Paul L. Caron
Dean


Saturday, August 31, 2019

Nobel Laureate In Economics: Property Tax = Income Tax On Housing

Eugene F. Fama (University of Chicago Booth School of Business; 2013 Nobel Laureate in Economics), Property Taxes:

It is often claimed that home ownership is a good deal because the housing services it provides are in effect untaxed income. My simple point is that the property tax paid by a home owner is in effect an income tax on housing services.

For example, the annual real estate tax on my Chicago house is about 1% of the market value of the house. Suppose the market value of the house is $1 million, so the annual property tax is $10,000. In Chicago, annual rental rates are about 5% of house value, or $50,000 for a $1 million house. The $50,000 annual rental rate is an estimate of the annual value of the housing services provided by the house. If I rent the house to someone, I get $50,000 per year in rental income. If I live in the house, I still implicitly get the $50,000 rental income, which I implicitly spend on housing services. The $10,000 annual property tax is thus a 20% tax on the implicit annual rental income from the house.

https://taxprof.typepad.com/taxprof_blog/2019/08/property-tax-income-tax-on-housing.html

Scholarship, Tax, Tax Scholarship | Permalink

Comments

When the property owner rents the house out and receives rental income subject to actual income tax, does the property tax go away?

Posted by: Not a Nobel Prize Winner | Aug 31, 2019 8:15:33 AM

I'm no Nobel laureate but isn't the issue that both an owner-occupant and renter have to cover property taxes but the renter has to continually pay out of after-tax income (which is taxable to the landlord too) for the benefit of staying?

Posted by: Anand Desai | Aug 31, 2019 10:21:09 AM

This does not seem as simple as the author makes out. To the extent that the property tax is a charge for local services (such as schools and policing) its economic effect is not the same as that of an income tax. To the extent that the incidence of the tax is on the occupant (who might be an owner or renter) then it is a tax on consumption of housing services. This is relevant to the question of whether the income tax distorts housing consumption choices. But what is the question?

Posted by: Victor Thuronyi | Aug 31, 2019 11:19:55 AM

I know I’m not a Nobel laureate, but what is the point of this? If Prof Fama actually rented out his home as a business, then for federal income tax purposes he would deduct the $10,000 in property taxes; ignoring other expenses, he would have $40,000 in taxable income, on which he would pay $14,800 in tax. (Professors with million dollar homes usually are in the top tax bracket, and I am treating this business as coming on top of his other income). He would be left with $25,200 after both taxes, for an effective tax rate of about 50%. The imputed income “property tax as income tax” rate of 20% still sounds pretty good to me; that is, while there of course is a property tax burden associated with the imputed housing services income, such that this income is not free of all taxes, it is still heavily tax-favored when contrasted with the actual business alternative. (If we were to set about actually taxing imputed housing services, we would allow deductions in constructing the imputed taxable income, with the same result as the actual business hypothetical.)

As an aside, and as Prof Fama knows far better than I, asset taxes are capitalized into asset prices, so that after-tax normal returns are more or less the same across different asset classes. (Tax free municipal bonds are not really tax free; their higher price/lower yield represents an implicit tax, just one that doesn’t flow to Treasury.) Here you have a classic problem of status tax arbitrage, in which different buyers have different personal effective tax rates applicable to their investment in this class of assets (housing). (Kleinbard, The Lessons of Stateless Income, 65 Tax Law Rev. 99, 118-24.) Buyers who are consumers of the property’s housing services face a much lower effective tax rate than do buyers who are market landlords. In a market where the marginal buyer is an imputed income tax buyer, I wonder whether renting out this million dollar property is the best way to invest $1million?

Posted by: Edward Kleinbard | Aug 31, 2019 12:06:14 PM

Mr. Fama's claim is that a tax on property is a tax on the income from that property. Why does he think this is new? This was the Supreme Court's reasoning in Pollock v. Farmers’ Loan and Trust Company in 1895, which struck down the income tax as an unapportioned tax on property.

Posted by: Theodore Seto | Aug 31, 2019 1:25:49 PM

But, but, but we're told your house is NOT an asset! BWHAHAHAHA. This proves the silliness of that entire idea.

Posted by: josh scandlen | Aug 31, 2019 5:06:50 PM

@ Josh, I sure hope you're not counting on that "asset" for your retirement. Every head needs a pillow.

Posted by: Dale Spradling | Sep 1, 2019 7:43:19 AM

Did you actually read the actual article or just the summary?

The point at the end of the (very brief) article was that an asset (wealth) tax that appears to be small (1%) can be viewed as a tax on the value of income that could be generated from that asset at a much higher rate (20%). That 20% rate is much higher than states/localities tax other income. Usually that would be 3%-7%. The point is to be careful in the wealth-tax discussion to consider that a small asset-tax rate, is actually, from one point of view, a several times higher income tax rate than is applied to other income.

Posted by: Jon | Sep 2, 2019 8:28:15 AM

If it were a tax on just housing, hundreds of thousands of small farm and ranch owners would be dancing in the streets, since they are also being taxed on some hypothetical valuation of land (often "best use", since it is burdensome to qualify for agricultural exceptions) under the assumption they could develop it at some point in the future (ignoring the ever-changing regulatory hurdles of developing land now and in the uncertain future) and subsequently destroying their chosen lifestyle.

Posted by: ruralcounsel | Sep 3, 2019 3:50:06 AM

Why is the property tax assessed every year? Perhaps it would be more fair if applied only when bought and sold. Over thirty years, look how much tax is paid. Much more than 1 or 2 percent, that’s for sure. It is possibly the largest cost of home ownership.

Posted by: Jborg | Sep 11, 2019 11:33:44 AM