Policy Options for Taxing Real Property Enid Slack Institute on Municipal Finance and Governance IPTI Conference Prague, Czech Republic August 23, 2005

Policy Options for Taxing Real Property: Introduction Property tax is important for local governments: Generates significant revenue Essential tool for local autonomy Property tax policy has implications for how the tax works and for the operation of local governments Economics principles and political realities often dictate different tax policy decisions

Outline of presentation Economic principles for designing a good tax Unique features of the property tax that affect policy choices Tax base (land versus land and improvements, exemptions, method of assessment) Tax rates Property tax relief Tax administration

Economic principles for designing a good local tax Equity based on benefits received Equity based on ability to pay Efficiency Accountability Stability and predictability Ease of administration

Unique features of the property tax Visible Inelastic Immovable Based on benefits received Local autonomy Arbitrariness of tax base

Choice of tax base Land only: Land and improvements: Provides incentive to develop land Progressive in incidence Problems with accurate evaluation Fewer potential revenues Land and improvements: Discourages investment in property Less progressive Easier to evaluate under some circumstances Lower tax rates to achieve same revenues

Tax base - exemptions Some properties are exempt in most countries (churches, cemeteries, government properties) Inequitable Affects location decision Disproportionate tax burdens across municipalities Implications for economic competition

Tax base - exemptions What needs to be done: Minimize exemptions Payments in lieu on government properties Grants instead of exemptions Assessed values for exempt properties

Assessment Methods Area-based assessment Value-based assessment Unit assessment Unit value assessment Value-based assessment Market value assessment Rental value assessment Self assessment

Area-based assessment Per unit assessment: rate is levied per m2 of land area, building or a combination of the two Unit value assessment: assessment rate per m2 is adjusted to reflect location or other factors

Market value assessment Price between a willing buyer and a willing seller in an arm’s length transaction Approaches to estimating market value: Comparable sales Depreciated cost Income

Rental value assessment In theory, tax on rental value should be equivalent to a tax on market value In practice, rents reflect current use and not highest and best use Difficult to estimate rental value when there are rent controls Issues around vacant land

Area-based versus value-based assessment Market value is preferred because it: Reflects benefits from local services Captures neighbourhood amenities Is less regressive than area-based Less inequitable over time Can move from area to value-based

Self assessment Tendency for under-estimation Needs verification process Requires taxing authority to buy property at self assessed value

Tax rates Need for local taxing authority Limits to avoid tax competition and tax exporting Differential rates to reflect: differential benefits received mobility of capital land use objectives

Property tax relief measures Relief measures can vary according to: Characteristics of the property (residential or non-residential) Characteristics of beneficiaries (e.g. seniors) Whether they are permanent or transitory

Property tax relief measures Property tax credits Tax deferrals Exemptions Grants Tax reductions, cancellations or refunds Tax limitations (e.g. Proposition 13)

Property tax relief measures Relief schemes make tax more acceptable to taxpayers Tax limitations are inequitable and inefficient Property tax freezes break the link between expenditures and revenues Difficult to end transitional measures

Tax administration Tax administration has impact on revenue yield and efficiency and equity of the tax Elements of tax administration: Property identification Assessment Tax collection and enforcement

Conclusions Need to design property tax system that is politically acceptable, administratively feasible, and adheres to economics principles