Public Finance Seminar Spring 2015, Professor Yinger The
Property Tax
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PPA 810: The Property Tax Lecture Outline The U.S. Federal
System Design of the Local Property Tax Determinants of Assessment
Quality
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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
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PPA 810: The Property Tax County Township Municipality School
District
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PPA 810: The Property Tax No townships in the South and West.
No counties in Connecticut, Rhode Island, and the District of
Columbia. DC, Maryland, North Carolina, Alaska, and Hawaii have no
independent school districts. Hawaii has one state district. 16
states have dependent and independent school districts. Virginia
has 1 independent and 135 dependent school systems. Louisiana has
69 independent school districts and one dependent school system.
Source: Census of Governments, 2012
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PPA 810: The Property Tax The U.S. has lots of special
districts: 38,266 in 2012. 8 states have over 1,000 special
districts (Illinois, California, Colorado, Missouri, Kansas,
Washington, Nebraska, and Oregon). Special districts vary greatly
by state; the most common are: Fire Protection Districts (5,865)
Water Supply Districts (3,522) Housing and Community Development
Districts (3,438) Drainage and Flood Control Districts (3,248).
Source: Census of Governments, 2012
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PPA 810: The Property Tax
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Variation Across States, 2012
StateTotalCountyTownMuniSchoolSpecial Alaska177140148*015
California4,350570482*1,0252,786 Hawaii213011(Dp)17
Illinois6,9681021,4312,7299053,232 Mass.852529853*84412
Nebraska2,581934195302721,267 New York3,45457929617*6791,172
Penn.4,905661,5461,0155141,764 Texas4,85625401,214*1,0792,309
Virginia497950229*1172
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PPA 810: The Property Tax State and Local Revenue States
receive about 1/3 of their revenue from the federal government,
mainly for TANF and Medicaid. Local governments receive about 1/3
of their revenue from their state, mainly for education. Local
own-source revenue comes mainly from the property tax.
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PPA 810: The Property Tax
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State and Local Expenditure State and local governments divide
responsibility for education, highways, welfare. About 30% of their
spending is for education, often split about 50-50. Highways are a
surprisingly low 5% of spending.
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PPA 810: The Property Tax
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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 i th parcel equals the
jurisdictions nominal tax rate, m, multiplied by the parcels
assessed value, A ; that is
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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.
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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.
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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.
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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.
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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.
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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.
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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.
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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.
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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 i th parcel, Remember that assessed value, A, is only an
estimate of V, so A may not equal V, and
Slide 24
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.
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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
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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 m s for different types of
property. These 2 methods are equivalent: a 20% higher effective
tax rate ( t ) for business, for example, can be implemented either
by multiplying m by 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.
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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 taxpayers income. Homestead exemptions, which
exempt the first $X of assessed value from the tax.
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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!
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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:
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PPA 810: The Property Tax See Kenyon and Langley at:
http://tpcprod.urban.org/UploadedPDF/412460-Property-Tax-Exemption-Nonprofits.pdfhttp://tpcprod.urban.org/UploadedPDF/412460-Property-Tax-Exemption-Nonprofits.pdf
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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.http://tpcprod.urban.org/UploadedPDF/412460-Property-Tax-
Exemption-Nonprofits.pdf
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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.
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PPA 810: The Property Tax Variation in Average A/V Ratio 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 (2008) 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.
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PPA 810: The Property Tax Variation in Average A/V Ratio, 2 Eom
(2008) 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 states
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.
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PPA 810: The Property Tax Variation in Average A/V Ratio, 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, 2008). Nevertheless,
even in New York, the frequency of re-assessments has been going up
over time.
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PPA 810: The Property Tax
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Variation in Average A/V Ratio, 4 The resulting average A/V
ratios in New York State are:
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PPA 810: The Property Tax Assessment Quality Assessing
practices affect variation in the A/V ratio within a jurisdiction
as well as a jurisdictions 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.
Slide 40
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 owners 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
OSullivan, Sexton, Sheffrin (1995).
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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 A i /V i is the A/V
ratio for the i th parcel, M is the median A/V ratio, and N is the
number of parcels.
Slide 42
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/c
od/2010mvs/index.htm
http://www.tax.ny.gov/research/property/reports/c
od/2010mvs/index.htm
Slide 43
PPA 810: The Property Tax Source: Eom (2008)
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PPA 810: The Property Tax
Slide 45
The Determinants of Assessment Quality Now we get to research.
Eom (2008) 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 assessors salary, whether the assessor is elected
(instead of appointed), and an extensive list of other explanatory
variables, which are not considered here
Slide 46
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 assessors 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.
Slide 47
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.
Slide 48
PPA 810: The Property Tax Eoms Instruments Eoms 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 3
rd 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 4 th 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.
Slide 49
PPA 810: The Property Tax Determinants of Assessment Quality, 3
Eoms 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%.
Slide 50
PPA 810: The Property Tax Determinants of Assessment Quality, 4
Eoms 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.
Slide 51
PPA 810: The Property Tax Table 4. Determinants of Residential
Assessment Uniformity (New York Assessing Units, 1992) Dependent
variable: Residential assessment uniformity ( ln (COD))
VariablesCoefficients (t-statistics) -coefficients a Treated as
endogenous variables. Reassessment lag a a 0.016 0.312 [2.147] **
** Dummy for no revaluation a a 0.260 0.230 [1.861] * *
Equalization rates a a 0.2190.166 [1.740] * * Log of number of
residential properties 0.0580.125 [2.375] ** ** Dummy for units
contracting assessment 0.193 0.096 [3.477] *** *** Median house
value as a share of median income 0.0440.115 [2.360] ** ** Median
tax share 0.2010.303 [4.854] *** *** *** ( *, ** )a 1 2 3 4
Slide 52
PPA 810: The Property Tax Table 4. Determinants of Residential
Assessment Uniformity (New York Assessing Units, 1992)Continued
VariablesCoefficients (t-statistics) -coefficients Share of adults
with college or higher education 1.4890.169 [4.418] *** *** Share
of commercial and industrial property 0.147 0.033 [1.039] Log of
interaction between income and tax share 0.160 0.191 [2.376] ** **
Log of operating assessment budget per parcel a a 0.1090.122
[2.909] *** *** Dummy for elected assessor (1=yes) 0.0190.015
[0.537] Share of vacant houses 0.322 0.103 [2.042] ** ** Share of
houses in urbanized area 0.1420.091 [2.196] ** ** *** ( *, ** )a
5
Slide 53
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.
Slide 54
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.
Slide 55
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
observationsand a selection bias problem.
Slide 56
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. Dont believe results from a study in
which the sample selection might be correlated with the dependent
variable!
Slide 57
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!
Slide 58
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.
Slide 59
PPA 810: The Property Tax
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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.