Wednesday, March 08, 2006

A brilliant idea on property taxes

From Otis White's Urban Notebook, copied in full (as usual) because he doesn't have permalinks. I love this piece, because it not only explains the problem of skyrocketing property taxes and the solution, but also notes the good incentives it provides for city government and the un-discussed downside if we eliminate or hobble the property tax (like California's Prop 13, which has had the exact effects he describes at the bottom).

The Death Strategy
One Way to Save the Property Tax

Is there a way to save the property tax? Rarely has there been a tax as despised, in part because of the way it’s presented (usually in a single, shocking bill), but never has there been a tax as well suited to localities. Better move quick: If something isn’t done soon, the property tax will be so hobbled by irresponsible state legislators or hotheaded voters that it will cease to be a mainstay of city revenues. And woe be to cities then.

Why is the property tax so well suited to cities? Because determining land use is what cities do best. Think about it. From zoning to road expansions, sewer improvements to streetscaping, slum clearance to law enforcement, cities affect the value of property. With a single decision sometimes, a city council can turn a weedy lot into a hot development property. Given this, why not reward cities for doing what we most want them to do — constantly push up our property values?

But here’s the problem: Not everybody who buys a house does so as an investment; some are there for the long haul. Their dream is to retire, live out their lives and die in the house. If anyone is going to make money from their property, it will be their heirs.

The New York Times reported recently on a group of such homeowners near Boise, Idaho. These are people who bought large tracts a long distance from the city, only to see urban sprawl run up their property values and tax bills. One retired state employee paid $454 a year in property taxes when he bought his hundred-year-old farmhouse 17 years ago for $59,500. Last year, he paid $3,005 in taxes on land now valued at $225,000. Another property owner saw taxes on her 33-acre land soar from $2,200 to $10,871 in a single year. What could cause such a surge? Her land was rezoned from agricultural to residential. “All I’ve got is a rundown barn in the middle of Idaho,” she complained to the Times.

Two thoughts: Valuations and tax rates are separate things, and if the assessments are surging (thanks to the good work of city governments, a little luck or both), wise city councils can ease the pain by lowering tax rates. That will help some. But we need something more: a new way of collecting property taxes that allows owners to defer some taxes until the property is sold. That way, cities would still be rewarded for their good work in boosting land values, but homeowners or small-business owners could be spared some of the bill until they (or their heirs) cash out

Wouldn’t cities suffer? After all, they need revenues from property taxes now, not years from now. Wall Street could solve that: There should be plenty of investors willing to buy deferred taxes at a discount, particularly if the taxes accumulated interest during the deferral period. And what about homeowners’ heirs? Won’t they be upset at receiving a gargantuan tax bill when the estate is settled? Well, this may be the value of a single, shocking bill. Cities can present the tax bill on a statement showing how much their actions, over the years, have raised the value of mom and dad’s house. In the end, then, cities would be asking for a percentage of the increase they made possible. And just as few sellers begrudge real estate agents getting their share, who could object to cities getting theirs?

Footnote: Let’s think about the worst-case scenario. What happens if the property tax goes away? Cities will be rewarded for doing crazy things, like trying to cram high-volume retail outlets on every corner (to get sales tax revenues) or office buildings everywhere (to get payroll taxes). And no place will want homeowners, who will be regarded as a bunch of high-cost freeloaders.
Houston could be an innovator here, but I doubt it. The housing bubble and associated property tax revolt is much stronger elsewhere in the U.S., esp. on the coasts. One of those places seems more likely to try out this approach. They can work out the kinks, and we can learn from their mistakes and follow in their footsteps in future years if and when it makes sense. But it's definitely worth keeping in mind if accelerating property taxes becomes a front-burner issue here again (unlikely, given our recent 5% (?) cap that passed).


At 3:44 AM, March 11, 2006, Anonymous Anonymous said...

I dunno about this idea, it just really defers the problem. I guess its hoping people will complain less since they don't feel the hit on their pocketbook until possibly much later. Some points of contention: What would happen to the prop tax deduction on income taxes? Say you live in the house until the day you die or maybe even sell it while in retirement, guess what, you don't have as much income to offset w/ a property tax deduction, making it a less valuable deduction. Also, would this deferred payment be adjusted for inflation? Staying in the home for only a couple of years then selling won't make a huge difference, but considering some people might stay in their home 20 years or more, this would be impacted.

Also, the poitn of cities being able to "cash" in early on tax recieipts by selling the lein would only mean the city would collect less in tax revenue since they would be selling the tax at some discount.

I think, more importantly, instead of convuluted the system even more and dressing it up so that it appears more palatable, we need real tax reform. I think a great start is the "truth in taxation" legislation that requires the city to declare a tax increase if their receipts will increase. Obviously, this can happen while lower the rate b/c of rising appraisal values. I really hate the "2 variable" system b/c it allows a lower rate to be made up in higher appraisals. The truth in taxation is a great start, but more reform must be done. Perhaps htinking about a deferred system would be more reasonable after the actual system is corrected. Simply "sweeping" it away and trying to quiet dissention by deferrment is not the right direction.

At 10:10 AM, March 13, 2006, Blogger Kevin Whited said...

But it's definitely worth keeping in mind if accelerating property taxes becomes a front-burner issue here again (unlikely, given our recent 5% (?) cap that passed).


Do you follow Texas politics?

In the recent primary, Harris County Republican voters approved by 95% a call to lower the current state property tax appraisal cap from 10% to 5%. Statewide, 92% of Republican primary voters approved that call. Those are astounding numbers.

This issue is going to get bigger in Texas, not smaller -- especially when Dan Patrick takes his seat in the Texas Senate. He made the issue one of the linchpins of his campaign, and it certainly resonated with area voters.

At 10:20 PM, March 14, 2006, Anonymous Anonymous said...

Another problem with this idea is that it potentially puts people further upside-down on their mortgages. Because traditional mortgages (20% down, 80% financed) are now the exception and creative financing is the norm, people who are forced to sell early might not have enough time to allow their property to appreciate. Allowing the prop. tax to build up over a few years makes it worse. So what then happens is default. I believe the lender would come ahead of the city, but not positive.

This idea really isn't any solution at all. The city gets less money (either by selling it at a discount to a private party or perhaps not keeping up w/ inflation if held), filled with holes, and would create more problems than it solves. Which actually I don't see it solving any problem at all. I think prob. the hope is that people are dumb and because they aren't getting hit now with taxes, they might ignore the government's tax and the tax debate will go away.

At 8:26 AM, March 15, 2006, Blogger Tory Gattis said...

The issue may get bigger in Texas, but I was referring to Houston specifically, which already has a 5% cap in place.

It would not affect property tax deductions, because, in essence, the city is giving you financing options on deferring your tax debt.
The deferred tax would accumulate interest so the city doesn't lose out, and they can sell tax-free municipal bonds backed by the deferred taxes, so the rate could be pretty low. People wouldn't defer all of their tax increase, just beyond some reasonable growth rate somewhere near inflation. As far as "going underwater" on their note, this program would be targeted at people who have been in a neighborhood a long time that has suddenly started appreciating dramatically, so they would have a significant chunk of equity in their homes, and those homes are usually pretty low value to start with (ex. you buy a $80K house in 1990, it jumps to being worth $200K+ today, but by that point you may only have $50K in debt left in the house and $150K of equity - a lot of headroom for some deferred taxes).

At 5:43 PM, March 18, 2006, Anonymous Anonymous said...

Houston has a 5% cap in place? I thought it was 10% unless its a new resolution b/c my appraisal was just increased by 10% for my homestead... Is this something new that will be applicable to 2006 taxes (due in 2007)???

At 5:48 PM, March 18, 2006, Anonymous Anonymous said...

So the idea you are talking about would be optional? You can choose whether or not to pay taxes yearly or at the end? If that's the case, it seems like it would be more advantageous to get a home equity line of credit, withdraw as you pay your taxes... of course, you will be owing a monthly payment when you withdraw, but the interest on it is at least tax deductible...

also, I'm not a tax expert, but I thought you could only deduct (on personal income taxes) the property taxes during the year you actually paid them, not necessarily the year they applied to... For instance, 2005 tax year bill was due Jan 31, 2006. If I paid Dec 31, 2005, I could deduct it in 2005... HOWEVER, if I actually paid in 2006, i could not take the deduction until 2006, even though it paid for the previous year taxes. Corporations can do stuff like that, but didn't think individuals could. So wouldn't it still stand that b/c you don't pay taxes yearly, actual payment in cash, not just when they are "applied", you cannot take a deduction under the current rules? Again, I'm not a tax expert, but for individuals, I thought you could only deduct in the year you actually paid, not for the year it was due.

At 10:11 PM, March 18, 2006, Blogger Tory Gattis said...

My understanding was we passed a 5% cap referendum in Houston (the Prop 1 vs. 2 debate). I'm not sure when it kicks in. I don't know the tax details/implications either, unfortunately.

At 9:28 PM, July 28, 2006, Anonymous Anonymous said...

Brian S:
Actually, I don't think you need the government to change at all for this. You could simply have a modified reverse mortgage that could accumulate a lien against the value of the property. All you need is some actuaries and some capital and I think you have a marketable idea. I'm just shy of my first credentials as an actuary and I think this is very doable.

At 9:29 PM, July 28, 2006, Blogger Tory Gattis said...

Great point! A private market solution.

At 5:00 AM, December 20, 2006, Anonymous Anonymous said...

You really don't know what you are talking about. Do you think shopping centers will be build on every corner without homeowner nearby to buy their products. You are so biased its obvious to the blind. What is your reason

At 7:39 AM, December 20, 2006, Blogger Tory Gattis said...

Sorry - I don't understand your point.


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