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China has experienced rapid economic growth since 1978, when it adopted a policy of opening up to the world and instituting economic reform. It has become the second largest economy measured by the country’s GDP, and its tax revenue has experienced an average annual growth of about 20 percent since the fiscal reform of 1994.
However, many subnational governments in China have experienced fiscal stress and incurred large local debt in recent years because of numerous unfunded central mandates and the large fiscal gap between expenditure responsibilities and revenue capacity. For example, in 2008 subnational government in China accounted for 79 percent of total government expenditure, but only 47 percent of total government revenues (Man 2011).
Unlike many developed countries, China’s local governments (provincial, prefecture, county, and township) have not been granted any legal authority for taxing or borrowing, and the property tax plays a very limited role in the local public finance structure. As a result, many local governments turn to extra-budgetary revenue sources, fees for leasing land use rights, other fees and surcharges, and indirect borrowing from banks to finance infrastructure investment and local economic development.
During the period from 1991 to 2008, the land leasing fees (also known as land transfer fees) increased from 5.7 percent of total local budgetary revenue to 43.5 percent. The overreliance on land leasing fees has been criticized as an important factor in pushing up housing prices and in the growth of corruption cases and land disputes in China.
Problems with the Current Tax System
The current land and property tax system in China generates a limited amount of tax revenue, even though five types of taxes are levied on land-related property at various stages of production (table 1). Local governments collect the Farmland Occupation Tax and Land Value Added Tax (LVAT) at the stage of land acquisition and transaction. At the possession stage, the Urban Land Use Tax and Real Estate Tax are collected, while the Deed Tax is levied when the ownership of the property is transferred.
This tax system has many problems and warrants structural reform. First, various taxes on land and property account for only 15.7 percent of local tax revenues. It is an unstable and inadequate revenue source for the Chinese local governments. Local government officials have relied upon other revenues sources, including leasing state-owned land for a large lump-sum fee from developers, to finance infrastructure development and capital projects. In 2010, Chinese local governments collected 2.7 trillion RMB from land leasing fees in addition to 8.3 trillion RMB in taxes and other budgetary revenues. The ratio of leasing fees to tax revenue was 32.5 percent, compared to 4.5 percent in 1999.
Second, China’s current property tax structure focuses more tax burden at the transaction stage than the possession stage. For example, revenues collected from the annual urban land use tax and the real estate tax at the possession stage accounted for only 6.44 percent of local tax revenues in 2008, while about 9.25 percent of local tax revenue was raised at the land development and property transaction stages.
Third, owner-occupied residential property was not included in the tax base for the current real estate tax, thus significantly restricting the government’s ability to capture value from the booming housing market that was fueled by the privatization of public housing, income growth, and massive urban infrastructure investment. By 2010, homeownership rates reached 84.3 percent of the formal urban housing stock, and housing values have experienced substantial increases in the past five years in many big cities (Man, Zheng, and Ren 2011). But the exclusion of the residential properties from real estate tax has resulted in wealth disparity and excessive demand for housing for investment and speculative purpose, raising vacancy rates in many coastal cities.
Finally, unlike the property tax system in many developed countries, the real estate tax in China is not levied on the assessed value of the property. Instead, it is based on the original price minus 10 to 30 percent of depreciation at a rate of 1.2 percent or levied at 15 percent of the actual rental income for leasing property. Government officials have little experience in the mass appraisal of the market value of existing property, a fundamental skill for establishing a modern property tax system.
Recent Developments in Property Tax Reform
The Chinese central government has been exploring the possibility of reforming its current land and property tax system since 2003, when it first officially proposed to establish a modern property taxation system. Six cities were selected to con-duct pilot projects in 2006, and that number was expanded to 10 cities a year later.
In 2010 the State Administration of Taxation (SAT), which is in charge of this pilot project, ordered that every province must choose at least one city to experiment with property value assessment in order to verify the housing sales price self-reported by home purchasers for the deed tax. These experiments have played an important role in the technical and information-based preparation of mass appraisal for future property value assessment. On January 28, 2011, the cities of Shanghai and Chongqing were permitted to collect property taxes on newly purchased second homes or luxury residential property, respectively.
Major Achievements
China’s property tax reform aims to establish a system to tax the existing property (including both land and housing structures) based upon its assessed value on an annual basis to make the tax a significant revenue source for local governments. This system will utilize various assessment methods such as market comparison, cost, and income approaches and will be applied to business and industrial property as well as residential property, including owner-occupied housing.
Different versions of computer-assisted mass appraisal (CAMA) have been studied and subsequently implemented by some pilot cities, such as Hangzhou, Dandong, and Chongqing. The SAT has been training officials from local tax bureaus in every province about CAMA system development and its applications. It has also tried to establish technology standards for each assessment approach.
In 2005, the SAT compiled a Real Property Assessment Valuation Regulation Trial that specified 12 chapters and 40 provisions covering data collection, standards, and the CAMA system. All the pilot cities have finished the simulation assessment and have calculated the tax burden and tax revenue according to different tax rate scenarios. In 2011 at least one city in each province had been selected to conduct property value assessment of newly purchased property for the collection of the deed tax.
The most important development occurred in early 2011, when Shanghai started to collect taxes on newly purchased second homes of residents and first homes of nonresidents based on transaction value, after the exclusion from the tax base of 60 square meters per person. The city of Chongqing is targeting the existing single-family residence and newly purchased luxury apartments of residents or newly purchased second homes of nonresidents. The program excludes 180 square meters for the single-family residences and 100 square meters for apartments in Chongqing.
About 8,000 parcels are reported to be levied a property tax in these two cities combined, although after this one-year experiment only a small amount of tax revenues has been collected, which was intended to finance low-income housing. Although the tax base, tax rate, and the collections are all very small in the two cities, these efforts represent a big step forward for property tax reform in China.
Future Challenges
China’s property tax reform still faces enormous challenges, although it is now much better understood by Chinese citizens and the media. First, it encounters resistance from various influential interest groups. The biggest opponents of a property tax are local government officials, in addition to real estate investors and speculators. Many local governments believe that the adoption of such a tax will lower housing values and consequently lower the demand for land, thereby substantially reducing the land leasing fees obtained from the leasehold of state-owned land. Furthermore, local government officials in China are evaluated on their role in spurring local GDP growth, and infrastructure investment projects are often used as a stimulus to boost local economic development. Officials want unlimited access to land leasing fees because they can be raised and spent with little scrutiny, and they can generate a large amount of revenue for use during an official’s tenure.
A second challenge is the slow progress on legal and assessment preparations for a property tax system. Property tax laws and regulations need to be established, including assessment laws and standards for assessors. Up to 100,000 assessors will have to be trained and certified to these standards. Third, consensus is still lacking with respect to the specifications of the tax base, exclusions, and exemptions; the assignment of responsibilities for administration, rate setting, and assessment; and the allocation of tax revenues. Fourth, general unfamiliarity with the property tax leads to continued misunderstanding and misperceptions about the tax.
At the same time, more urban dwellers realize that an annually collected tax on the assessed value of real property, both business and residential, can serve as an efficient and sustainable revenue source for local governments and help to reduce their reliance on land transfer fees and charges that contribute to higher house prices. Following the central government policy of house purchase restrictions and tighter monetary policy, fees from land leasing in 2011 have started to fall in many cities.
According to a recent report by the China Index Institute (2012), land transfer fees in 130 cities have decreased by 11 percent compared to 2010. In Shanghai and Beijing, they decreased by 16 and 35.7 percent, respectively. This rapid decrease may also offer opportunities for local governments to look for more sustainable ways to seek a balance between promoting economic growth and providing public goods and services. In the long run, establishing a property tax system to substitute gradually for the land transfer fees can offer an efficient, equitable, and sustainable way to finance local development and government spending.
The property tax has been perceived as an effective way to lower housing prices, dampen property speculation, and reduce vacancy rates. Many researchers believe that local governments tried to limit land supply to bid up land prices and maximize revenue, resulting in the rapid increase in housing prices and lack of affordable housing in urban China. Levying taxes on residential property can increase the opportunity cost of holding property vacant or idle and reduce incentives for speculative behavior. The tax is also viewed as an effective way to narrow the gap in income and wealth among urban residents and discourage speculative investment in the housing sector.
Conclusions
The property tax reform in China is making progress in research and in experiments with applications, and it has begun to accumulate momentum toward better understanding and acceptability among citizens and local governments. But the successful establishment of a property tax as a major revenue source in a modern local public finance system requires not only assessment techniques and tax design but also political determination and administrative reform. This reform could lead to a fundamental change in intergovernmental relations and the role of government in China’s political and economic structure.
The Lincoln Institute began to support research on property taxation in partnership with the Chinese government in 2004, in conjunction with the Development and Research Center of the State Council (DRC), Ministry of Finance (MOF), and State Administration of Taxation (SAT). In 2007 the Peking University–Lincoln Institute Center for Urban Development and Land Policy (PLC) was established in Beijing, in part to help organize international conferences and training programs for government property tax officials in the pilot cities. The center continues to support international and domestic experts in conducting research and demonstration projects on property taxation and related issues.
About the Author
Joyce Yanyun Man is senior fellow and director of the China Program at the Lincoln Institute of Land Policy, and serves as director and professor at the Peking University-Lincoln Institute Center for Urban Development and Land Policy at Peking University in Beijing.
References
China Index Institute. 2012. http://www.chinanews.com/estate/ 2012/01-04/3580986.shtml
Man, Joyce Yanyun. 2011. Local public finance in China: An overview. In China’s local public finance in transition, eds. Joyce Yanyun Man and Yu-Hung Hong. Cambridge, MA: Lincoln Institute of Land Policy.
Man, Joyce Yanyun, Siqi Zheng, and Rongrong Ren. 2011. Housing policy and housing markets: Trends, patterns and affordability. In China’s housing reform and outcomes, ed. Joyce Yanyun Man. Cambridge, MA: Lincoln Institute of Land Policy.
National Bureau of Statistics. 2009. China statistical yearbook. Beijing: China Statistics Press.
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Since 1978, the Chinese government has pursued various economic and housing reforms to expand private property rights in housing and to promote home ownership through the commercialization and privatization of urban public housing. This has involved terminating the old system of allocating housing units through public-sector employers and establishing a more market-based system of housing provision. The government now provides affordable housing by subsidizing commercial housing purchases or by offering low-rent public (social) housing to middle- and low-income families. At the same time, it relies on the private commercial housing market to meet the needs of higher-income groups.
Recent Housing Reform and Outcomes
China’s housing policies experienced a drastic change in 1998 when the central government ended direct housing distribution to employees through the former danwei or employer-based system. According to government plans, the affordable housing system targeted at middle-income households was established to provide support to nearly 70 percent of urban families. It also introduced housing cash subsidies to new employees and set up a Housing Provident Fund—a compulsory housing savings system to provide subsidized loans to employed homebuyers. Low-rent public housing is provided by the government to low-income urban households, while commercial housing is provided by the market to meet the needs and demands of high-income families at the top 15 percent of the economic spectrum that have access to mortgage financing (Wang 2011).
This housing reform has resulted in a vigorous and fast-growing urban housing market and greatly improved housing conditions for urban residents. For example, the floor area per capita in urbanized areas increased from 6.7 square meters in 1978 to 28.3 square meters in 2007, and the home ownership rate reached to 82.3 percent in urban China in 2007 (Man, Zheng, and Ren 2011).
However, with urban housing prices skyrocketing since 2005, housing affordability has become a major issue in a number of large cities, and municipal governments have been called upon to increase the provision of affordable housing to middle- and low-income households. Government policies have been implemented in an attempt to stabilize urban housing prices, to discourage speculative behavior of homebuyers, and to reduce both the excessive lending practices of state-owned banks and the possible financial risks associated with the housing sector.
Urgent Need for Affordable Housing
Affordable housing is often defined as an adequate dwelling where less than 30 percent of monthly household income is devoted to rent, or where the dwelling’s purchase price is less than three times a household’s annual income. The housing price-to-income ratio (PIR) is the basic affordability measure for housing in an urban area. It is generally defined as the ratio of the median house price to the median family income. In the Global Urban Observatory Databases of UN- HABITAT, PIR is one of the important urban indicators, and a ratio between 3 and 5 is considered normal or satisfactory. In the United States and Canada, the PIR is 3.2 and 3.5, respectively, which meet the international standard for a normal or affordable level of housing (Demographia 2009).
Our study used the Large-Sample Urban Household Survey data collected by the National Bureau of Statistics of China to calculate the PIR in 2007 for urban China, and found it to have a value of 5.56 nationwide (Man, Zheng, and Ren 2011). This ratio falls in the category of “severely unaffordable” according to the criteria proposed by UN-HABITAT, and is well above the normal range of 3 to 5. It indicates that the median price of the housing stock in the sample of 600 Chinese cities (based on the survey of 500,000 urban households) is more than five times annual household median income.
The Current Situation and Challenges
Affordable housing is often measured in terms of median values and incomes, but the concept is applicable to both renters and purchasers in all income ranges. Affordable housing in China, commonly known as “economical and comfortable housing,” is designed to be available to middle- to low-income households, including public-sector employees, to encourage home ownership.
In general, the Chinese central government sets polices and mandates with respect to affordable housing, and the subnational governments, cities in particular, are responsible for the construction, financing, and management of that housing. The central government does not provide financial support to provincial and local governments for affordable housing through its budgetary spending or intergovernmental transfers, except for a few subnational governments in the fiscally strained and underdeveloped central and western regions.
Local governments are required to provide free land, reduce government charges and fees, and control developers’ profits to lower the housing price for those who are qualified based upon government eligibility standards. In some cities, such as Beijing, affordable housing also includes price-controlled commercial housing whose price is held down by the provision of reduced land use fees and charges, as well as favorable land allocation by the government to help lower- and middle-income families become homeowners. The Housing Provident Fund, a compulsory saving plan with contributions by both employers and employees for housing purposes, helps employees buy a house with subsidized loans.
Local governments provide state-owned land to affordable housing projects through appropriation mechanisms. They usually appropriate land to developers who finance, construct, and sell the economical and comfortable housing units to the people considered eligible according to government standards and regulations. Middle-income families seeking market-oriented commercial housing may receive a subsidized loan from the Housing Provident Fund. With housing prices lingering at levels inaccessible even to average salary earners, the current affordable housing system has encountered a number of serious challenges.
First, there is an enormous and growing demand for affordable housing in China. By the end of 2008, there were about 7.4 million low-income urban households in need of government support for housing (Lin, forthcoming). In addition, government population and labor statistics indicate that cities have an estimated “floating population” of 147 million, most of whom are migrant workers who often fall within the low-income group. At the current rate of urbanization, there will be an increase of about 10 million people in cities every year. Most of them will be unskilled and semi-skilled workers in the low- and middle-income levels in need of housing assistance.
Second, affordable housing accounts for only a small portion of the total housing stock, underscoring inadequate government support for middle- and low-income households in urban China. Our research reveals that government-sponsored low-rent housing, as well as heavily subsidized economical and comfortable housing, accounted for only 7 percent and 4 percent of the total housing stock on average in urban areas, respectively (figure 1). In contrast, the two most prevalent types of housing are commercial housing (32 percent) and privatized public housing (34.2 percent).
Among the 256 prefecture-levels cities we studied, the median share of the total housing stock that was affordable housing was 5.57 percent. One-third of the cities had less than 5 percent of affordable housing in the total housing stock, indicating a seriously inadequate supply of affordable housing for low- and middle-income urban households. The underdeveloped private rental market in China further aggravates this problem.
Figure 2 reveals that investment in economical and comfortable housing has barely increased in contrast to the rapid rise of investment in commercial housing during the period between 1997 and 2007. The completed floor area of economical and comfortable housing as a share of the total decreased between 1999 and 2007, contributing to the chronic shortage of affordable housing in large cities. In addition, the eligibility criteria is either too high or the enforcement is problematic. As a result, figure 3 shows the coverage of affordable housing is overly broad, benefiting more high- and middle-income families than lower-income households, and thus causing accusations of corruption and calls for reform.
Third, local governments in China lack incentives and financial means to provide affordable housing. The fiscal reform of 1994 left subnational governments with the obligation to provide nearly 80 percent of total government expenditures, but with direct receipt of only 47 percent of total government revenues (Man 2010). Such fiscal imbalances, plus many unfunded central government mandates and expenditures related to interjurisdictional competition, have driven many local governments to rely on land leasing fees for revenue to finance infrastructure investment and economic development.
Local governments prefer offering state-owned land to the highest bidder among developers through the auction process to maximize revenue, and they have little incentive to provide land for the construction of affordable housing for low- and middle-income families. In addition, the financing of affordable housing in China depends upon funds from the Housing Provident Fund, but its deposits come from sources such as fees from land transfers that are unstable and inadequate to sustain affordable housing investment.
According to a recent report of the Chinese National Auditing Office (CNAO 2010), some cities, including Beijing, Shanghai, Chongqing, and Chengdu, have failed to collect the 10 percent of funds from the net profit of land transfer fees earmarked for low-rent housing construction as required by government regulations. A total of 14.62 billion yuan (about US$2.2 billion) was not collected during the 2007–2009 period, accounting for about 50 percent of the total 29.68 billion yuan (US$4.47 billion) that was due, according to CNAO’s survey of the 32 major cities.
Finally, the current affordable housing system in China is targeted only at urban residents who have city residence permits as part of its household registration system (commonly known as the hukou system). Migrant workers, floating populations, and others without urban residence permits are not covered. These people have to find shelter in the informal housing market, such as urban villages with substandard living and sanitation conditions.
Furthermore, this system suffers from poor administration, widespread corruption, and even fraud. For example, many ineligible applicants have received low-rent housing, and a number of high-income households own government-subsidized economical and comfortable housing units. At the same time, many qualified families have been denied housing assistance.
Conclusions
The rapidly rising housing prices and lack of affordable housing for low- and middle income urban households in China, particularly in big cities, have posed risks and challenges for a stable and harmonious society as sought by the Chinese central government. The current issues and challenges in the affordable housing system warrant attention and support from the Chinese government and the entire country to search for cost-effective and equitable public policies to deal with affordable housing needs to ensure sustainable development and a harmonious society in the future.
The government needs to redouble efforts to curb speculative housing activities, increase land supplies for affordable housing construction, and use fiscal policies and tax incentives to encourage private developers to participate in the provision and management of affordable housing. Moreover, China should establish an efficient and effective local public finance system and a modern property tax to diversify local government revenue sources. This would help reduce reliance on the leasing of public land for revenue and would encourage the supply of more land for low- and middle- housing. Chinese governments also should accelerate the development of private rental markets and encourage the private sector and nonprofit organizations to participate in the construction, financing, and management of housing for middle- and low- income families.
About the Author
Joyce Yanyun Man is senior fellow and director of the Program on the People’s Republic of China at the Lincoln Institute; director of the Peking University–Lincoln Institute Center for Urban Development and Land Policy in Beijing; and professor of economics in the College of Urban and Environmental Sciences at Peking University.
References
Chinese National Auditing Office (CNAO). 2010. Audit report on 19 municipalities and provinces for government-invested affordable housing during the period 2007 to 2009. No. 22. http://www.audit.gov.cn/n1992130/n1992150/n1992500/2596931.html
Demographia. 2009. The Fifth annual Demographia international housing affordability survey. http://www.demographia.com/dhi.pdf
Lin, Jiabin. Forthcoming. The design of China’s affordable housing system. In Low-income housing in China: Current issues and policy design. Beijing, China: Commercial Press.
Man, Joyce Yanyun. 2010. Local public finance in China: An overview. In China’s local public finance in transition, eds. Joyce Yanyun Man and Yu-Hung Hong. Cambridge, MA: Lincoln Institute of Land Policy.
Man, Joyce Yanyun, Siqi Zheng, and Rongrong Ren. 2011. Housing policy and housing markets: Trends, patterns, and affordability. In China’s housing reform and outcomes, ed. Joyce Yanyun Man. Cambridge, MA: Lincoln Institute of Land Policy.
Wang, Ya Ping. 2011. Recent Housing Reform Practice in Chinese Cities: Social and Spatial Implications. In China’s housing reform and outcomes, ed. Joyce Yanyun Man. Cambridge, MA: Lincoln Institute of Land Policy.
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Carlos Morales-Schechinger ingresó al IHS, el Instituto de Estudios sobre la Vivienda y el Desarrollo Urbano de la Universidad Erasmus en Rotterdam, Holanda, en el año 2008. Dicho instituto internacional atrae estudiantes de todo el mundo, en su mayoría de los países en vías de desarrollo. Algunos programas del IHS están organizados conjuntamente con el Instituto Lincoln.
Anteriormente, Morales se desempeñó como profesor a tiempo parcial en la Universidad Nacional Autónoma de México (UNAM). En los últimos 12 años, ha colaborado en forma regular en seminarios y cursos organizados por el Instituto Lincoln en toda América Latina. Su labor docente se centra principalmente en temas tales como instrumentos de recuperación de plusvalías del suelo, tributación sobre suelo e inmuebles, y políticas preventivas basadas en el suelo como alternativas a los asentamientos informales.
Morales ha ocupado diferentes puestos gubernamentales: se desempeñó como Director de Políticas e Instrumentos de Suelo en la Secretaría de Desarrollo Urbano de México, donde diseñó e implementó un ambicioso programa de reservas territoriales, y como director de política catastral del gobierno de la Ciudad de México, donde manejó una extensa reforma fiscal de los impuestos sobre la propiedad. También ocupó puestos en bancos públicos y privados en México, donde se ocupó de valuaciones inmobiliarias, hipotecas, administración de propiedades y préstamos para grandes desarrollos urbanos y para gobiernos municipales.
Morales obtuvo el título de grado en Arquitectura por la UNAM, un diploma en Financiamiento de Gobiernos Locales por la Universidad de Birmingham, Reino Unido, y una maestría en Estudios Urbanos por la Universidad de Edimburgo, Reino Unido.
Land Lines: ¿Cómo se involucró usted con el Instituto Lincoln?
Carlos Morales: Mi primer contacto fue a principios de la década de 1980, cuando asistí a una conferencia internacional patrocinada por el Instituto que tuvo lugar en Cambridge y que estaba relacionada con mi trabajo para el gobierno sobre políticas de suelo urbano. Las ideas que aprendí allí pude ponerlas directamente en práctica dos años más tarde cuando trabajaba en una reforma para aumentar la oferta de suelos con servicios en ciudades de tamaño mediano y logré subsidio cruzado para lotes con servicios para las familias de bajos recursos en México. A principios de la década de 1990, al estar trabajando para el gobierno de la Ciudad de México en una ambiciosa reforma del impuesto sobre la propiedad, asistí a otra conferencia del Instituto sobre tributación sobre la propiedad.
A partir del año 2000, participé en varias actividades educativas organizadas por Martim Smolka a través del Programa para América Latina y el Caribe. Alrededor del año 2004, el Instituto creó una iniciativa conjunta con el IHS y me contrató como uno de los conferencistas invitados por el Instituto para dictar clases en estos programas. Más adelante, me invitaron a ser parte del IHS a tiempo completo para manejar esta iniciativa conjunta.
Land Lines: ¿Cómo compara usted la efectividad de instituciones como el IHS y el Instituto Lincoln?
Carlos Morales: Creo que son complementarios. El Instituto Lincoln es líder en investigación y educación sobre políticas de suelo, con un enfoque internacional en América Latina y China. El IHS es reconocido por su tarea educativa y de formación de capacidades en temas de gestión y desarrollo urbano para una audiencia mundial, particularmente los países en vías de desarrollo y en transición. Los cursos del IHS se encuentran abiertos a estudiantes de todas las regiones, aunque la mayoría proviene de países de África, Asia, Europa Central y Europa Oriental. Mediante la iniciativa conjunta con el IHS, el Instituto Lincoln tiene la posibilidad de alcanzar a estudiantes de muchos más países de manera eficiente.
Land Lines: La tarea de transmitir conocimientos fundamentales sobre políticas de suelo y gestión urbana a profesionales no es fácil. En su opinión, ¿cuál es el enfoque más efectivo para lograrlo?
Carlos Morales: Es importante la combinación de dos factores: el perfil del profesor y una pedagogía adecuada. Los profesores deben tener experiencia tanto en lo práctico como en lo académico, para poder así responder las preguntas que resultan relevantes para los técnicos profesionales, especialmente cuando las respuestas impliquen alejarlos de su zona de confort y enfrentar algún tipo de desafío.
El objetivo último de las ciencias sociales es precisamente el de cambiar la realidad, no sólo entenderla. La consultoría acerca a los académicos a la práctica, pero no los confronta con el compromiso moral de implementar una política o con la responsabilidad ética de hacer que la política funcione en la realidad. La experiencia en la práctica directa es fundamental. Los programas del Instituto en América Latina emplean profesores con este perfil, quienes han probado ser efectivos al tratar cuestiones tales como el impacto de la tributación y las regulaciones en los mercados inmobiliarios y al escoger instrumentos de recuperación de plusvalías del suelo, ambos temas candentes en la región.
En cuanto a la pedagogía, los técnicos profesionales tienden a ser escépticos acerca de la teoría, ya que la consideran poco práctica y desean probarla para convencerse. El uso de ejemplos de políticas implementadas en otras ciudades resulta muy útil. Algunos estudiantes de países en vías de desarrollo no aceptan casos de países más desarrollados, ya que sostienen que sus estructuras de gobernanza son demasiado diferentes. Otros estudiantes prefieren casos de situaciones diversas, ya que, a pesar de las diferencias contextuales, aspiran a lograr mejores oportunidades de desarrollo para sus propios países. Un profesor debe tener un arsenal de casos diferentes para examinarlos cuando surjan las preguntas.
Los juegos de simulación también resultan una técnica muy efectiva. Los juegos de roles en los que los participantes compiten entre sí son los más útiles para comprender los mercados inmobiliarios y ayudar a resolver problemas. Los juegos de roles son muy reveladores, aunque los participantes no logren resolver los problemas, puesto que los motiva a preguntarse qué ocurrió. He visto cómo los participantes que experimentaron el fracaso en un juego comienzan a cooperar y a diseñar reglamentaciones ingeniosas por su propia cuenta. Otra estrategia es la de asignar a los participantes un rol que sea contrario a sus creencias o experiencias. Por ejemplo, los funcionarios gubernamentales que representan el papel de desarrolladores piratas descubren las grandes cantidades de dinero que tienen que gastar los pobres sólo para tener acceso a los terrenos.
Jugar al abogado del diablo funciona bien cuando se debaten conceptos controvertidos, como si los participantes estuvieran en un tribunal de tierras. Esta no es una técnica nueva, a menos que se juegue con algunas variaciones. Un ejemplo sería determinar los criterios para la compensación por expropiaciones. En este juego, un equipo sostiene ideas a favor de los valores de uso actual, y otro equipo, los valores de uso futuro. Se brinda literatura de apoyo e información práctica para que cada equipo pueda elaborar sus argumentos. Los profesionales de diferentes países pueden referirse a ejemplos de expropiaciones normativas, ya sean las expropiaciones ocurridas en China, las restituciones de terrenos en Europa Oriental o la venta de derechos de construcción en Brasil.
Debido a que los participantes deben defender una postura con la que no están de acuerdo, les resulta necesario estudiar y trabajar con más ahínco. En muchos casos, terminan cambiando de opinión o, al menos, identificando nuevos argumentos para su uso posterior en los debates con sus oponentes en la vida real. Al finalizar el juego del tribunal de tierras, el grupo que actúa como jurado vota dos veces en secreto: primero sobre al desempeño del equipo cuyos miembros actuaban como defensores; segundo, sobre los argumentos conceptuales. Cuando un equipo recibe más votos que la posición que defendían, queda claro que se necesita investigar el tema con mayor profundidad. Lo que más me gusta es que el juego no impone una posición a los participantes, sino que eleva el nivel de debate.
Land Lines: ¿Cuáles son los principales tipos de resistencia que existen en torno a los conceptos e ideas relacionadas con las políticas de suelo?
Carlos Morales: El concepto que con mayor frecuencia suscita resistencia tal vez sea la forma en que los impuestos y las normas se capitalizan en el precio del suelo. La resistencia puede provenir de un punto de vista ideológico (tanto la izquierda como la derecha tienen sus argumentos), del interés personal (los propietarios no aceptan fácilmente sacrificar sus ganancias) o de la ignorancia acerca de la forma en que funciona el concepto de capitalización. Como educador, es mi función tratar el tema de este último desafío.
Aunque a los profesionales se les explique la teoría, permanecen escépticos si su experiencia contradice la teoría. El malentendido puede surgir del hecho de referirse a un impuesto sobre un bien de consumo que no es tan escaso como el suelo, aunque también puede derivarse de la experiencia que tengan con los mercados inmobiliarios en sí. Esto ocurre cuando se presentan de forma conjunta dos políticas con efectos opuestos, como por ejemplo el aumento de las densidades y el aumento de los impuestos. El efecto combinado de estas medidas dificulta la comprensión del impacto que tiene cada una de ellas. Un juego de simulación puede ayudar a aislar cada impacto. Los profesionales deben experimentar con cada medida para poder entender mejor ambas políticas. He notado que a veces asienten con escepticismo cuando uno dicta la teoría, pero que luego sonríen con cara de “eureka” cuando logran comprenderla después de participar en un juego.
Land Lines: ¿Cómo supera usted la resistencia hacia temas tales como la recuperación de plusvalías?
Carlos Morales: Toda tarifa relacionada con el aumento de las densidades es una forma de recuperar la plusvalía del suelo, así como también una fuente de financiamiento de infraestructura, tal como lo está llevando a cabo la ciudad de São Paulo al cobrar por derechos de construcción adicionales. El debate sobre la forma en que esta política tiene un impacto sobre los precios de mercado es controvertido. Los propietarios no están de acuerdo, ya que esta política reduce sus expectativas de precios; por otro lado, los desarrolladores están a favor, ya que esta política reduce los precios del suelo y los pagos que se realizan a la ciudad vuelven en forma de obras públicas. Una situación similar se dio en Bogotá, cuando se creó un impuesto sobre la plusvalía del suelo.
Ambos casos resultan referencias útiles cuando se quiere explicar la recuperación de plusvalías del suelo en los países en vías de desarrollo, aunque es necesario documentar y divulgar más casos de ciudades, y algunos profesionales quieren ejemplos de países desarrollados. Esto no es fácil, ya que la recuperación de plusvalías del suelo es un término de moda en los círculos de América Latina, no así en la mayoría de los países desarrollados. Y esto no quiere decir que el concepto de recuperación de plusvalías no se utilice en los Estados Unidos u otros lugares, sino que se asume como parte del funcionamiento del mercado inmobiliario. Por lo tanto, los profesores tienen la función de resaltar esta cuestión y dar lugar a la posibilidad de compartir experiencias entre los profesionales provenientes tanto de países desarrollados como en vías de desarrollo.
Land Lines: ¿Qué podría comentarnos acerca de las dificultades que existen al tratar de transmitir conceptos sobre tributación a los planificadores?
Carlos Morales: Los planificadores aprenden acerca de los impuestos sobre la propiedad si estos son lo suficientemente altos como para tener un impacto sobre las decisiones que toman los propietarios, los desarrolladores y los usuarios del suelo, tal como ocurre en los Estados Unidos. En los países en vías de desarrollo, estos impuestos son, por lo general, tan bajos que no tienen un impacto sobre las decisiones del mercado, por lo que los planificadores no se interesan en ellos. Cuando participamos en juegos que ilustran el funcionamiento de los mercados de suelo a los arquitectos (quienes, con frecuencia, también son planificadores) y estos se dan cuenta de que la ciudad no está yendo hacia donde ellos esperan, su reacción más frecuente es la de sugerir más impuestos y mercados inmobiliarios más eficientes. Casi nunca proponen un plan de uso del suelo tradicional.
Land Lines: En su opinión, ¿cuáles son los conceptos o ideas fundamentales que podrían marcar la diferencia en el debate internacional sobre los mercados inmobiliarios urbanos?
Carlos Morales: Resaltar el hecho de que la recuperación de plusvalías del suelo es una fuente importante de financiamiento de infraestructura y prevención de asentamientos informales puede generar la participación de más partes interesadas en un debate serio. Las ideas relacionadas con la seguridad de la tenencia, el registro de inmuebles y los títulos de propiedad a fin de aumentar el acceso a préstamos han estado dominando las políticas, aunque los resultados no han sido tan positivos como se esperaba. Los asentamientos informales siguen desarrollándose y la prestación de servicios continúa bastante atrasada.
Aquellas políticas que tienen que ver con la tributación del suelo y las obligaciones —no solamente con los derechos de propiedad— tienen mayores posibilidades de mejorar el funcionamiento de los mercados inmobiliarios urbanos. UN-Habitat y el Banco Mundial adoptaron las primeras nociones de seguridad de la tenencia como una solución, pero ahora están comenzando a mostrar interés en los instrumentos de desarrollo urbano basados en el suelo. Las políticas de recuperación de plusvalías del suelo tendrán un efecto mañana, aunque su costo político se produce hoy, ya que entregar títulos de propiedad es barato y atractivo para los políticos de corto plazo. Este es el desafío que debemos enfrentar en el debate internacional con el fin de asegurar una reforma del mercado inmobiliario más efectiva y a largo plazo.
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When a handful of judges and tax experts met around a table at the Lincoln Institute’s original Moley House headquarters in January 1980, they could hardly have foreseen that their one-day seminar would initiate the major educational program for the nation’s state tax judges. Over the past 30 years, the Lincoln Institute has sponsored the annual National Conference of State Tax Judges as a means of improving land-related tax policy as applied and interpreted by adjudication in tax courts and tax appeal tribunals.
Participants in the conference include members of administrative and judicial tax tribunals who hear appeals of tax assessments, denials of refund requests, or other property tax disputes on a jurisdiction-wide basis in all 50 states, the District of Columbia, and the cities of Chicago (Cook County) and New York.
Tax Tribunals and Effective Tax Policy
Taxation is a highly complex and emotionally charged reality in countries throughout the world. Patrick Doherty, the past president of the United Kingdom’s Institute of Revenues, Rating, and Valuation, has observed that to be acceptable, it is not sufficient or sometimes even necessary for a tax to meet an abstract standard of fairness. The essential element is that the levy “feel fair” to the taxpayer. An open, accessible, timely, and unbiased forum for appeals is crucial to this sense of fairness.
Tax tribunals play a vital role in affording aggrieved taxpayers a fair opportunity for consideration of their claims. Legislation and regulation enunciate policy at general and sometimes abstract levels. The actual application of the law to specific factual situations and disputes effectuates that policy. Tax tribunal interpretations can carry the force of law and precedent. Judicial education is an investment in sound tax policy that, by reaching a targeted and highly influential audience, can reap public benefits long into the future.
Although consideration of appeals is central to any tax system, the special nature of the property tax increases the importance of access to a fair and equitable tribunal. Unlike income taxes withheld from one’s salary or sales taxes collected as part of numerous transactions and never totaled for the taxpayer, property taxes generally require significant and highly visible periodic payments. Furthermore, the intricacies of the income tax leave most taxpayers without any intuitive sense of potential errors in its calculation. The property tax, on the other hand, is usually based on fair market value, a dollar figure that a homeowner may be able to estimate with some precision.
The property tax is primarily a local tax that engenders a greater sense of personal involvement than levies that support more distant levels of government. Not incidentally, the property tax is also the primary focus of much taxpayer discontent. It is easier to mobilize opposition to a visible local taxing body than to state or federal revenue departments. State legislators are also far more receptive to pressure to constrain local revenues than to efforts to reduce their own budgets.
At the same time, property tax disputes may involve large business enterprises owning complex structures whose valuation may raise highly theoretical or technical questions. Courts may need to determine the value of manufacturing plants that can constitute the major portion of a locality’s tax base, or of property that is part of a going concern whose sale price represents intangibles such as business good will.
The Special Challenges of Judicial Education
The importance of judicial education is matched by the challenge of presenting ongoing, impartial, and up to date instruction, especially with regard to specialized subject matter. Judges grappling with complex factual and legal issues often face a lonely task, and specialized tribunals such as tax courts can be particularly isolated. Some state tax courts have only one member.
Before the establishment of the National Conference of State Tax Judges, no national association or other formal means existed for judges in one state to confer with colleagues facing similar issues in another jurisdiction. Training in highly technical tax issues requires faculty with specialized expertise and a sophisticated understanding of sometimes arcane provisions.
At the same time, judges must be far more cautious than lawyers in private practice when they seek advice and instruction. They must avoid even the appearance of special access or private influence, particularly when dealing with specialists who may at some point serve as expert witnesses or litigants in their courtrooms. Outside the judicial realm, many educational conferences are supported by commercial sponsors with special ties to the subject matter, but in the tax area these organizations and corporations would be the most likely to have a stake in future litigation. Public funding for judicial education is rarely a legislative priority, even when budgets are relatively generous, and is among the first items to be curtailed in economic downturns.
All of these factors present special hurdles to the development of effective, ongoing educational programs for members of tax tribunals. The success of the National Conference of State Tax Judges speaks to both the effectiveness of the Lincoln Institute’s support and the enthusiastic work of judges across the country who have found it a professionally and personally rewarding means of creating ties with colleagues in other states.
The judges who volunteer to produce each year’s program are the cornerstone of the organization. The planning committee members begin monthly telephone meetings soon after the close of the previous conference so they can evaluate participant suggestions and consider topics of particular current importance. Individual judges then contact scholars and professionals who can address these issues. Faculty members include academic experts in law and economics as well as legislators, policy analysts, appraisers, journalists, and specialists in fields such as housing and commercial property markets.
The central role of the judges themselves is highlighted by a session on case law updates. One of the most lively and interactive parts of the program, this forum offers the participants an opportunity to describe and comment on recent decisions of special interest in their own states. Judges submit these cases in the months preceding the conference to the session moderators, who have responsibility for choosing the cases to be examined and guiding the discussion. Moderating a conference of judges carries special challenges of its own.
Wide Scope within a Specialized Area
The range of topics covered by the conference reflects underlying property valuation problems confronted in changing economic, social, and technological conditions. In the early years, discussions included utility properties, office complexes, and rental apartments, whereas now the focus is likely to be subsidized housing, golf courses, or nonprofit landowners. More complex methods of valuation, made possible by the introduction of computer-based techniques, have also entered the agenda. What approach to value is best suited to a specific type of property? What properties are exempt from property taxation? How does one value properties that are partially taxable and partially exempt, such as a structure that includes a hospital (exempt) and doctors’ offices (taxable).
Tax exemptions for charitable institutions are often expressed in legislative language reflecting an earlier and far starker division between commercial and nonprofit enterprises, such as hospitals. Retirement communities that require significant initial and continuing payments may not fit the pattern of a “home for the aged,” just as a traditionally exempt YMCA may seem a commercial competitor to a neighboring health club. The continuing challenge of distinguishing exempt and taxable property takes on new forms over time.
Many similar issues of statutory interpretation and the application of legal analysis to new factual situations have been the subject of ongoing examination at the annual conference.
In addition to valuation questions of this sort, the conference agenda includes a session on developments concerning state income and sales taxes, and presentations on such topics as judicial writing, ethical issues, and the effect of business cycles on property markets. Judges serving on appellate courts and state supreme courts have also contributed their perspectives on tax decisions that reach them on appeal.
Times of economic stress also require special attention to case management, as property tax appeals increase when market values fall. Courts require flexibility and excellent procedures to offer taxpayers accessible, timely determinations under these circumstances, particularly since economic downturns usually bring reductions in state budgets, and the need to do more with less.
In times of rapidly rising prices, taxpayers are often pleased to see an assessment figure that has not kept pace with market values. In downturns, taxpayers are more likely to be disturbed if bills reflect an earlier assessment date when prices were higher. The Minnesota Tax Court, for example, saw a 50 percent rise in appeals from 2,954 in 2008 to 4,760 in 2009 (through November). The state’s Chief Judge George Perez, the current chair of the National Conference of State Tax Judges, explained, “There’s a direct inverse relationship between Tax Court filings and the economy. When the economy is down, numbers are up. When the economy is up and healthy, the numbers begin to drop.”
Evidence of Impact
Strong ties have been formed among the members of tax courts and tribunals from over 30 states and the cities of New York and Chicago who have participated in the judges’ conference. These connections, as much as the technical material covered at the conference, have provided a means of improving the judicial process. Many participants have observed that the conference has produced a positive impact on the quality of tax decisions.
Glenn Newman, president of the New York City Tax Commission and Tax Appeals Tribunal, says, “It is remarkable how many issues cut across state lines. The issues we all face can be discussed and analyzed, helping all participants focus and come to a clearer understanding.”
Michelle Robert, counsel to the Maine State Board of Property Tax Review, states, “This is a wonderful conference that offers attendees a forum for exchange of ideas and viewpoints in this are of the law that is truly not otherwise available.”
Chief Judge George Perez of the Minnesota Tax Court, the current conference chair, sums up these perspectives: “It’s the best seminar given for tax judges and tax officials.”
The conference’s contribution to improved tax policy is a tribute to the foresight of those who gathered at Moley House 30 years ago, and the current participants who are eager to carry that benefit to future tax judges as well.
“Through informal as well as formal discussions at the annual meetings, and frequent phone calls during the rest of the year, judges have been able to tap the knowledge, experience, and intelligence of their colleagues all over the nation. The National Conference has provided an introduction and a phone number that have helped many of its members make a better decision concerning issues that at an earlier point seemed intractable. These personal connections may be one of the Lincoln Institute’s greatest contributions to the improvement of tax policy through the improvement of state and local tax adjudication.”
—Joseph C. Small
About the Authors
Joseph C. Small is the retired presiding judge of the Tax Court of New Jersey and a former chair of the National Conference of State Tax Judges.
Joan Youngman is an attorney and senior fellow and director of the Department of Valuation and Taxation at the Lincoln Institute of Land Policy.
Even as the economy begins to recover from the greatest recession since the 1930s, the worst may be yet to come for state and local governments because their fiscal situations typically lag the general economy by two to three years. State budget deficits for FY2010 totaled more than 25 percent of general fund budgets—the largest budget gaps on record.
Making matters worse is the impending “stimulus cliff,” which arises because most of the roughly $135 billion in federal stimulus aid to state governments and school districts was used to help close state budget gaps in FY2010, leaving a small fraction of the aid for FY2011 (Lav, Johnson, and McNichol 2010). Even before the current recession, states faced substantial structural deficits. The U.S. Government Accountability Office (2007, 1) predicted state and local governments would face “large and growing fiscal challenges” within a few years time, and continuing through 2050.
These grim forecasts for state and local budgets have led some analysts and policy makers to call for reducing the size of state government, consolidating local governments, restructuring tax systems, and even changing state constitutions. According to Rob Gurwitt (2010, 18) of Governing magazine, the “fundamental assumptions about how state government operates need rewiring.”
Given the likelihood of a long-term state and local government fiscal crisis, property tax relief is an important state government function that is now more critical than ever. This article argues that most efforts to provide property tax relief, such as assessment limits and homestead exemptions, are inefficient and create substantial unintended consequences. Circuit breaker programs—a property tax relief mechanism first developed in the 1960s—deserve renewed attention in an era of streamlined state government because they target aid to those who need it most.
Alternative Approaches to Property Tax Relief
The property tax accounts for the largest share of own-source revenues for local governments, and is particularly suitable for funding local services for at least two reasons. First, it is a stable revenue source: property tax revenues do not fall dramatically during recessions as income tax and sales tax collections generally do. Second, property taxes are imposed on an immobile tax base: while people may have the option to buy the same goods in a nearby town with lower sales taxes, or move across state lines for lower incomes taxes, they cannot move their land across city lines to seek lower property taxes.
The property tax is not without problems, however. Chief among them are the disparities in property values across communities, an inexact relationship to taxpayers’ ability to pay, and the long-standing unpopularity of the tax. Its revenue importance means that improvement rather than elimination is the best way to address these problems.
Property tax relief can be provided in many ways, some of which are more effective and equitable than others. Wealth disparities among communities make locally funded property tax relief programs inherently problematic. Funding property tax relief at the state level is a better option, since communities with large concentrations of needy taxpayers are unlikely to have the resources to fund local-option tax relief programs. State funding also eliminates inequities in property tax relief among communities.
Assessment caps are used as a property tax relief measure in 20 states, and other states regularly examine proposals to employ such measures. A recent comprehensive study on assessment limits found, however, that “30 years of experience suggests that these limits are among the least effective, least equitable, and least efficient strategies available for providing property tax relief” (Haveman and Sexton 2008, 37). Assessment caps provide the greatest tax reductions to homeowners whose property values have increased the most. Even though such gains in housing wealth are not a liquid asset, tax relief should not be structured to provide the greatest benefit to those with the greatest increase in wealth.
Assessment limits also create horizontal inequities in cases where two homeowners with identical incomes and homes in the same community face dramatically different property tax bills solely because one owner has lived in the home longer. Fixed-dollar homestead exemptions are better, but still do a poor job of targeting homeowners with the highest property tax burdens, because they provide the same dollar value of property tax relief to all homeowners facing a particular tax rate, regardless of their income.
Residential property tax relief programs across the United States are seldom targeted by income—the best measure of a household’s ability to pay taxes. Of the 216 residential property tax relief programs in effect in 2006, only 81 took income into account when setting benefits by using an income ceiling, and only 37 programs set tax relief benefits that varied by income (Significant Features of the Property Tax 2010). Given the fiscal crisis, states should consider replacing untargeted property tax relief with circuit breaker programs that can provide relief to more households in need, without spending more money.
The Case for the Property Tax Circuit Breaker
When applied to property tax relief, the term circuit breaker is used to describe programs that provide benefits directly to taxpayers, with benefits increasing as claimants’ incomes decline. As an electrical circuit breaker stops the flow of electrical current to protect a circuit from overload, a property tax circuit breaker is a policy mechanism designed to stop property taxes from exceeding a claimant’s ability to pay, protecting the taxpayer from property tax overload.
A clear definition is critical since most states with true circuit breaker programs do not use that term to describe them. For example, Maine calls its circuit breaker program the Maine Property Tax and Rent Refund Program. Meanwhile, some states use the term to refer to property tax relief programs in which relief does not vary with income. In Indiana, a program is called a circuit breaker even though the program ties relief to property value, not to income.
Over the last 40 years, two-thirds of the states and the District of Columbia have adopted state-funded circuit breaker programs (see figure 1). Each of these programs satisfies the circuit breaker definition described above. However, the design of these programs, and consequently their effectiveness, varies considerably. Properly designed circuit breakers can target property tax relief more precisely and with less expense than broad-based mechanisms such as homestead exemptions and assessment caps.
Recommendations for a Circuit Breaker Program
We offer seven recommendations designed to obtain maximum benefit when creating or reforming a circuit breaker program. The New York case study presents the efforts of one state trying to reform its circuit breaker program (box 1).
Box 1: New York’s Effort to Provide Targeted Property Tax Relief
Policy makers in New York state are considering adopting a new, expanded circuit breaker program to provide more targeted property tax relief because the existing circuit breaker program does not provide adequate assistance. It currently excludes households with incomes above $18,000, and provides an average annual benefit of only $109 per claimant (Bowman et al. 2009).
The state’s primary means of providing direct property tax relief to households is the School Tax Relief program (STAR), which has three components. Basic STAR is available to all taxpayers on their primary residence, and exempts the first $30,000 in property value from school district taxes, with adjustments for municipalities where assessed values diverge from market values and for downstate counties with high real estate prices. Enhanced STAR exempts a higher value, and is available only to homeowners over age 65 with limited incomes. Middle Class STAR provided a rebate check that depended on households’ income and their other STAR benefits, but was repealed in 2009 for 2009–2010 and subsequent fiscal years.
STAR is an expensive program—the three property tax components cost about $3.9 billion in 2008–2009. However, because benefits are spread so widely, many homeowners still face excessive property tax burdens. According to the 2006 American Community Survey, even after accounting for reductions under the Basic and Enhanced STAR programs, 20.1 percent of New York homeowners paid more than 10 percent of their income in property taxes, while 52.6 percent paid less than 5 percent. By providing such generous relief to the second group, the state is not able to provide enough for the first. Also, by providing larger exemptions for counties with high house prices, STAR largely subsidizes households in property-wealthy communities, which makes the state’s property tax system more regressive (Duncombe and Yinger 2001).
To provide more targeted relief, several proposals have been introduced to establish a new circuit breaker program. During the 2005–2006 legislative session, Assemblywoman Sandy Galef and Senator Betty Little sponsored a plan with many desirable features: a multiple-threshold formula to make the distribution of tax relief more progressive; an income ceiling high enough to include all middle-income households; and a copayment requirement to discourage excessive spending by local governments. The cost would have been limited by making homeowners choose either circuit breaker benefits or Middle Class STAR.
The Omnibus Consortium put forward a proposal similar to the Galef–Little plan, but with two improvements. First, it includes renters. Second, it uses a graduated structure for the income brackets, so that a small income increase that moves a claimant from one bracket to the next does not result in a much larger decrease in circuit breaker benefits.
The consortium’s proposal was introduced in spring 2009 by Senator Liz Krueger and Assemblyman Steve Englebright; it is cosponsored by Galef, Little, and many other legislators. Once fully implemented this plan is estimated to cost $2.3 billion annually, which is 65 percent less than the cost of the 2008–2009 STAR property tax programs, even though the new plan would provide much more generous relief to households facing the largest property tax burdens.
Plans to pay for the circuit breaker have been clouded by the state’s repeal of the Middle Class STAR rebates in response to the 2009–2010 budget deficit. Governor David Paterson has also proposed a circuit breaker plan, which would tie circuit breaker benefits to a spending cap for state government. Annual spending growth would be restricted to inflation growth. When revenues exceed this limit, the surplus would be returned to homeowners via a circuit breaker. While this plan may seem attractive, it would accentuate budget cycles and result in unpredictable year-to-year fluctuations in tax relief for homeowners.
Given the state’s fiscal crisis, creating a new circuit breaker program now seems more difficult than when the Galef–Little bill was being actively debated in the 2006–2008 period. Still, it is a positive sign that many legislators and the governor are all advancing targeted and cost-effective circuit breaker proposals, and have repealed the expensive and untargeted Middle Class STAR program.
Provide property tax relief to owners and renters of all ages. Currently, more than two-thirds of state circuit breakers do not cover nonelderly households, and a quarter of programs do not cover renters. Restricting eligibility to seniors is based on the false assumption that age is a good proxy for property tax burden. In fact, while the elderly have higher property tax burdens on average, Census data show elderly and nonelderly homeowners both devote about 35 percent of their incomes to all home ownership costs combined (Bowman et al. 2009, 11).
Furthermore, circuit breakers eliminate the need to use age as a rough proxy for property tax burdens since they target relief based on each household’s income and property tax liability. States should also provide circuit breaker benefits for renters, because they pay property taxes indirectly as part of their rent and they generally have lower incomes than homeowners. States that cover renters typically estimate renter property tax payments by specifying a percentage of rent equivalent to property taxes, most commonly 20 percent.
Avoid low income ceilings and restrictions on maximum benefits.
Many circuit breakers fail to provide meaningful tax relief because they have low income ceilings that exclude middle-income households, or low limits on maximum benefits that result in inadequate relief. For example, Oklahoma’s circuit breaker program restricts eligibility to claimants with incomes below $12,000 and caps relief at $200. In 2008, almost three-quarters of state circuit breaker programs had income ceilings below the national median household income of $50,223. In the current fiscal crisis, states should take care to set appropriate limits to restrain the cost of circuit breaker programs without rendering these programs ineffective.
Use a multiple-threshold circuit breaker formula.
States use three basic types of circuit breaker formulas: threshold, sliding-scale, and quasi circuit breakers. Threshold circuit breakers are the only type that bases tax relief directly on property tax burdens—that is, the percentage of income spent on property taxes. Using multiple thresholds will result in a more progressive distribution of benefits.
Threshold formulas provide a benefit for the portion of a claimant’s property tax bill that exceeds set percentages of income. For example, the Massachusetts circuit breaker, which is limited to taxpayers over age 65, uses a 10 percent single-threshold formula. The taxpayer is responsible for the entire tax bill up to 10 percent of household income, while the circuit breaker benefit offsets the tax bill above this threshold, up to a maximum benefit of $960.
Multiple-threshold formulas set multiple threshold percentages that increase from the lowest income bracket to the highest, with these thresholds usually applied incrementally like a graduated income tax. Maryland uses four threshold percentages: the circuit breaker benefit offsets any property tax liability above 0 percent of income for the first $8,000 of income, above 4 percent for the next $4,000 of income, above 6.5 percent for the next $4,000 of income, and above 9 percent for income of $16,001–$60,000.
Sliding-scale formulas reduce property taxes by a set percentage for each income bracket, with lower relief percentages for higher income brackets. All claimants in a given income bracket receive the same percentage of relief regardless of their property tax bill.
Quasi circuit breakers use multiple income brackets to target benefits to low-income households; benefits are determined without reference to a claimant’s property tax bill, except that they cannot exceed the actual property tax paid. A few states use hybrid circuit breakers that employ elements of all three types of formulas.
Ensure reliable state funding.
Even generous circuit breakers can become ineffective without reliable state funding. Circuit breaker benefits should be treated as an entitlement, rather than relying on budget appropriations that can result in pro-rated benefits (as in Iowa), unpredictable annual changes in formulas (as in New Jersey), or elimination of benefits in some years (as in California). Unpredictable fluctuations in circuit breaker benefits are difficult for taxpayers to manage and can have potentially dire consequences on household budgets.
Given the disparities in property wealth across municipalities, it is important for circuit breakers to be funded by the state, rather than at the option of local governments. Because of differences in program design and participation levels, the costs to state governments of existing circuit breaker programs vary considerably, ranging from .004 percent to 6.3 percent of property tax collections among 14 states where program cost data are readily available (Bowman et al. 2009, 20).
Use copayment requirements with threshold circuit breakers.
States that use threshold formulas should relieve only a portion of property taxes exceeding the threshold. The remaining difference between the taxes exceeding the threshold and the circuit breaker benefit may be considered a copayment. Copayment requirements are important for avoiding inefficient increases in local spending. If a circuit breaker shields taxpayers from 100 percent of any property tax increase, they have no incentive to scrutinize increased local spending since they will benefit from better public services without any increase to their tax bill.
Deliver circuit breaker benefits in a timely and visible way.
States use three methods of distributing circuit breaker benefits: rebate checks, income tax credits, and property tax credits or exemptions. A property tax credit reduces the tax bill based on a property’s full assessed value, while an exemption reduces a property’s assessed value.
Providing benefits through a property tax credit or exemption has two key advantages over rebate checks or income tax credits. First, taxpayers receive an immediate reduction in their property tax bills instead of facing a delay between the date they pay their property taxes and the date their circuit breaker application can be processed. Second, taxpayers observe the benefit as property tax relief instead of mistaking an income tax credit for income tax relief. Since renters do not pay property taxes directly, their circuit breaker benefits can be dispersed through a rebate check.
Use a public outreach campaign.
Low participation is a common problem among existing circuit breaker programs. Taxpayers will not apply for benefits if they are not aware of the program, or if they do not believe they qualify for benefits. To increase awareness and participation, states may promote programs through print advertising, broadcast media, and/or speaking tours. The Internet is a particularly useful and low-cost tool for circulating up-to-date program details including deadlines, contact information, printable claim forms, or online applications. Some states are able to enlist the help of nonprofit organizations in promoting participation if the group views the circuit breaker program as supporting its mission. For example, the Gerontology Institute at the University of Massachusetts promotes that state’s program as part of its efforts on behalf of the elderly.
Conclusion
The current fiscal crisis may usher in a new era for state governments under intense pressure to redesign programs to “do more with less.” Property tax relief is a core function of state governments, and it can be made more fair and cost-effective by using a circuit breaker program. This policy tool is designed to stop the property tax from exceeding a taxpayer’s ability to pay by targeting tax relief to those who need it most.
A majority of the states currently employ circuit breakers, but most programs fall short of ideal leaving ample room for improvement. New York’s poorly targeted property tax relief system, for example, could be replaced with an expanded circuit breaker that provides more help to taxpayers overburdened by the property tax, but costs less than the current program. Circuit breaker programs can also help strengthen the property tax itself as a mainstay of local government finance.
About the Authors
Daphne A. Kenyon is principal of D.A. Kenyon & Associates, a public policy consulting firm in New Hampshire, and a visiting fellow at the Lincoln Institute of Land Policy.
Adam H. Langley is a research analyst at the Lincoln Institute of Land Policy and a graduate student in economics at Boston University.
Bethany P. Paquin is a research assistant for D. A. Kenyon & Associates and the Lincoln Institute.
The authors thank Frank Mauro of the Fiscal Policy Institute in New York State and Joan Youngman of the Lincoln Institute of Land Policy for helpful information and comments on previous drafts.
References
Bowman, John H., Daphne A. Kenyon, Adam Langley, and Bethany P. Paquin. 2009. Property tax circuit breakers: Fair and cost-effective relief for taxpayers. Cambridge, MA: Lincoln Institute of Land Policy.
Duncombe, William and John Yinger. 2001. Alternative paths to property tax relief. In Property taxation and local government finance, Wallace E. Oates, ed., 243–294. Cambridge, MA: Lincoln Institute of Land Policy.
Gurwitt, Rob. 2010. Broke and broken. Governing 23 (4): 18-23.
Haveman, Mark and Terri A. Sexton. 2008. Property tax assessment limits: Lessons from thirty years of experience. Cambridge, MA: Lincoln Institute of Land Policy.
Lav, Iris J., Nicholas Johnson, and Elizabeth McNichol. 2010. Additional federal fiscal relief needed to help states address recession’s impact. Washington, DC: Center on Budget and Policy Priorities, January 28. www.cbpp.org
Omnibus Consortium. 2010. Summary of Omnibus Bill Circuit Breaker. http://omnibustaxsolution.org/overview.html
Significant Features of the Property Tax. 2010. Residential property tax relief programs. www.lincolninst.edu/subcenters/significant-features-property-tax/Report_ResidentialRelief.aspx
U.S. Government Accountability Office. 2007. State and local governments: Persistent fiscal challenges will likely emerge within the next decade. July 18. GAO-07-1080SP.
