Paul L. Caron

Friday, August 14, 2020

Weekly SSRN Tax Article Review And Roundup: Eyal-Cohen Reviews Hayashi & Kleiman's Property Taxes During The Pandemic

This week, Mirit Eyal-Cohen (Alabama) reviews Andrew T. Hayashi (Virginia) & Ariel Jurow Kleiman (San Diego), Property Taxes During the Pandemic, 96 Tax Notes St. (June 22, 2020):

Mirit-Cohen (2018)

This important and timely Article puts a much-needed spotlight on cities and counties currently battling the pandemic on the front lines by providing essential services from healthcare to trash pickup with limited revenue sources.  State and local governments employ 20 million workers and contribute more than twice as much to national GDP as the federal government. Many public services such as firefighters, police, and public hospitals are largely funded at the local level. Thus, ensuring the continuation and stability of local government will also affect the pace of the economic recovery and the aftermath of the current pandemic. While emergency financing funds may be available to smaller cities and counties they are limited and short-termed.  In order to survive this crisis, localities need flexible tools and this Article attempts to do so.

Meanwhile, real property taxes make up nearly half of local government own-source revenues thus they play an important role in local governments’ responses recessions. 

Property tax is valuable to local governments because it is fairly stable over time while sales and income tax revenues drop tremendously with rising unemployment that lowers consumption rates. Accordingly, this Article lays out a property tax reform proposal aiming to make local tax policies more responsive to economic conditions while protecting vulnerable taxpayers and ensuring continued democratic participation during the pandemic and after. The challenge here is to balance between the need of local governments to raise revenue in order ensure proper local services without unduly burdening homeowners. 

Much of the stability of property taxes is derived from state and local rules that limit annual increases in tax rates, property assessments, or revenue collections that are beneficial in phasing out the effect of falling property values on state and local budgets.  Nevertheless, these state rules are a double-edged sword. While helping maintain budget stability these limitations cripple local governments’ ability to increase property taxes, modify property valuations, and lifting the ceiling on tax rates. These legal limitations make sense in ordinary circumstances but require cumbersome electoral approval and multifaceted procedures to execute tax changes, which during social distancing stalls everything, creating fiscal rigidity, and increasing the risk of financial disaster for localities.

The Authors argue that in order to strike that right balance state legislatures need to amend their laws to allow local governments greater fiscal flexibility in responding to the pandemic by delegating maximum authority to differently situated local governments, eliminating voter approval requirements for property tax increases (if not permanently then for two to three years) in order to allow time for recovery from the crisis. They exemplify Rhode Island, which allows a locality to do so if it “experiences or anticipates” an emergency.

Likewise, another important aspect of the proposal is for local governments to increase the revenue collected from real property tax. The Authors point out that the advantages of raising property tax are apparent when compared with increasing local sales taxes or fees and fines. Unemployment rates greatly decrease household consumption during the pandemic, thus increasing sales taxes is unlikely to raise much revenue. Increasing fines or ad hoc fees such as school lunch programs, waste management, and airports, will have a narrower application and a disparate impact on the poor and racial minorities.  On the other hand, unemployment will not likely to affect property tax collection greatly, and if so, it will be short-termed and fall mostly on construction and development. Moreover, raising property tax is not likely in the short run to generate much avoidance behavior, especially if it is publicized as crucial to fund essential services needed by residents during the pandemic. In fact, the Authors predict such property tax increases may be more politically acceptable compared with other tax increases considering the distribution of such extra burden in proportion to home prices, which are usually a practical indicator of household wealth. While intuitively this seems right, there are many real-life examples of property tax formulas that give much weight to the location and neighborhood rather than idiosyncratic features of the property or the household such as age, condition, stage of development, migration elasticity etc. These factors may render adjacent properties equal in property tax burdens regardless of the fact that one is occupied by a new professional couple who just moved in and renovated the property, another is by a senior citizen who bought the property 40 years ago, or alternatively by students renting the property during their course of study. These differently situated taxpayers have distinct migration elasticities and abilities to pay, which are not accounted much, if any, by current property tax formulas as well as this Article.

In order to increase collection of revenue and the equitable distribution of the tax burden, the Authors propose that tax authorities adopt a more graduated rate structure and increase the progressivity of their local property taxes. Here, it would have been interesting to see data comparing the distributional effect of introducing more property tax breakers compared to adding zero or lower brackets due to exemptions and deferrals. Current progressivity of property tax is strictly dependent on applying homestead exemptions or providing circuit breakers for low-income homeowners. The Authors suggest expanding tax deferral options (that create tax lien on the property) and enacting new Pandemic Unemployment Assistance programs to benefit low and middle-income households. Providing such tax relief programs is an essential part of their proposal seeing that nowadays many homeowners are liquidity-constrained and massive wave of default on home mortgages or property tax bills could create a devastating wave of mortgage or tax lien foreclosures. At the same time, they hold that property values should be calculated on a per-square-foot basis in order to prevent taxpayers from circumventing the tax by subdividing their properties.

Indeed, a key concern in the Authors’ proposal is upholding stable housing security during the pandemic to maintain community support networks that fill the gaps of government assistance programs. Foreclosures and evictions that lead to taxpayers moving in with friends, relatives, or crowded homeless shelters may exacerbate the public health crisis. Dislocation mortgage defaults, and foreclosures increase crime rates, have negative spillover effects on adjacent homes and neighborhoods, and can lead to a downward spiral of home prices and property tax revenues. For that reason, the Authors suggest homeowners be given longer grace periods to pay back property tax debts of at least an additional year and to cure any property tax deficiency accrued during the COVID-19 crisis. Escrow account should be adjusted down accordingly. In a similar manner, property tax liens sold to investors, should bear reduced statutory interest and penalty rates payable to tax lien purchasers for at least several years following the COVID-19 crisis so investors will not profit from those left most vulnerable by this catastrophe.

Lastly, current notice and public engagement methods that are cumbersome, ineffective, and resource intensive should be revised. The Authors propose to divert temporarily from “truth in taxation” public disclosure requirements to reduce burdens on local governments in the current circumstances and allow greater flexibility. Such a provisional step would provide relief to local governments already struggling to sustain local services and would accommodate ongoing social distancing requirements. They propose to utilize instead alternative notice and hearing methods, online ads and voter surveys, social media campaigns, and targeted outreach via community organizations. This certainly can and should be done regardless of the pandemic and has been already the practice in several localities.

Here's the rest of this week's SSRN Tax Roundup:

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