods, 2 The income method estimates the market value of a property based on the income it generates. The market value of any asset, which is what a willing buyer would pay for it, is the present value of the sum of net benefits from owing it. Information on the flow of net benefits and on the discount rate can therefore be used to calculate a market value. This tool is particularly useful for rental property, such as an apartment building, because this type of property rarely sells but generates a clear stream of rental benefits. We will explore algebra behind this type of calculation when we study property tax capitalization later in the class.
15. PPA 810: The Property Tax Assessing Methods, 3 The cost method estimates the market value of property based on the average cost per square foot of building a comparable building. With this tool, the cost of land must be added separately, and adjustments must be made for depreciation and obsolescence. The conceptual foundation for this approach comes from a basic result in microeconomics, namely, that in a competitive market, the long-run equilibrium price of a product is the minimum point on its long-run average cost curve. This approach is best suited for properties, such as factories, that do not sell very often and that do not have easily predicted flows of net benefits. In some cases, however, this approach produces surprisingly accurate results even for residential property.
16. PPA 810: The Property Tax Assessing Quality, Introduction Although assessors are elected officials in some places, the level of professionalism in assessing has increased steadily over time. As a result, the quality of assessing, in terms of its accuracy in predicting market values, has also increased; we will come back to this topic later. This trend is the result of pressure from voters for more fair and accurate assessments, of policies in some states that encourage or require assessment enhancements, and of improved assessing methods.
17. PPA 810: The Property Tax The Effective Property Tax Rate Despite this quality improvement, however, assessment practices still vary from on jurisdiction to the next. Moreover, they sometimes even vary within a jurisdiction. As a result, the mill rate in one jurisdiction is not necessarily comparable to the mill rate in another jurisdiction, and the fact that two houses in the same jurisdiction pay the same mill rate does not imply that they face the same tax burden. To facilitate comparisons across properties, both within and across jurisdictions, we need another concept, namely the effective property tax rate.
18. PPA 810: The Property Tax The Effective Property Tax Rate, 2 The effective property tax rate, t, is defined to be the tax payment, T, as a share of the market value of a property, V. For the ith parcel, Remember that assessed value, A, is only an estimate of V, so Amay not equal V, and
19. PPA 810: The Property Tax The Effective Property Tax Rate, 3 Now consider two jurisdictions with the same mill rate, one which sets assessments at 50% of market value and the other which sets assessments at 100% of market value. Clearly the real burden of the property tax, t, is only half as large in the first jurisdiction, because, in effect, only half of the market value of each property is being taxed. Similarly, even within a jurisdiction where all the properties face the same mill rate, unequal assessment practices can lead to higher effective tax rates on some properties than on others. This equation provides a general way to correct for assessment practices when comparing effective tax rates both across 2 jurisdictions and between any 2 properties in the same jurisdiction.
20. PPA 810: The Property Tax Variation in Property Tax Design In virtually every state, the basic design of a property tax is altered in one way or another. One state, Minnesota, uses a progressive rate structure; many states use Classification Tax relief measures Tax limitations Property tax alternatives for non-profit property
21. PPA 810: The Property Tax Classification Some states allow local jurisdictions to impose different tax rates on different types of property, a policy known as property tax classification. In most cases, classification leads to a higher tax rate on business than on residential property; this possibility links to the discussion of local economic development in later classes. Classification can be implemented either by allowing different A/V ratios or, more commonly, different ms for different types of property. These 2methods are equivalent: a 20% higher effective tax rate (t) for business, for example, can be implemented either by multiplying mby 1.2 or by multiplying (A/V) by 1.2. Poor assessment practices often lead to a higher t on business than on residential property, even without classification. In the case of poor assessments, however, businesses can appeal their relatively high assessments and often receive large settlements from the taxing jurisdiction.
22. PPA 810: The Property Tax Property Tax Relief Provisions Most states provide property tax relief to aid certain taxpayers, such as veterans or the elderly, or to make the tax more progressive. Key relief measures, to be explored in a later class, are: Circuit breakers, which give a rebate when property taxes exceed a certain percentage in a taxpayer’s income. Homestead exemptions, which exempt the first $X of assessed value from the tax.
23. PPA 810: The Property Tax Property Tax Limitations Many states also have some type of limitation on property tax rates, property tax revenue, the change in property tax revenue, or the change in assessments. We will explore some of these provisions in later classes. One of our faculty members, Sharon Kioko, is an expert on this topic; check out her vita if you want to learn more!
24. PPA 810: The Property Tax Treatment of Non-Profit Property All states exempt property owned by non-profit organizations from the property tax, so long as this property is used for non-profit purposes. Moreover, some cities have a great deal of tax-exempt property, in the form of university buildings, places of worship, or non-profit organizations. The following figure gives some examples:
25. PPA 810: The Property Tax See Kenyon and Langley at: http://tpcprod.urban.org/UploadedPDF/412460-Property-Tax-Exemption-Nonprofits.pdf
26. PPA 810: The Property Tax Treatment of Non-Profit Property, 2 The presence of tax-exempt property is a challenge for cities because many non-profit organizations use public services, such as streets, trash collection, and police and fire protection. As a result, many cities make other arrangements, such as: Special property tax assessments for certain services (e.g. as sewer hook-ups), Fees for services, Negotiated payments in lieu of taxes (PILOTs), or Negotiated services in lieu of taxes. For more on this topic, see the report by Kenyon and Langley (2011) at http://tpcprod.urban.org/UploadedPDF/412460-Property-Tax-Exemption-Nonprofits.pdf.
27. PPA 810: The Property Tax Evaluating Assessments Assessments can vary both within a jurisdiction and across jurisdictions. So we now investigate Variation in the average A/V ratio across jurisdictions. Variation in the A/V ratio across properties within a single jurisdiction.
28. PPA 810: The Property Tax Variation in Average A/VRatio In principle, there is no difference between a property tax with a uniform A/V ratio of 100% and one with a uniform A/V ratio of 50%, or indeed any other percentage. As shown earlier, t is unaffected by lowering the A/V ratio and raising m by the same percentage. It is perhaps not surprising, therefore, that many states do not require 100% assessment. Eom(2004) reports that about 44% of the states call for 100% assessment, whereas other states call for A/V ratios ranging from 4.5% (North Dakota) to 70% (Connecticut). As we will see, however, deviations from 100% assessment sometimes do have behavioral consequences.
29. PPA 810: The Property Tax Variation in Average A/VRatio, 2 Eom(2004) also reports that actual average A/V ratios often fall below the target set by the state. Perhaps the most important determinant of the deviation between the target and actual ratio is the state’s requirement for the frequency of re-assessment, also called revaluation, which is a comprehensive updating of the assessed values in a jurisdiction. 13 states require annual re-assessment, 26 states require re-assessment at a longer interval, and 9 states leave re-assessment up to the local taxing jurisdiction. (The other 2 states did not respond to this survey.) When reassessment does not take place for many years, the numerator of the A/V ratio stays fixed while the denominator rises. As a result, states that allow a long time between re-assessments tend to have average A/V ratios well below the target set by the state.
30. PPA 810: The Property Tax Variation in Average A/VRatio, 3 New York leaves the timing of re-assessment up to local governments. In New York in 1999, only 50% of assessing jurisdictions had revalued within the previous five years and 18% of these jurisdictions had not revalued in the previous 20 years (Eom, 2004). Nevertheless, even in New York, the frequency of re-assessments has been going up over time.
31. PPA 810: The Property Tax
32. PPA 810: The Property Tax
33. PPA 810: The Property Tax Variation in Average A/VRatio, 4 The resulting average A/V ratios in New York State are:
34. PPA 810: The Property Tax Assessment Quality Assessing practices affect variation in the A/V ratio within a jurisdiction as well as a jurisdiction’s average A/V ratio. This variation can cause horizontal inequity (unequal treatment of taxpayers with the same house value) and vertical inequity (higher tax rates for taxpayers with lower house values). Vertical inequity can arise, for example, when A is held fixed over time due to a lack of reassessment, but V increases more rapidly in rich neighborhoods than in poor neighborhoods. As a result, the assessing profession (and many states) set standards for assessment accuracy.
35. PPA 810: The Property Tax Assessment Quality, 2 One troubling twist to this issue arises in states with assessment caps, which set a maximum percentage increase in a property owner’s assessed value. Proposition 13 in California limited assessment increases to 2% per year, but re-set assessed values to market values upon resale. With a 2% assessment limit, people who have remained in the same house for 20 years have seen their assessments rise by [(1.02)20 - 1] = 48.6%, whereas people who move into a house after 20 years of 20 percent annual housing appreciation (this is California!) face an assessment (equal to market price) that has increased [(1.20)20 – 1] = 3,733.8%. If these two houses had the same A and V to begin with, then the owner of the second house faces a property tax payment (and an effective property tax rate) that is 3834.8/1.486 = 25.8 times as high as that of the first house! The U.S. Supreme Court has ruled that this type of tax variation based on length of residency is legal. For more, see O’Sullivan, Sexton, Sheffrin (1995).
36. PPA 810: The Property Tax Assessment Quality, 3 The quality of assessments within a jurisdiction is determined by the extent to which the A/V ratio is uniform. Assessments can be fair if all houses are assessed at 10% of their market value or at 100% of their market value, but they are not fair if some houses are assessed at 10% while others are assessed at 100%. The most widely used measure of assessment uniformity is the coefficient of dispersion or COD, which is defined by where Ai/Vi is the A/V ratio for the ith parcel, M is the median A/V ratio, and N is the number of parcels.
37. PPA 810: The Property Tax Assessment Quality, 4 The increase in the frequency of reassessment in New York has led to an increase in assessment uniformity, usually defined as a COD below 15.0 This is demonstrated in the following figures. The most recent information can be found at: http://www.tax.ny.gov/research/property/reports/cod/2010mvs/index.htm
38. PPA 810: The Property Tax Source: Eom (2004)
39. PPA 810: The Property Tax
40. PPA 810: The Property Tax The Determinants of Assessment Quality Now we get to research. Eom(2004) provides a detailed analysis of the determinants of assessment uniformity, as measured by the COD. Using data for assessment districts in New York State in 1992, he regresses the residential COD on the number of years since the last reassessment in the district, whether any reassessment took place in the district during the sample period, the average A/V ratio in the district, the (log of) the number of residential properties, the (log of) the assessor’s salary, whether the assessor is elected (instead of appointed), and an extensive list of other explanatory variables, which are not considered here
41. PPA 810: The Property Tax The Determinants of Assessment Quality, 2 Eom treats the following variables as endogenous: the number of years since the last reassessment in the district, whether any reassessment took place in the district during the sample period, the average A/V ratio in the district, and the (log of) the assessor’s salary. His instruments are county average reassessment lag, share of no-revaluation assessing units in the county, county average equalization rate, county population, log of county average manufacturing wage, and log of county average wage in all occupations.
42. PPA 810: The Property Tax A Methodological Aside: Selecting Instruments We will often encounter endogenous variables (and instrumental variable fixes) in this class. We can evaluate instruments with four tests, which will be developed more fully in later classes. Test 1: The instrument(s) must make conceptual sense. Test 2. The instrument(s) must help explain the endogenous variable. Test 3: The instrument(s) must not have a direct impact on the dependent variable. Test 4: The instrument(s) must not be “weak.”
43. PPA 810: The Property Tax Eom’s Instruments Eom’s instruments seem to pass the first 2 tests. They make conceptual sense. They are significant in the first-stage regression. They do not appear to directly impact assessment quality, so they seem to pass the 3rd test. This claim cannot be formally tested. Various tests can determine if an instrument (or instruments) is exogenous under the assumption that another instrument is endogenous, but there is no general test. They may or may not pass the 4th test. The weak instrument issue is fairly new. Scholars used to use as many instruments as possible, but this can cause serious bias. Weak instrument tests are now available.
44. PPA 810: The Property Tax Determinants of Assessment Quality, 3 Eom’s principal results are: 1. Assessment uniformity declines with the time since the last revaluation. 2. Assessment uniformity is lower in districts that did not revalue in the sample period than in districts that did. More frequent reassessment leads to more assessment uniformity! 3. Assessment uniformity increases with the average A/V ratio. Lower A/V ratios facilitate deviations from uniform assessments, perhaps because the link between A and V is much easier to observe when the A/V ratio is close to 100%.
45. PPA 810: The Property Tax Determinants of Assessment Quality, 4 Eom’s principal results, continued: 4. The technology of assessing is characterized by large economies of scale. The greater the number of parcels, the greater the assessment uniformity, all else equal. States should consolidate assessing districts! These economies of scale have also been found by other studies, including Sjoquist and Walker (1999). 5. Assessment uniformity increases with the salary of the assessor. Because salary is treated as an endogenous variable, this result suggests that districts with exogenous traits that make them willing to pay more to attract a higher-skilled assessor are rewarded with more uniform assessments.
46. PPA 810: The Property Tax ***(*,**) a 1 2 3 4
47. PPA 810: The Property Tax ***(*,**) a 5
48. PPA 810: The Property Tax A Study of Assessment Limits Skidmore, Ballard, and Hodge (SBH) on assessment growth limits in Michigan. NTJ, September 2010 This article looks at re-distribution caused by assessment limits.
49. PPA 810: The Property Tax Property Tax “Reform” in Michigan In 1994, voters in Michigan passed Proposition A, which, among other things, limited the growth in residential assessments to the lesser of inflation or 5%. Assessments revert to market value upon sale. Michigan already had a limit on property tax revenue growth, but this limit affected all taxpayers in a given jurisdiction equally.
50. PPA 810: The Property Tax The Data SBH conducted a survey in 2008 of about 1,000 adults to see if Proposition A had led to a significant link between effective tax rates and length of residence or income. Some respondents were not homeowners, did not respond, or gave incomplete information. They ended up with 443 observations—and a selection bias problem.
51. PPA 810: The Property Tax Selection Bias Selection bias is a common statistical problem that arises when the estimation sample is not random. In this case, the people who do not respond might be the ones who are the newest homebuyers, so they tend to have the highest effective tax rates. Don’t believe results from a study in which the sample selection might be correlated with the dependent variable!
52. PPA 810: The Property Tax Selection Corrections There are many approaches to correcting for selection bias. SBH use the most basic approach, due to Heckman. This approach involves a first-stage equation to model whether an observation is in the sample. Under the assumption of normal errors, Heckman shows that including a transformation of the results from this equation in the equation of interest corrects the selection bias. Keep your eye out for this problem!
53. PPA 810: The Property Tax Empirical Strategy SBH estimate 2 models. The first is a regression of effective tax rate on the length of homeownership since Proposition A was passed, say L. The second replaces the Proposition A variable with measures of income and age. In effect, the second model assumes L = f(income, age) and substitutes this function into the first model. Another strategy would be to estimate this function directly.
54. PPA 810: The Property Tax
55. PPA 810: The Property Tax
56. PPA 810: The Property Tax SBH Conclusions Homeowners who have lived in their home since 1994 (or earlier) face an effective property tax rate that is about 19% less than the one faced by new homebuyers. Within the lower-middle and high income groups, older homeowners enjoy a tax benefit over younger homeowners. A 63-year-old homeowner receives a tax saving of about 11% relative to a 23-year-old homeowner. All else equal, middle- to high-income homeowners have lower effective property tax rates than low-income homeowners.