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An argument in favor of a tax reform program in the united states

A guideline for paying state income tax across multiple states

X X raise local revenue for education. That is, provided a decision is made to lodge significant responsibility for raising revenue at the local level, the local property tax is preferred to other local taxes for that purpose. That analytical conclusion is depicted in Table 8-1 by the designation of property taxes as the single revenue source for local school districts.

While local sales and income taxes are potentially feasible and are currently used in some states, the property tax is the preferred option.

At an argument in favor of a tax reform program in the united states state level, the relevant major revenue sources are state income and sales taxes, with 41 states using income taxes and 45 using sales taxes.

States traditionally have not made much use of state-level property taxes to finance education. However, several states have recently shifted toward statewide property taxes or their equivalent, and other states could do so as well. Hence, along with state income and sales taxes, we identify statewide property taxes as a larger potential source of revenue for education than in the past. Although the federal government now provides only about 7 percent of the revenue for K-12 education, in principle it could do a lot more.

In the absence of major tax reform at the federal level in the form, for example, of a shift away from the federal income tax to a value-added tax or other form of consumption taxationthe relevant revenue source for education at the federal level is the federal income tax.

After evaluating the property tax in some detail, this chapter addresses four questions about the revenue system. The first question is whether the mix of local taxes should be altered by reducing reliance on the property tax and increasing reliance on other local taxes or a modified version of the property tax.

The second is what state revenue source would be best if heavier reliance were to be placed on state revenue sources. The third is whether it would make sense to shift away from local revenue raising in favor of much greater reliance on state revenues. And the fourth is whether it would be desirable to increase significantly the federal role in revenue raising for K-12 education. Raising Revenue Fairly and Efficiently. The National Academies Press. This close relationship suggests to some people that the property tax should be evaluated as a benefit tax—that is, as a tax that is specifically paid for the services provided by a community, rather than in more standard ability-to-pay terms, which examine the distribution of the tax burden separately from what the funds are used for.

When looked at as a benefit tax, the local property tax appears to perform better on efficiency grounds and, according to some people, also better on equity grounds than when it is looked at through the lens of the more traditional tax literature. In the following sections we refer to both perspectives.

Efficiency Most taxes induce some inefficiency by encouraging taxpayers to alter their behavior in ways that would reduce their tax liability.

Polls: Americans Aren't Buying Key White House Arguments For Tax Overhaul

In the case of the property tax, the standard concern is that households will respond to the tax by investing less in housing or that firms will respond by investing less in property subject to the property tax or by shifting their investments to areas with low property tax rates Mieszkowski and Zodrow, 1989. In contrast to this emphasis on the inefficiencies of the tax, the benefit-tax approach emphasizes that the local property tax may generate efficient decisions, especially with respect to the level of education services.

Particularly in large suburban areas where households can choose among many small, relatively homogeneous school districts, households gain access to the education services provided by a district in return for paying its local property tax. Presumably, people will have a tendency to sort themselves among districts in line with their preferences for education, so that those with stronger preferences for education will end up in districts with more education and higher property taxes than those with weaker preferences.

In effect, the property taxes act more like prices that consumers willingly pay for education than compulsory taxes.

  • Those economists who emphasize that the local property tax is like a benefit tax would typically defend it on fairness grounds by appealing to the benefit principle of tax equity;
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This analogy is particularly apt, according to the advocates of this perspective, when local zoning regulations ensure that residents in each school district end up in houses that are similarly valued, so that they pay similar property taxes for their uniform public education see Hamilton, 1975; Fischel, 1992; Hoxby, 1996b.

This view, which is generally consistent with the well-known strand of public finance literature initiated by Charles Tiebout in 1956, draws attention to the efficiency benefits that accrue from local provision and financing of public goods. Significantly, however, the benefit-tax approach would apply to any local tax, not just to the local property tax. That is, the efficiency claims for the property tax relate more to the governmental level at which revenues are raised than to the desirability of the property tax or any other specific local tax.

For this reason, we defer to later in the chapter a fuller discussion of the potential trade-offs between efficiency and an argument in favor of a tax reform program in the united states that might arise with a shift to a larger state role in education finance.

Page 235 Share Cite Suggested Citation: In light of these limitations, it seems reasonable to treat the property tax like other taxes and to recognize that it will induce some distortions in behavior.

Because all taxes induce distortions, the relevant question from this more traditional perspective then becomes how the distortions associated with the property tax compare with those associated with other potential local taxes, such as the income or the sales tax. Fairness There is little doubt that many taxpayers view the local property tax as unfair.

In 1978, for example, voters in California shocked the nation by supporting Proposition 13, a statewide initiative to reduce drastically the level and rate of growth of local property taxes.

Massachusetts voters followed with their own stringent tax limitation measure two years later. While the motivation for these and other measures to limit property taxes are obviously mixed and complex, voters appear to have been motivated in part by their perception that the local property tax was unfair.

Further evidence of continuing taxpayer dissatisfaction regarding the property tax emerges from annual surveys administered between 1972 and 1994 by the U.

Advisory Commission on Intergovernmental Relations. During that period, between 25 and over 30 percent of the respondents consistently rated the property tax as the least fair tax compared with federal and state income taxes and the state sales tax and typically much less fair than the main alternatives to property taxes for financing education, state income and sales taxes.

Taxpayers have lots of reasons for believing the property tax is unfair. Many of these relate to the way the tax is administered e. Compared with other taxes such as income and sales taxes, the property tax is more difficult to administer fairly because it requires that property be assessed. Ideally, the assessed value of a property should reflect its market value.

However, where there are few market transactions, the value of the property must be approximated by one of several imperfect methods. It is not surprising that the assessment of property is subject 1 These and other factors are explored by Citrin 1979 in California, Gramlich and Rubinfeld 1982 in Michigan, and Ladd and Wilson 1982 in Massachusetts.

Page 236 Share Cite Suggested Citation: Another complicating factor is that any given parcel of property is likely to be subject to taxation by several local authorities, such as a county government, a municipality, a school district and perhaps several special-purpose districts. Such complexity may well confuse local taxpayers and make them view the overall burden as unfair.

Finally, the fact that property taxes are typically levied only once or twice a year makes them more visible than income taxes, which are largely collected through withholding, or sales taxes, which are collected in small amounts at the cash register.

Other reasons for concern about the fairness of the property tax arise in particular circumstances. In California in the late 1970s, for example, part of the concern arose from the rapidly rising housing values and the three-year assessment cycle, which combined to produce huge increases in property valuations and tax burdens in a single year, increases that bore no relationship to the taxpayer's ability to pay as measured by current income.

In Massachusetts, the high levels of property tax burdens made the tax difficult for some taxpayers to accept. Beyond some of these taxpayer concerns, many of which are clearly valid and reflect underlying problems with how the tax is administered, experts in public finance also have much to say about the fairness of the property tax based on the two basic principles of tax equity.

However, as the committee discovered, not all economists agree. Those economists who emphasize that the local property tax is like a benefit tax would typically defend it on fairness grounds by appealing to the benefit principle of tax equity. According to this principle, a tax is fair if the burden of the tax is distributed among taxpayers in line with the benefits they receive from the services funded by the tax.

However, in the committee's view the benefit principle is not very applicable in this context, largely because it is based an argument in favor of a tax reform program in the united states an unacceptable ethical foundation. Because the demand for education is highly correlated with parental income and education, this approach to equity would accept as fair differences in education levels across jurisdictions that correspond to differences in preferences and family ability to pay for education.

Although such a pattern increases the efficiency with which education is provided in the sense that those who have greater willingness to pay for education get more compared with a uniform state-wide level, the committee sees no reason to assert that such an outcome is fair, especially given the acknowledged significance of education to a child's life chances.

An additional complication arises in using the benefit principle to evaluate the equity of property taxes because of the phenomenon of tax capitalization. For example, if two school districts provide similar education services but one does so at a lower tax rate perhaps because of the presence of a power plant in the districthomeowners are likely to have bid up housing prices in the low-tax Page 237 Share Cite Suggested Citation: Thus what may appear as an inequity—the fact that households in one community pay a lower tax rate than those in the other for the same services—turns out not to be an inequity if one takes into consideration the fact that the households paying the lower tax rate pay more for their housing.

From this perspective, the key question is: How regressive is the property tax? It turns out that there is no simple answer to this question.

The incidence of the property tax has, in fact, been one of the most controversial topics in the field of local public finance.

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The new view, in contrast, emphasizes that the property tax is a tax on wealth, so that the ultimate burden of the tax is distributed in line with earnings from wealth. Since those earnings rise disproportionately with household income, the tax burden, according to this view, could be progressive—that is, the tax would place a heavier burden on higher-income households than on lower-income ones. Fortunately, as noted by McLure 1977the two views can be reconciled by interpreting the old view as one component of the new view.

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  3. Particularly in large suburban areas where households can choose among many small, relatively homogeneous school districts, households gain access to the education services provided by a district in return for paying its local property tax. First, from an equity perspective, the administration of the property tax leaves a lot to be desired and inevitably leads to the unfair treatment of some taxpayers.
  4. State programs can be added within the program for an additional cost.

In particular the old view is most applicable to differences in property tax rates across jurisdictions. This reconciliation leads to the general consensus that what makes the property tax regressive is the differences in tax rates across jurisdictions.

Regressivity emerges to the extent that higher property tax rates are levied in districts with above-average proportions of poor households and lower rates in districts with richer households. However, a different conclusion emerges for property tax rates that cover a broad geographic area like a large state. In this case, the new view would be more applicable, which would mean that the burden of an increase in the property tax rate is likely to be proportional or even relatively progressive.

This observation suggests that a shift away from reliance on local property taxes with their tax rate differentials that make the tax regressive to a statewide property tax could well make the tax system fairer.

Any policy that would change property taxes, such as increased reliance on alternative revenue sources, will generate windfall gains in housing values to those whose taxes fall and losses to those whose taxes rise. Similarly, the positive effects on poor people of equalizing aid that allows poor jurisdictions to lower tax rates or increase the quality of their education services could be offset in part by a rise in housing costs.

However, if the low-income residents are homeowners, they also benefit from the higher value of their an argument in favor of a tax reform program in the united states see Wyckoff, 1995. Page 238 Share Cite Suggested Citation: First, from an equity perspective, the administration of the property tax leaves a lot to be desired and inevitably leads to the unfair treatment of some taxpayers.

The committee would support ongoing efforts to administer the tax as fairly as possible. As spelled out by Netzer and Berne 1995: However, these latter inequities result more from the fact that many states place such heavy reliance on local—in contrast to state—revenue sources rather than to the property tax itself.

This conclusion about regressivity implies that converting the local property tax with its variation in tax rates across jurisdictions to a statewide uniform-rate property tax an argument in favor of a tax reform program in the united states well improve the fairness of the revenue system.

It would eliminate most of the regressive element that arises from the differential tax rates across jurisdictions and would eliminate the spending disparities that arise from the variation in local property tax bases. However, the committee is well aware that some people would argue that any gains in equity either in the fairness of the revenue system or in the form of a more even pattern of spending across districts from a shift to statewide taxes could come at a potentially large cost, namely the loss of local control and more efficient decision making that flows from local school districts having access to their own source of revenue.

In light of the concern about local control and efficiency, it is worth examining first how the property tax stacks up against other local taxes that might be used by local school districts. An alternative approach would compare tax burdens across households as a proportion not of their current income but rather of their lifetime or "permanent" income. Such an analysis would make the property tax look less regressive and more proportional, given that household spending on housing is typically found to vary in line with a household's permanent income.

It is worth noting, however, that if one is going to look at the incidence of property taxes in terms of permanent income, one must also examine the incidence of other taxes in similar terms. For a discussion of these issues in the context of excise taxes, see Poterba, 1989; Lyon and Schwab, 1995.

Hence, any change in tax structure would require attention to these arbitrary gains and losses. Page 239 Share Cite Suggested Citation: The two major candidates to replace the local property tax are the local income tax and the local sales tax. Alternatively, one could imagine modifying the local property tax by applying it to residential property alone or by sharing the revenues across communities within a metropolitan area.

Local Income or Sales Taxes A somewhat stronger case can be made for replacing the local property tax with a local income tax than with a local sales tax, but even here the argument is not compelling. Strauss 1995 tries to make the case for a local income tax with particular reference to New York State.