Friday, December 22, 2006

Adventures in Property Tax Deform

In at least one Louisiana parish, some folks are pushing to change the way property taxes are administered by putting a cap on the amount by which a home's taxable value can grow from one year to the next.

As the Times Picayune explains, this idea is being championed by the assessors themselves in St. John the Baptist Parish.
Whitney Joseph Jr., the St. John assessor who is leading the effort to amend property tax rules, has not determined the exact limit he wants for the annual property tax increases. But he admires the 2 percent cap that California passed in 1978 with Proposition 13... "Hurricane Katrina not only devastated people's lives as far as destroying their properties, but it also increased the market value on things," Joseph said. "Everything went up. Insurance is going up on homes because of Katrina and now we are going to have to double or triple your taxes. Something has to be done."
But market value is supposed to be the basis for measuring a homeowner's ability to pay taxes. What's so wrong with that? Here's Joseph's take on this:
"This is not normal growth, people were coming in and desperate to buy homes," Joseph said. "They lived cramped in homes with their family and in hotel rooms, and when they received the insurance money they wanted to buy homes. They came in and started buying. I don't think they cared about how much they cost."
The "let's cap assessed value" approach is wrong in general because it makes property taxes more unfair, as we've discussed elsewhere. The first step in making property taxes fair should be ensuring that they're based on what a home is actually worth-- and assessed value caps basically abandon this fairness goal. Caps basically say that the (typically poorer) people who live in undesirable neighborhoods should have to pay a higher property tax rate than otherwise identical people who live in popular neighborhoods. (This is because poor people will be paying tax on 100% of their home's value, while wealthier people will be paying on less than 100% of their value due to the assessed value cap.)

But there's a new twist here. Whitney is basically arguing that the yardstick Louisiana is using for measuring a homeowner's ability to pay taxes-- market value-- is simply a flawed measure in Louisiana right now. He's arguing (implicitly, at least) that post-hurricane real estate speculation has created a temporary bubble in real estate values that shouldn't be reflected in the property taxes people pay. A house that sold for $50,000 six months before Katrina is selling for twice that in Katrina's wake, and that (he argues) is a bubble that won't last.

At the heart of Whitney's criticism is a basic truth about the property tax: for a lot of homeowners, a lot of the time, the "market value" of a home is pretty irrelevant to your short-term well-being. In the property tax world, a booming real estate tax market can make you "rich" pretty fast by jacking up your home's value, but if you have no plans to sell anytime soon, this doesn't make you "rich" in a way you can appreciate at all. The only real impact is that your property taxes go up.

In the long run, of course, the use of market value as a yardstick is defensible because when you sell your house, you will absolutely enjoy the benefits of your home's growing value-- unless it turns out to be a temporary bubble. And Whitney is basically saying that's exactly what is going on with Louisiana.

We've argued in the past that assessed value caps are just a bad idea because they create a gap between a home's assessed value and its actual worth. But if there's ever a time when these caps are appropriate, it's probably when a home's "actual worth" is being temporarily inflated due to a real estate bubble. At first glance, it's a compelling argument.

And yet. For every home that has rapidly appreciated due to the recent wave of speculation, there's another home in a lousy neighborhood that isn't appreciating. And property tax caps, even in Whitney's "bubble" scenario, inevitably result in a tax shift away from the rapidly appreciating home toward the lousy-neighborhood home. That sort of tax shift is unfair in a way that assessed value caps can never justify: seeking to fix one perceived source of tax unfairness by making taxes even more unfair in a different way.

There's a lot more to discuss here. From a practical perspective, there's the whole question of, if you're gonna have a tax cap, what that cap should be. The 2% cap implicitly suggested by Whitney's comments about California would be dangerously low, for reasons we'll discuss another day. But for the moment, the thing to remember is that Whitney's attempt at making the property tax less unfair would create a whole new kind of unfairness-- and one that would make affected homeowners just as mad as the current bubble is doing.

Monday, December 18, 2006

Business Giveaways-- or Smart Tax Policy?

"Economic development" was one of the main topics Louisiana Governor Kathleen Blanco wanted to put on the state legislature's agenda when she called the just-ended December special legislative session. But throughout the session, the media focused its attention primarily on Blanco's proposal to set aside $300 million in incentives to attract a new steel mill to the state.

This is too bad, because there were a couple of other state tax reforms on the agenda that made a lot of sense-- with a couple of caveats.

House Bill 67 was, on its face, a sales tax cut for business. In particular, the bill would have accelerated the implementation of a sales tax cut that was enacted in 2004. The 2004 tax cut (House Bill 2 of the 2004 special legislative session) gradually eliminated the state sales tax on the machinery that manufacturers buy for use in, well, manufacturing things.

There's a pretty straightforward reason why manufacturers shouldn't pay sales tax on machinery used in the manufacturing process. The sales tax is supposed to apply only to retail sales-- purchases of finished product for personal consumption by the purchaser, like furniture, a book or a DVD. When the tax applies to sales of products that aren't being purchased for purposes of consumption-- like the lathing equipment that a furniture manufacturer uses to make a chair-- the manufacturer pays the sales tax initially. But when it sells the chair to a wholesaler, it passes the sales tax on to the wholesaler in the form of a higher sales price. The wholesaler passes that higher price on to retailers, who in turn charge consumers more for the chairs they buy. And the final consumer-- a Louisiana resident who buys a chair-- is effectively paying sales tax twice (once for the actual retail sales tax on his purchase, and once for the manufacturer's sales tax that is embedded in the sales price).

It could get worse. Suppose the Louisiana sales tax applied to furniture wholesalers too. Then the Louisiana resident would end up paying sales tax three times when he buys a chair.

This process-- where a sales tax levied on different stages of production gets passed through to final consumers-- is called pyramiding. Pyramiding affects different industries (and different retail products) differently, in unpredictable and unfair ways. The more stages of production in a good are taxed, the more pyramiding there is, and the higher the sales tax on the final consumer.

So when the state legislature moved in 2004 to gradually exempt the manufacturing machinery bought by manufacturers, they were taking a good step toward eliminating pyramiding, and making the sales tax more rational and fair.

They were also taking a very expensive step, which is why the 2004 legislation phased in this exemption very gradually-- between 2005 and 2010. So when it became clear this fall that the state was facing budget surpluses (at least in the short run), lawmakers sensibly decided to try and accelerate the phasein. As the special session dissolved into partisan chaos, the sales tax bill fell by the wayside (as did almost all of Blanco's goals for the session).

And that's mostly too bad. But here are two caveats:
1) Using surpluses to fund tax cuts only makes sense when you've got a long-term, recurring surplus. Paying for a permanent tax cut with temporary money is a recipe for fiscal disaster--and no one in state government is saying that the state is permanently awash in funds. So there are real questions about whether the accelerated cuts would have been affordable.
2) Accelerating the tax cut for all manufacturers is a fine thing, if it's affordable. But one bill that was floated during the special session would have basically accelerated the tax cut for one company: General Motors. House Bill 15 would have immediately exempted "certain machinery and equipment of motor vehicle manufacturers with an NAICS Code beginning with 3361." The official fiscal note for HB 15 notes that "Proponents of the bill have indicated that it is intended to provide a full tax reduction to the General Motors facility in Shreveport."

This is the wrong way to tackle this problem. GM shouldn't get special treatment simply because it's got more effective lobbyists than other Louisiana industries affected by the sales tax. Carving out special preferences for particular companies heightens the perception that legislation, and tax legislation in particular, is being bought and paid for by moneyed interests. This perception (which is unfortunately correct all too often) undermines public support for adequate and fair taxation.

There's a lot of unfairness in the Louisiana tax system, and eliminating pyramiding in the sales tax base is only part of the answer. But let's hope that when lawmakers return this spring to deal with important questions of tax fairness and adequacy, they attack the pyramiding problem in an even-handed and affordable way.

Special Session Goes Down in Flames

The December special session of Louisiana's state legislature, called by Governor Kathleen Blanco earlier this month, ended on Friday with little to show for it. Blanco was hoping for a variety of new tax breaks, added spending, and a package of economic incentives to help attract a steel mill to the state. All she got for her troubles was the steel-mill incentives. Tax cuts were part of the debate right up until the end: lawmakers debated cuts that would have been most valuable to low-income families as well as tax cuts reserved for upper-income Louisianans. An ITEP analysis of these tax cuts can be found here.

This story has a lot of interesting facets that are worth exploring: whether the steel-mill incentives have been well designed, and whether the tax cuts being considered were well-designed, to start with. But one interesting development is the allegation, by some observers, that the whole thing was sabotaged in the name of political gamesmanship-- and in a way that was unusually partisan by Louisiana standards.

Folks inside and outside of the legislature are calling the prematurely-ended session a sign that there's now a level of partisanship among lawmakers that didn't exist previously. The Times-Picayune reports the dismay of one lawmaker at the fact that, during a critical point in the session, the two party caucuses met separately to discuss their legislative strategies:
Rep. Troy Hebert, D-Jeanerette, said he could not recall another time when the caucuses broke off from the chamber to discuss legislative strategy.
"That's the saddest day I have seen in this chamber for the 11 years that I have been here," Hebert said as the House was debating for the second time Tuesday whether to raise the cap.
"When Hunt Downer was speaker, there was not an aisle in
this House," Hebert said, referring to Blanco's chief liaison to the Legislature, a Republican who was speaker under Gov. Mike Foster.
From a national perspective, this hardly seems like the end of the world, of course: there's a huge continuum between simply recognizing that parties exist (which I think is what an "aisle" does quite well!) and creating the sort of scorched-earth atmosphere that has pervaded Washington DC for the last decade. But there's no question that Louisiana faces some pretty hefty fiscal policy decisions in the near future: if these decisions are, in fact, being clouded by partisan judgments, that would be a shame.