On our West Jordan Citizens forum, someone mentioned proposals to modify Property Tax methods to be more fair, or to use purchase price instead of market price. They are both bad. Something else has to be done. I have here a proposal that several of my co-workers came up with while we complained about it. I think it is really good. What do you think?
This is a proposal to change the way property taxes are calculated. It takes into account the city budget, the purchase price, purchase date, and market value of properties, and we believe it is very equitable and could be implemented tractably. It consists of four corollaries which are explained below.
First, the logical flaws in both currently popular ideas:
1. Tax based on purchase price:
This hurts new families and also discourages moving because your taxes could go way up. It unduly rewards people who never move and punishes those that are just getting houses or move a lot, often people that can't afford it. More people end up renting or holding onto homes when they want or need to move just because of the economics of it.
2. Tax based on market value:
Market fluctuations can cause tax burdens to change drastically, even when the owner's ability to pay doesn't change with it. People can go bankrupt, older citizens or those on fixed incomes can be forced to foreclose. The result is unfair tax burdens in areas where prices go up quickly or more popular areas. Cities then receive a windfall which can be squandered or mis-used. When prices go back down, the cities that enjoyed the "windfall" and have bloated their budgets then have to downsize again. Often the downsizing is sloppy and hasty, resulting in mis-allocation of funds. Fast changes like this are hard on any entity in general.
So there is a fundamental underlying problem with either of these models of property tax which is:
Taxing directly by a percentage of property value!
This means that when values go up, tax revenues go up. Even if the city doesn't need the money, they get more money. If prices go down and the city needs more money to make ends meet, it has to change the tax rates to get enough. So the money coming into the city (and other entities that rely on property tax) changes based not on costs of running these entities (which should be related to city size and inflation) but on unrelated real estate market fluctuations.
The following proposed solution would more fairly spread the property tax burden as well as take care of the problem of basing the taxing entity's revenues on market values. I'll use the city as an example, though this would apply to any entity getting funds from property taxes. There are four corollaries to this proposal which are described below.
First: Property taxes would be collected based on the proposed budget of the city (or other taxing entity.)
Say that a city's fiscal year begins in January. Taxes for the next year would be calculated starting in September and collected in November of the previous year. Prior to that September, the city would be required to submit a budget estimating the costs for the next year. This is a common practice and should be done anyhow by any responsible taxing entities.
Property taxes would be calculated and collected based on this budget. The city would have a slush fund of 5-10% of the annual budget (or another reasonable figure) to assist in shortfalls due to unforeseen issues or emergencies. Note that this means the tax burden could change every year based on the city budget. But it does anyway based on market value under the current system. The city budget is something residents can influence more easily than the market.
So if house prices and worker incomes keep up with the inflation of city costs, the effective tax rate would not change significantly. If house prices rise faster than city costs, then the tax rate effectively goes down relative to the property value. This means that if house prices shoot up, the tax burden doesn't. It is indexed to city costs. Large real estate market fluctuations do not influence the city's income.
This would mean that citizens should pay close attention to the budget as it is being approved by the city council! The change in the budget will in effect be the change in what they are paying. We think it would foster greater involvement in all city functions by the citizens and result in better public oversight. It would also be important for cities to inform the residents of the overall budget changes for the year, and have a chance to influence the city budget.
If citizens did choose to ignore the city, and the city council made some expensive decisions, things would change fast when people saw their tax, because a change in that tax generally means a change in the city's expenses, not as much in market value. Instead of throwing up their hands, a taxpayer can call their city council person and express their concern.
So the city budget says how much money needs to be collected. How is the tax burden for each property calculated? This leads to the second corollary.
Second: The tax burden would be based on ratios of the total taxable real estate equity in the city (or other taxing entity.)
Let's use a simple example. This assumes market value is used in all property value calculations for tax purposes. In the city of Springfield, there are ten houses. Each house is worth $100,000. The total real estate equity of Springfield would be $1,000,000. The tax burden would be divided up based on the portion of the total equity taken by each property. So each person would pay 10% of the tax burden.
Springfield estimates their budget for the next year, and the city council approves it. It is $50,000. Each resident's property taxes collected would be $5,000, or 10% of the total tax burden. For other taxing entities, such as school districts, counties, etc, the ratio would be based on the total real estate equity in their respective geographic service areas.
If the value of everyone's home the next year rocketed up to $200,000, the total real estate equity of Springfield would be $2,000,000. However, the ratio of 10% per taxpayer of the city's costs would still be the same. If the city budget was $55,000 the next year, the tax burden on each taxpayer would be $5500, NOT $10000. Springfield would not be flush with cash and make rash decisions on how to spend it, nor in the inverse case fall significantly short of their needs. Large real estate market fluctuations do not influence the city's income.
Third: Property valuations would be based on purchase price, purchase date, and market value.
Properties would be "binned", or placed, into categories based on purchase price and purchase date. The market value would be averaged over the entire category. All properties in a category would pay the same tax ratio based on this average.
This may sound very complex at first, but all the information is already there on each property within the entities that calculate tax burdens already, only some new formulas are needed to calculate these values. Computers would make this all possible with some new software.
We felt that the purchase price method alone was too unfair. It burdens new home buyers or those that move a lot. This has nothing to do with the services they receive from the city, and too generously rewards those that don't move.
However, there is also an issue with the pure market value approach, even after the possible rapid changes in actual tax burden are taken away with the tax ratio method. This is illustrated in the following example.
Suppose John and George each buy a house for $100,000. Their tax burden would be the same initially. After 10 years, millionaires have built houses near John, while smaller houses have been built near George. Their market valuations come back as $500,000 for John and $300,000 for George. This means that because of what happened in the area around John, out of his control, he has a 66% higher tax burden than George. Granted, John might have some benefits by being around these rich people. But maybe he is actually upset that people in his demographic, people he understands, aren't around. Regardless of this, the assumption is that both John and George have about the same ability to pay. How to rectify the situation?
The solution is to put all properties in categories based on purchase date and purchase price, and everyone in that category has an average market price calculated, and they all pay that ratio. Let's use John and George again in this next example.
As explained earlier, John and George bought their houses at the same time. They also paid the same amount, so they are in the same property bin, or category. John's house is market valued at $500,000, and George's house at $300,000. The average for their category would be (300000+500000/2) or 400,000. They would each pay the same ratio of the city tax burden based on a market value of $400,000.
Since their assumed ability to pay is based on their property purchase value and purchase date, they are treated with equal portions of the tax burden. At the same time, market value is used between all properties in the same group to calculate the tax burden ratio. Since the categories would include many more people, it is likely the average would be very fair while helping to ensure that outliers in their category pay a more fair portion of the taxes.
Here are a couple examples of what a property category could be:
First, the purchase date. Categories could be based on six month increments, for example.
Second, the purchase amount. Categories could be divided based on $25,000 increments, or better yet the increments could vary as the value adjusted since there would be fewer residential properties in some ranges.
Third, the zoning type. Categories wouldn't cross major zoning types. It would be up to a city if they would cross zoning subtypes. Commercial real estate would not be in the same bin as residential, for example.
Some example categories:
R-1970-2-100 - All residential properties purchased in the second half of 1970 for between $100,000 and $124,999. The time range is 6 months. The price range is $25,000 for this category.
R-1970-1-600 - All residential properties purchased in the first half of 1970 between $600,000 and 674,999. Note that the price range is larger, at $75,000. This would be necessary as fewer properties at this price range are purchased and the number of properties in a category shouldn't get too small. These ranges could be set each year.
C-1984-2-2000 - All commercial properties purchased in the second half of 1984 between $2 million and $2.5 million.
A category would "mature" once the time period was complete and would be closed. During the time period the price ranges of the categories could be modified to ensure that no category gets too small for its zoning type. Once mature, properties could never be added to a category, only removed as they were re-sold. Categories could never be split after maturing.
If categories got too small (say less than 300 properties) as homes were sold out of the categories, they would be consolidated to keep the law of averages working for that group of individuals. It is likely though that those that lived in their houses a long time would be in smaller categories, as the standard deviation should also be kept low for fairness' sake. While it isn't perfect, it is tractable and increases fairness significantly over market value alone.
What if businesses are moving out of the city because they can't afford their property taxes at the same ratio as residential? Or what if residents are moving out because their portion of the tax burden is too high? Balancing the tax burden between types of taxpayers brings us to the fourth corollary.
Fourth - The property tax burden could be based on zoning type (i.e. commercial versus residential.)
Adjustments could be made to the ratio of the tax burden for real estate in various types of zoning. If a city wants to charge businesses more or less for the same market value as a residential unit, then the tax burden for categories in that zoning type can be modified accordingly by changing their ratio.
For example, the market value of all categories of real estate in one zoning type could be multiplied by 0.9 to reduce their portion of the burden. The modified value would be used in the summation of all the total taxable real estate equity of the city and their tax ratio would decrease. Let's say that Springfield added two businesses. It still has ten homes. The commercial real estate is also worth $100,000 each. So now Springfield consists of:
2 businesses each $100,000
10 homes each $100,000
Total city equity: $1,200,000
Tax Ratio for businesses and homes: 1/12 (8.3%) of city budget.
Perhaps the city wants to boost commerce and so gives a tax break to commercial real estate. They could modify the market values of the commercial real estate in computing tax ratios:
$200,000 (commercial equity) * 0.9 = $180,000, taxable commercial equity
$1,000,000, taxable residential equity (unadjusted)
Total taxable city equity: $1,180,000
Each business would be taxed for ($90,000 / $1,180,000) or 7.62% of the city budget.
Each resident would be taxed for ($100,000 / $1,180,000) or 8.47% of the city budget.
As expected, the tax ratio goes down for businesses and up for others to make up the difference. This option allows for economic stimulus or the equalization of ability to pay.
Implementation
With the advent of computers, all this information could be calculated efficiently. The software could be run yearly to consolidate old categories, generate new categories, average market value over categories each year. Market value is already calculated, that isn't new work. Only some extra number crunching would have to be done. The categorizing would be done by the entity that calculates the taxable value of properties. The old data would still be available. So if the calculating entity added this information, taxes can still be done the old way for taxing entities that haven't changed yet.
Taxing entities would also have to change, ensuring that approved budgets for the following year are ready before taxes are calculated and collected. City's must instantiate slush funds if they don't have them. There may be some pain as the budget would grow some the first year to establish a minimum slush fund value. The tax burden should drop the next year once in place and only change as necessary to keep the slush fund within a proper range. Or the slush fund could be built up over a few years, if the city felt it worth the risk.
Taxing entities do not have to switch over at the same time. A taxpayer could pay the "old way" for the school district (rates based on market value), while the city had switched over (ratios based on hybrid market/purchase/date values). The taxes would just be added together on the tax bill. The purchase price, the market value, and the average market value of a property's category would all be available for the taxing entities to use in calculating the old or new way.
We believe we really have something worthwhile with this plan. It addresses all the core, tractable issues we could think of affecting property taxation, it can be implemented, and it would force taxing entities to plan for the future (which some do already of course). We believe it is a significant improvement over current property taxation methods, and could result in better managed taxing entities and a fairer balancing of the tax burden.
9 years ago
