State and Local Public Finance Spring 2013, Professor Yinger

State and Local Public FinanceSpring 2013, Professor Yinger

Lecture 8

Property Tax Incidence

State and Local Public FinanceLecture 8: Property Tax Incidence

Class Outline

Who Bears the Burden of the Property Tax?

The Traditional, New, and New New Views

Accounting for Variation in the Property Tax Across Jurisdictions

Including the Role of Property Tax Capitalization

Property Tax Incidence and Public Policy



The first question in property tax incidence is:

Who bears the burden of a nationwide property tax (or, equivalently) of the average property tax rate?

Three answers have appeared:

The Traditional View The New View The New New View


The Traditional View, based on an analysis of the markets for individual types of property, concludes that the property tax is regressive.

Business owners, who have many options, can escape the burden of the tax, and shift it onto consumers, workers, and renters.

Because business owners have relatively high incomes, this shifting makes the tax regressive.


The Traditional View focuses on the behavior of responsive firms with property as an input:

P

Q

S

S+tax

D

P1=P3

P2

Product markets (commercial &industrial property is an input)or the rental housing market.


Even in the Traditional View, the property tax on land is progressive:

Q

P S

DP3

P1=P2

tax

The land market


For single-family houses, the Traditional View depends on the income elasticity of demand for housing (θ):

To see why, note that:

/t PH rT tV t PH

Y Y Y r Y

( ) /

/

PH PH

Y Y


An examination of the national average tax holds t/r constant, so

T/Y increases with income if θ >1

T/Y decreases with income if θ <1

There is a strong consensus that θ < 1, so T/Y decreases with income and this portion of the tax is regressive.


The New View is based on a general equilibrium analysis of all markets.

A property owner cannot escape a tax in one market if the same tax is levied everywhere.

Since almost all property is taxed, property owners cannot escape the tax.

Because property owners have relatively high incomes, the property tax is progressive.


In effect, the New View assumes the supply of property in the nation (K) is fixed:

i

K

D

i1

S

i2

Burden on owners of K

tax


The New New View points out that the amount of property might respond to interest rates over time

through investment decisions

or through international flows in financial capital.

This "correction" implies that the New View may be too extreme, but concludes that most of the burden is still likely to fall on property owners.


The New View (S-R) and the

New-New View (L-R)

i

K

L-R S

(L-R S)+t

D

i1

i2

i3

tax L-R burden on consumers/workers

L-R burden on owners of K

S-R S

i4

S-R burden on owners of K

tax


Other Questions

Some scholars say that the Traditional View and the New View address for different questions.

The Traditional View

This view applies to the incidence of a property tax increase in one place, holding property taxes in other places constant.

In this case, property owners can move from one place to another to escape the tax increase.

Thus, the burden of a property tax increase in one place, such as a big city, may be regressive.


The New View or the New New View

These views seems appropriate for the incidence of the property tax nationwide.

Thus, most scholars agree that the property tax as a whole is progressive.

This conclusion is relevant in deciding the extent to which a federal system should rely on local property taxes.


The Benefit View

A final view of the property tax incidence is the Benefit View.

In this view, the property tax is simply the price a household pays to live in a community.

Households live where this price equals their benefits from the public services, so the property tax is fair according to the benefit principle.


The Benefit View implies that there will be no capitalization:

If households all select their optimal community, they have no reason to bid up the price of housing anywhere else.

The extensive evidence of capitalization therefore leads to a clear, unambiguous rejection of the Benefit View.


Capitalization and Incidence

Capitalization implies that property owners cannot escape a tax increase, even if they have opportunities elsewhere.

If tax changes are capitalized into property values, then owners bear the burden of the tax if they stay (and pay higher taxes) or leave (and experience a capital loss)


Capitalization also implies that any incidence analysis has a new distinction, namely between owners at the time a tax change is announced and future owners.

This distinction does not correspond to the categories in previous incidence analysis (such as owners, consumers, workers, and renters or rich and poor).


Capitalization also implies that a key conclusion of the Traditional View, namely, that property tax increases in one jurisdiction are regressive, may not be correct.

With capitalization, the burden falls on current property owners, who have relatively high incomes.

Moreover, many property owners in a particular jurisdiction may not be residents, but may instead be: corporate shareholders who live

around the country landlords who live elsewhere.


In the case of rental housing, some evidence on these points is provided by Carroll and Yinger (NTJ, June 1994).

Tax shifting from landlords to tenants must take the form of higher rents.

C&Y estimate the extent to which higher property taxes lead to higher rents in the Boston area, all else equal.


Higher property taxes alone do not make an apartment more desirable to a tenant, so in the case of mobile tenants:

P

Q

SS+tax

D

P3

P1=P2

tax

The rental housing market (within an urban area)


However, tenants will pay higher rents if they receive better public services.

Thus, landlords can shift a property tax increase to tenants only to the extent that this increase leads to better public services.

The question is: To what extent does this type of shifting occur?


C&Y estimate that a $1.00 increase in property taxes results in a rent increase of about $0.15, on average, which implies that landlords bear about 85% of the property tax burden.

Thus, the conclusion from the Traditional View, namely, that tenants bear a large share of the burden of a property tax increase, is not correct, at least not in the Boston area.



and Public Policy

All views of property tax incidence say that taxes on homeowners are regressive.

Voters want programs to cut this regressivity.

Voters are particularly concerned about elderly homeowners.


Graduated property tax rates are possible (e.g. Minnesota) but do not make sense for nonresidential property.

The issue is regressivity across people, not across businesses.

A business with a small factory may be owned by a very rich person!

So states turn to circuit breakers and homestead exemptions


A circuit breaker provides a tax break (often through the income tax) if a person’s property tax payment exceeds a given share of their income.

Design

( ) if ( ) 0

0 if ( ) 0

CB tV W tV W

CB tV W


Popularity

About half of the states have circuit breakers for elderly homeowners or elderly renters.

A few states have circuit breakers for all homeowners or all renters.

For details, go to http://www.lincolninst.edu.

Strengths

Circuit breakers provide tax relief for people who have a hard time paying property taxes out of their income.


Weaknesses Circuit breakers help many home

owners who do not need help. Empty-nesters with a valuable house

can borrow against their equity. The circuit breaker just protects their

children’s inheritance!

Circuit breakers for all taxpayers lower tax prices and have unintended consequences.

Circuit breakers cannot be given to renters without an implicit analysis of property tax incidence!


Homestead Exemptions

Design

The formula:

May or may not involve reimbursement by the state

( )T t V X


Popularity

Almost all states have some form of homestead exemption.

Most states have special exemptions, usually for the elderly or veterans.

Several states have general exemptions

A few states reimburse local governments for the exemptions

For details, go to http://www.lincolninst.edu.


Strengths

Homestead exemptions cut the regressivity of the property tax on homeowners.

Weaknesses

Reimbursed homestead exemptions lower tax prices and have unintended consequences.

Homestead exemptions cannot be given to renters without an implicit analysis of property tax incidence!

Documents

State and Local Public Finance Spring 2013, Professor Yinger