The Property Tax is a Progressive Tax
by M. Mason Gaffney
Resources for the Future, Inc.,
Washington, D.C.
[Reprinted from the
Proceedings of the Sixty-Fourth Annual
Conference on Taxation,
sponsored by the National Tax Association,
1971.1
Introduction
"The regressive property tax" has become a common block phrase
among economists and in the popular press. President Nixon's support
for revenue-sharing is increasingly based on the need to protect the
poor from heavy property taxes. Some prominent tax economists are
favoring even sales taxes to make the tax system more progressive, by
lowering the property tax. (1)
Even local income taxes, which are mainly payroll taxes, are being
advanced to relieve property and the poor.
1 Joseph Pechman, "Fiscal
Federalism for the 1970's,' National Tax
Journal 24 (3): 281-90 (September 1971), p. 284.
I find this implausible. To own property is to be rich, in the
measure that one owns, and to tax the quality of richness should not
be presumed to burden the poor more than the rich. As to the
elderly, it is only traditional for interest groups to hide behind
selected widows, and one should rarely take such appeals at face
value. And so I propose critically to examine the bases for alleging
the property tax to be regressive.
The Founding Fathers regarded property taxes as redistributive and
equalitarian. James Madison wrote:
In England, at this day, if elections were open to all
classes of people, the property of landed proprietors would be unsure.
... Landholders ought to have a share in the government, to support
these invaluable interests, . . . . They ought to be so constituted as
to protect the minority of the opulent against the majority.(2)
Madison also wrote ". . . the most common and durable source of
factions has been the various and unequal distribution of property."
He foresaw that the landless majority might use government to
redistribute property. "To secure ... private rights against the
danger of such a faction ... is then the great object......
(3)
2 Cited in Louis Hacker,
Triumph of American Capitalism (New York:
Columbia University Press, 1947). p. 187. (Hacker does not give the
original source.)
3 The Federalist #73, cited in Charles Beard, An Economic
Interpretation of the Constitution (New York: The Macmillan Co.,
1935), pp. 156-58. (Later note added, 4/99. Correct source is The
Federalist #10 - check Beard.)
The constitutional safeguard which the Founders established is the
"regulation of apportionment."
"Representatives and direct taxes shall be apportioned among the
several States which may be included within this Union, according to
their respective numbers, . . . ." (4
)
4Article 1, sec. 2, clause 3;
and sec. 9, cl. 4.
It was designed to win the support of property owners by assuring
them that the new federal government would be financed mainly by
excise taxes rather than property taxes
(5) and that when property taxes
were used, states above average in property per capita would be
spared.(6 )
5 A. Hamilton, The Federalist
#12.
6 Charles Beard, An Economic Interpretation of the
Constitution,
op. cit., p. 169. See also pp. 100-03, on Hamilton's support from
speculators in western lands.
Property qualifications on voting
were widespread at this time. In the opinion of conservative people
they barely sufficed to exclude
from the suffrage such shiftless persons as had no visible interest
in keeping down the taxes." (7)
Throughout the 19th century the suffrage was extended (it is not
universal even yet), and government functions increased. Public
schools became popular, and increasingly tax-financed. E.R.A.
Seligman seems to perceive the property tax as redistributive in
opposing exclusive reliance on it: ". . . it involves some risk for a
small class to pay the taxes and for a large class to vote on
them...... (8) (Ironically,
Seligman is known as a proponent of the ability ethic of taxation.) A common argument for sales and income
taxes over property taxes is
their "broad base," discouraging the poor from voting for public
extravagance. "Broad-based" seems quite like "regressive."
7 John Fiske, The Critical
Period of American History (Cambridge:
The Riverside Press, 1888), p. 70.
8 Essays in Taxation (London: Macmillan and Co. Ltd., ?th ed.
1919), p. 78.
Property qualifications for the vote are not dead. Special
improvement district boards throughout the west are elected by
landowners alone (notably excepting California Wright Act Irrigation
Districts). The prevailing argument for limited suffrage is that so
nicely distilled by Seligman
supra.(9) In the
settlement of the west, the county property tax was traditionally the
fiscal means by which small settlers and homesteaders asserted some
public equity in the lands of large absentees, ranches, and
speculators. In some areas, owners
covering whole counties (like
Kenedy County, Texas) refused to sell to immigrants, to keep them
from voting and raising county taxes -- which the big owners
evidently perceived as redistributive. Company towns like Arvin,
California, have been kept unincorporated to keep migrant laborers
from using the property tax on the owners. All of northern Maine is
unincorporated, ostensibly because Great Northern and a few other
paper companies want to avoid letting immigrant voters tax their
property. Similarly, industrial tax enclaves in metropolitan areas
keep out resident voters. In the Southeast half the poor have been
disenfranchised because of poll taxes and race. The southeast relies
less on the property tax than other regions. If the property tax
were regressive the dominant minority would seem rationally to have
imposed it on the disenfranchised poor. Instead they pioneered the
state sales tax.
9 See Wells Hutchins, Irrigation
Districts, US. Department of
Agriculture Technical Bulletin #254, 1931, pp. 15-16.
H.D. Simpson has pointed out how property owners favored the
"contract" as opposed to "organic" theory of government. Under the
contract theory, property could be charged only for benefits received
(rather narrowly construed). Under organic theory, the public
asserts its equity for redistributive ends, taxing ad valorem without
reference to the source of value. "The opponents of expansion (of
public services), representing largely the property classes who would
have to carry the cost of these expansions and who would participate
least in their benefits, necessarily fell back on the Benefit Theory,
. . ." (10) The benefit or
contract theory lives today under the saying that property should
only pay for services to property, not services to people. The
animus is that property taxes to finance schools are redistributive.
Services to property are often opposed, too. Property taxes to
finance any mass system that favors small over large holdings inspire
resistance in the spirit of attorney Maxwell's image of water
districts as "Communism and confiscation under guise of
law." (11) Such language
suggests these taxes were viewed as progressive, and the history of
irrigation shows they were indeed the weapon of small farmers against
large.(12)
10 H. D. Simpson, 'Historical Development of the Property
Tax from the Legal Viewpoint," American Economic Review (September, 1939),
pp. 457-67, p. 462.
11 Fallbrook v. Bradley, 1895, 164 U.S. 112.
12 Albert Henley, "Land Value Taxation by California Irrigation Districts," in
A. Becker (ed.), Land and Building Taxes (Madison: University of Wisconsin
Press, 1969), pp. 137-46.
It is quite a wrench to shift from this historical perspective to
the modern image of the property tax as regressive. But times have
changed, and even the modern examples could be exceptional and
atavistic. Also, today we have the income tax as a reference datum. Allegations of property tax regressivity
usually imply a contrast
with the income tax, lacking in Madison's day and weak in Seligman's.
Current and recurrent proposals for property tax relief entail
substituting income tax (and other state and federal tax) revenues
for property taxes. To meet the argument in its strongest general
form, therefore, we must compare property and income.
To define and narrow the issue I am
making, I here define the property tax as one levied at a uniform rate
on the base of the capital
value of property as revealed by the current market. This is a
property tax reduced to its essence, stripped of the regressivity
that may result from maladministration and Balkanization, which are
not the issues I raise here because they are not peculiar to the
property tax. Maladministration often
entails regressive assessment,
a serious problem. But all taxes are applied regressively, and for
about the same unhappy reasons related to legal costs and financing
politics. The income tax may be the worst administered of the lot,
in this respect. It is an unbalanced literature that would compare a
badly run property tax with an idealized income tax.
As to Balkanization, this
is not inherent in the property tax as
such, but in local taxation as such. A
local income tax similarly
lets tax havens attract the rich by low rates. Wisconsin
municipalities, indeed, have a local income tax (state-collected and
returned). Since the rates are common, regressivity takes the
indirect form of higher services and lower local property taxes in
the favored enclaves, but it is nonetheless a feature of local income
taxation. California, on the other hand, may move to a statewide
property tax in response to the recent state Supreme Court decision,
bringing in to finance education not only the property of Emeryville
and the Cities of Commerce and Industry, but also rich, undertaxed
farm, timber, recreational, and above all, mineral-bearing real
estate.
To hang the tax enclave problem on the
property tax as such would,
therefore, be an example of the fallacy of identification, one which
I seek to avoid here by focusing on property value -- the ideaized tax
base -- rather than collections.
Today's common concept of
regressivity owes much to an early work
by Musgrave, Carroll, Cook, and Frane.(13)
Their
selection of data sources, assumptions,
concepts and methods set a pattern followed in many later studies
which repeated the general finding, with individual variations. It
is my thesis that the finding is inherent in the sources,
assumptions, concepts and methods, not in the subject. To
demonstrate this I make four points:
- property
ownership is much more concentrated than income;
- the property tax
is not primarily shifted forward, as assumed;
- the studies commit
basic errors of correlation analysis with systematic biases toward
their conclusion; and
- the studies misdefine both income and property,
again with systematic bias toward their finding.
13 "Distribution of Tax Payments by Income Groups: A Case
Study
for 1948," IV, National Tax Journal (1): 1-53, March, 195 1. For a list of others
see Dick Netzer, Economics of the Property Tax (Washington, D.C., Brookings Institution,
1966), pp. 247 ff., and the
Netzer book itself, Chap. III.
A. Property
Ownership Is More Concentrated Than Income
To begin, a large share of the adult population -- half, as a rough
measure -- are renters and own no meaningful value of taxable property
at all. Most of these essentially propertyless adults do earn
taxable wage income. (We consider later whether property taxes are
shifted onto them.)
Savings rise with income, faster than income. With savings one
acquires property, and we would naturally expect therefore higher
income groups to own property in proportion to their greater saving,
which is a disproportionately high share of their high incomes. And
we would also expect a high share of high incomes to come from
property.
Musgrave et al. support this. They rank 1948 U.S.
"Spending Units" by income and group them, using Treasury sources of
data. The highest class got 23% of the income, but 78% of dividend
income and 45% of rental income, and only 12% of the wage and salary
income.(14) Other sources might
be cited, too.
14 Musgrave, et al, op. cit., Table 1, p. 11.
Musgrave et al. omitted capital gains. These are probably
the most concentrated source of income, and of course
property-derived. Realized gains swell from virtually nothing at the
$10,000 income level to about half of income at the million dollar
level.(15) Unrealized accrued
gains, which we should include in a proper Haig-Simons income
concept, are probably larger yet, and more concentrated. There are
no easy data on this, but several a priori and indirect reasons to
think them concentrated. The rich have a comparative advantage in
waiting for deferred cash. They are known to favor growth stocks,
undistributed profits, speculative landholdings and unripe minerals,
major sources of unrealized accruals.
15 Business Week, March 29, 1969, p. 96, "Making the Burden
More Equal," citing the Brookings Institution.
Among those who do own material amounts of property, concentration
is high relative to that of income. The top 10% of income receivers,
as income is usually defined and reported, get about 30% of all
income. Every study of property owners shows figures in another
ballpark altogether. Table 1 summarizes what several such studies
show about the top group. Note that most of these figures show only
concentration among those who own enough property to be counted, thus
understating concentration among the whole population.
TABLE 1.
-Share of Wealth Held by Top Wealthholders
|
Investigator
|
Kind of Wealth
|
% of Holders in Top Group(s)
|
% of Wealth in Top Group(s)
|
FTC a
|
U.S. Estates, 1926
|
0.1
|
8.5
|
"
|
U.S. Estates, 1926
|
2.5
|
46
|
Smith and Calvert b
|
U.S. Wealth, 1958
|
1
|
24
|
Lampman c
|
U.S. Wealth, 1961
|
1
|
28
|
U.S. Census d
|
U.S. Farm Acreage, 1949
|
2.3
|
43
|
R. Nader el al. e
|
Calif. Acreage, 1971
|
<.01
|
14
|
M. Gaffney f
|
Milwaukee, CBD, east side, assessed value, 1968
|
10
|
60
|
M. Gaffney g
|
Milwaukee Industrial Real Estate, assessed value, 1960
|
10
|
89
|
1
|
59
|
Same, land area
|
10
|
75
|
TNEC h
|
U.S. Corporate Shares
|
3
|
50
|
Crockett and
Friend i
|
U.S. CorporateShares, 1960
|
0.1
|
20
|
1
|
50
|
Judiciary Comm., U.S. Senate j
|
Shares of GM, 1956
|
<.01
|
33
|
Lydall and Lansing k
|
U.S. Net Worth, 1953
|
10
|
56
|
U.S.D.I. k
|
Federal Coal Leases, 773,000 acres, 1970
|
10 holders
|
49
|
a U.S. Federal Trade
Commission, National Wealth and Income, Senate Doc. No. 126, 1926, p.
59.
b James Smith and Staunton Calvert, "Estimating
the Wealth of Top Wealth-holders from Estate Tax Returns," American
Statistical Association, 1965 Proceedings of the Business and Economic
Statistical Section, Table 5, p. 258.
c Robert Lampman, The Share ot the Top Wealth
Holders in National Wealth (Princeton: Princeton University Press,
1962), updated to 1961 by Lampman in Business Week, "Rich Get Richer
-but not for Long," January 27, 1962, p. 3 1.
d 1950 U.S. Census of Agriculture, Vol. 2, Ch.
10, p. 775.
e Robert FeUmeth (ed.), "Power and Land in
California" (Washington: Center for Study of Responsive Law (1971)),
Preliminary Draft (mimeo), Vol. 1, p. I-17.
f Data taken from City of Milwaukee assessment
rolls and ranked by Patricia Bevic, research assistant.
g I ranked 626 City of Milwaukee industrial ffi=
by value, data collected by Norbert Stefaniak.
h Temporary National Economic Committee,
Monograph 29, Distribution of Ownership of the Largest 200
Non-financial Corps. (Washington: GPO, 1940), pp. 37 ff. and Monograph
30, Survey of Shareholders In 1710 Corps, P. 50.
i James Crockett and Erwin Friend,
"Characteristics of Stock Ownership," American Statistical Association,
1963 Proceedings, reported in Milwaukee Sentinel, September 18, 1963.
j Bigness and Concentration of Economic Power-a
Case Study of General Motors. Staff Report, Subcommittee on Antitrust
and Monopoly, Committee on the Judiciary, U.S. Senate, 84th Cong., 1st
Sess. (Washington: GPO, 1956), P. 7.
k Harold Lydall and John Lansing, "A Comparison
of the Distribution of Personal Income and Wealth in the US. and Gt.
Britain,' AER 49 (1): 43-67 (March 1959), (using data from University
of Michigan Survey of Consumer Finance).
l U.S. Department of the Interior, 'Working
Paper' (unpublished), cited in Milwaukee Journal, August 29, 1971.
|
Wealth is measured by value in all cases except where acreage is
specified (rows 4, 5). Here, some will object that the acreage
measure overstates concentration, on the premise that large holdings
of acreage are below average in unit value. But even if they are, to
accept that objection from this premise would be a splendid case of
regression fallacy. When we move to the value measurement we must
rerank the owners on the new basis, and the new top group would
consist in part of different individuals. And there is no way to
know whether the new top group would have a higher or lower share,
short of actually reranking, regrouping, and recounting.
Most data sources don't do this for us, but a few such comparisons
may be found. A special U.S. Census study of the ownership of rented
farms in 1900 measured them both by area and land value. By area,
the top 45% had 83%. By value, the top 45% had 85%.16 In 1951
Danish farming: by area, the top 2% had 14%; by value, the top 1.3%
had 14%.(17) For Milwaukee
industrial real estate, I ranked firms in 1960 by both land area and
land value (my mass appraisal). By area, the top 10% had 75%; by
land value, 76%. For the Milwaukee CBD (east side) 1968, I ranked
owners by area and land assessment (City Tax Commissioner's
appraisal). By area, the top 10% had 48%; by assessed value, 60%.
(Preliminary, subject to adjustment.)
16 U.S. Census of Agriculture 1900, Part 1, pp. xc, xcil
17 Danmark's Statistik Arbog, 1953, p. 50.
These scraps of evidence show there is no presumption that acreage
rankings overstate concentration of wealth as a general rule,
although they doubtless do in some regions.
Corporate shares are not taxable property, but of course corporate
income is mostly derived from taxable
property.(18) Some will object
that corporations have many owners and should not be treated as
single units. That is true, but again, it smacks of regression
fallacy. Wealthy owners also have many corporations, and in general
corporate shares are the most concentrated kind of asset.
18 For an exegesis on this point, cf. the writer's "Adequacy
of Land as a Tax Base," in Daniel Holland (ed.), The Assessment of Land Value
(Madison: University of Wisconsin Press, 1970).
Ownership of large property gives one control of other assets.
Property is borrowing power and credit rating: all studies show
interest rates to be very regressive with size and quality of
collateral, and terms easier. But simple borrowing is only the
beginning. With great wealth one goes into banking and exerts
multiple leverage. The story has been told many times, if not as
well, since Brandeis' Other Peoples' Money: collateral,
leverage, conglomerates, interlocking directorates, mergers, lender
suasion, industrial leadership, pyramiding, the Wallenberg Grip,
subcontracting market power, control of dealerships, . . . . Control
is power and status (psychic income), and control is a source of
additional income, as revealed by the premium prices of shares during
battles for control.
Data in Table
1 probably understate
concentration, for four
general reasons: omitting the unpropertied, accepting and
reporting
regressive assessments, accepting the bias in partial inventories,
and accepting and reporting straw owners as separate owners.
1. Omitting the unpropertied. Few families have no income,
so income data cover most people. Many have too little property to
count, however, so many studies omit them. General asset ownership
studies use the estate-multiplier technique. Here the minimum is
$60,000. Corporate shareholder data omit most people, because most
own no stock. Farm data omit hired labor, treat tenants as owners,
and say nothing about former 'croppers now crowded in city
ghettos.
My Milwaukee CBD data are in percentage terms relating only to
other owners. But the whole east side area studied has only 401
owners of record, while some hundred thousand people work and pay
sales taxes there.
2. Accepting
regressive assessments as fact. Regressive assessment is not
universal, but some kinds of property are systematically assessed
regressively and, if not overtly, at least openly enough so assessors
under questioning do not deny but explain and defend the practice.
Unsubdivided land in large tracts is usually given a lower assessed
unit value, specifically because the holding is large. The result
may be seen by ranking Milwaukee industries by value of land
(estimated from reported area adjusted by mass appraisal technique).
The top 10% have 76% of the land value, but only 61% of the
assessed land value. Thus the Table
1 datum, based on assessed value (of land and buildings),
probably understates concentration.
This factor also affects findings of studies using U.S. Treasury
data. For IRS practice gives weight to locally assessed values in
appraisals for Federal estate and income taxation. The notion that
malassessment only affects local taxes is a myth.
Another factor is the watering of prices charged to the poor in
and around ghettos. A speculator often buys cheap and sells for what
looks like a huge markup. But the buyer has no cash. The seller
takes his profit in an inflated and risky second trust, which be
quickly sells at a large discount. The sage assessor knows how to
dehydrate watered prices if he wants to, but there is pressure to
maintain tax revenues from these areas, often resulting in watered
assessments on the poor.
Of course, if property assessments are regressive, property taxes
are based on them anyway, not on true values. But I distinguish tax
concept from tax administration, as noted. This is important for
policy.
A regressively conceived tax remains regressive under the best of
management. If the property tax is progressive in essential concept,
then it needs reform and new life rather than the gas chamber.
Regressive assessment is usually explained by assessors on grounds
of regressive use of property. Large holdings are generating less
activity per dollar of value. In Oregon, for example, larger timber
holdings are overtly assessed lower with the rationale they are worth
less because of the owners' slower cutting schedule. But note this
says activity-based taxes (sales and income) are then less
progressive than property taxes. Thus the very explanation of
regressive assessment is a phenomenon that shows the property tax,
properly administered, to be Progressive relative to income and sales
taxes.
3. The bias in
partial inventories. Any wealth inventory short of universal
will usually understate concentration because larger holders are more
diversified. The largest owners in one city, region, industry, or
other class are most likely to have holdings outside the class.
As to housing, it is the
rich who have second homes, hobby farms,
summer resorts, tax shelters, ski houses, Caribbean hideaways, lake
frontage, and advance sites for future building. Yet studies of
income and housing, from which some would damn the property tax,
compare a full statement of income (at least wage income) with
housing narrowly defined. Walter Morton (p. 143) goes so far as to
judge the entire property tax on the basis of housing alone. He not
only omitted second homes, but other property comprising half the
total: commerce, industry, rental, vacant, farm, forest, mineral,
water, and miscellaneous. Again, ownership of these is concentrated
among those ranking high in the housing scale.
Studies of foreign-owned farms in America have shown them to be
larger than owner-occupied holdings. The 1900 Census of
Agriculture (a high water mark in good government statistics)
reported on farm landlords.
I take this to be a universal tendency, deducible a priori
from the fact that it doesn't pay to range far abroad to invest only
a small sum. As U.S. residents change from colonials into the
world's absentee owners, this universal tendency is clear. It is our
largest oil firms, the international majors, who cover the entire
U.S. with marketing and the world with mineral holdings. The largest
holdings in any one jurisdiction, industry, or other narrow class of
property, thus are usually owned by those with large holdings
outside. With every passing year of mergers and conglomeration this
grows more true.
Thus my data on Milwaukee's CBD understate concentration. The
third largest holder on the west side there for example is the
Schlitz Company, yet the area omits the brewery that made Milwaukee
famous, millions of dollars in the controlling family's vast
speculative suburban landholdings, and large worldwide interests.
Smaller owners have outside interests too, but on the whole are less
diversified.
Again, the data on industry take no account that the large firms
either have or are branch plants. Increasingly they are merged into
conglomerates. In Wisconsin, Udell finds recent conglomeration has
resulted in large drops in activity-based income taxes from the
merged properties. Conglomeration is partly motivated, indeed, to
avoid income taxes. That means the corporate income tax is
regressive in practice.(20)
20 Jon Udell, Social and Economic Consequences of the Merger
Movement in Wisconsin (Madison: Bureau of Business Research, 1969).
Many popular recent studies omit all property but housing,
following Walter Morton. The better studies, as by Musgrave and
Netzer, avoid this outright blunder. But wide currency and
credibility have gone recently to a study by Daniel Lucas for the
D.C. Government, based entirely on housing - first home only - and
hypothetical housing at
that.(21) The Wisconsin
Department of Revenue released a study in May "in defense of Governor
Lucey's use of the income tax to provide property tax relief' with
the same blunder.(22) This
study follows the precedent of a 1959 release by the University of
Wisconsin School of
Commerce.(23)
21 D. Lucas, "Major Tax Burdens in Washington Compared With
Those in the 25 Largest Cities," D.C. Government, press release, December
1970.
22 Milwaukee Journal, May 25, 1971.
23 University of Wisconsin Tax Study Commission, Wisconsin's
State and Local Tax Burden (Madison: University of Wisconsin School of Commerce,
1959).
Many writers exempt corporate shares from taxable wealth,
faulting
the property tax for not reaching such "intangibles." Yet most
corporate assets are very tangible at a price. In most jurisdictions
the largest property taxpayers are
corporations.(24) Studies based
on individual ownership alone and omitting corporate wealth are
simply not relevant.
24 M. Mason Gaffney, loc. cit.
A large genre of partial inventories is the farm study, of which
every Agricultural Experiment Station must have issued one or more.
Hardly anyone wealthy enough to own a large farm today lacks nonfarm
income. One cannot afford to keep a large farm without using it as
an income tax shelter - that is the "highest and best use" under our
income tax law. Studies purporting to compare "farm income" with
farm property taxes are founded on the obsolete premise that
"farmers" are a separate class of people, and have no value.
4. Accepting
straw owners as separate owners. Large land assemblies are
habitually arranged through straw owners. Thus one large owner often
appears on records as several small ones. The Milwaukee CBD study,
as reported, is premised on one certain block's having several
separate owners, as recorded. Some time after the First Wisconsin
Bank announced it was building on the assembled
site,(25) we did not find it
listed as owner.(26) Nor did we
find Northwestern Mutual Life listed for more than its home office,
although Gordon Davidson, director of real estate, stated the company
had been acquiring land in our area "over the years."
(27) Small owners, on the other
hand, are not likely to appear as large ones. Wealthy families wear
several guises: banks, insurance companies, corporations, estates,
utilities, etc. Property is assigned to children and relatives to
split income. Rarely are these veils pierced by formal quantitative
studies. Even the ICC has never found out who owns the railroads. But
we can be quite certain ownership is held more closely in fact
than on paper.
25 Milwaukee Sentinel, February 14, 1969.
26 Report by Patricia Bevic, Research Assistant, March, 1969.
27 Milwaukee Sentinel, February 14, 1969.
B. The Property
Tax is not Primarily Shifted Forward
With a base so concentrated, it requires some creative methods to
find the property tax regressive. One is to assume general forward
shifting. Then the property owner is exempt, except as a homeowner.
Tenants do not escape. No one does. The property tax becomes a
general consumption tax, and therefore regressive. I submit several
reasons why the property tax is not shifted forward.
1. All studies have greatly
understated the share of land in real
estate value. Some overlook it altogether. The good ones assign
it
a value, and allow for nonshifting, but the value is much too low. They
are all pre-Douglas Commission Report, and rendered obsolete by
Manvel's study of how high a share land values are.28
Manvel's study
plus my Milwaukee study plus Gustafson's California data support a
land share of 40% and up, much higher than the 15% or so used by
Musgrave et al. At present the assessed value of land is
40-50% of the total in Washington, D.C., California, and some other
jurisdictions that have updated assessments.
28 Allen D. Manvel, "Trends in the Value of Real Estate and
Land, 1956-66," in National Committee on Urban Problems, Three Land Research
Studies, Research Report #12 (Washington: GPO, 1968), pp. 1-17
It is true that in most jurisdictions land is underassessed, and
Musgrave's numbers were reasonable in their day as a statement of
what assessors were doing. As noted, however, maladministration
should be blamed on administrators, not on the property tax per se. And
Musgrave omitted three important points.
- One, the share of land in real estate tends to rise with value
of holdings.(29) So
nonshiftability of the property tax rises with wealth.
- Two, the share of land in real estate is lowest in
owner-occupied residences, where the shifting assumption has no effect
on progressivity. Land share is highest, normally over half,
in commerce, where the assumption is critical. In Milwaukee, 40% of all
retail land space is in gas stations! The property tax on downtown and
other retail landowners with wide parking lots in good locations is one
of the most progressive imaginable, but Musgravian assumptions convert
it into a regressive sales tax.
- Three, taxes on land actually have some positive effect on
supply. They are not simply neutral, but apply leverage prompting
earlier and more intensive use of land. To assume non-shifting
understates their impact on landowners. They weaken his market position
vis-a-vis non-owners, making them doubly progressive. This is a
fortiori true of mineral bearing lands. Here, property tax
critics
often forecast panic liquidation if rates rise. They overdraw the
point, but there is a point there, and it is in the reverse of forward
shifting.
29 President's Commission on Urban Housing, Report on Urban
Housing (Washington: GPO, 1968), p. 351; M. Gaffney, "Land
Speculation," unpub@hed Ph.D. dissertation, University of California, 1956, pp.
210-17; 1940 Census of Agriculture, Vol. 3, p. 80; R. Hurd, Principles of City
Land Values (New York: Record and Guide, 1902), p.
102.
2. Taxes on
buildings are not mostly shifted forward. There is no reason to
assume forward shifting of taxes on capital, and I find no persuasive
rationale in Musgrave et al, or Morton. Netzer mugwumps the
issue.
To be simply shifted forward, a tax would have to be proportional
to output. Taxes on capital are not proportional to output, but to
one input. They fall differentially hard on capital intensive
operations and industries, which could not recoup from customers
without raising prices relative to labor-intensive competitors.
Capital-intensity varies over a very wide range -- see any issue of
Fortune's annual analysis of the top 500 corporations. And it
is the large firms that own more capital per unit of output. That
is, the use of property is regressive, so that activity-based taxes
are regressive relative to taxes on capital. Even if there be some
tendency toward forward shifting it would be very uneven, the more
capital-intensive firms being less able to shift.
But of alternative shifting hypotheses, forward shifting seems the
least likely. It would only make sense if the tax were levied on one
industry, exempting others, thus reducing supply and raising real
price. But the property tax is a general tax on capital. It cannot
be analyzed with tools of partial equilibrium. It chases capital out
of capital-intensive and into labor-intensive uses. The tax on
buildings (not on land) encourages land-intensive use, too, i.e. a
low capital/land ratio.
Where we go from here depends on what we are analyzing.
- If it is an open economy like the typical local taxing body, then
wage rates and interest rates are fixed exogenously, leaving only land
to bear any local tax. The local tax on capital thus is largely shifted
to land. The shifting is differential, owing to different capital/land
ratios; and density is reduced. But the point here is that the tax is
not shifted off property and is not made regressive.
- If it is federal revenue-sharing we analyze, the rules change.
Now the proposal would affect property taxes nationwide. Here we cannot
assume that interest and wage rates are fixed exogenously.
In a completely closed economy, capital should bear most of the
tax on capital. If it cannot emigrate, its escape routes are limited
to dissaving and tax-exempt public works. Supply being fairly
inelastic, capital has to accept a lower rate of return after taxes.
If capital did not absorb the tax, the tax rate added to the pre-tax
interest rate would drive capital out of capital-intensive and into
labor-intensive uses. In the latter it complements labor, raising
demand for labor, preventing a shift of the tax to labor.
But the U.S. economy is not entirely closed. Capital now
emigrates, not without cost, but more freely than labor. Thus the
position of capital vis-a-vis labor is stronger than in a completely
closed economy, and labor does suffer from the tax. But the position
vis-a-vis land is strong too. So the capital tax as a national
institution is borne by land and capital and labor, all three. Thus
property still bears much, and probably most of the capital
tax.(80) Remember now, that the
other half of the property tax falls directly on land and stays.
Putting it all together, it seems most likely that the property tax
is indeed largely what it purports to be, a tax on property.
30 Adding the property tax rate to the interest rate affects
the allocation of new investments in much the same way as raising interest
rates by the amount of the property tax rate. This forces capital into labor-intevsive
forms, moderating the damage to labor by increasing demand for labor. Saving
capital also involves substituting land, but this is tightly limited, because
using more private land would require more social overhead capital (like
longer streets). And saving capital entails lowering longevity of capital,
which substitutes labor for land, as explained by Wicksell in Value, Capital
and Rent.
The case for forward shifting is
strongest with utilities, and
rails, not for analytical but institutional reasons. Here,
however,
a simple forward shift would only result if we took regulatory piety
at face value, as no one does who really looks into the matter. We
cannot develop that here. But note that the rate required to attract
capital into utilities is lowered by taxes on non-utility property.
Thus indirectly, if regulation works at all, utilities bear the
property tax too, at least in part.
The case for forward shifting seems weak with timber, livestock,
and all appreciating capital in the short run, since it hastens
liquidation. But this is only short run, and a partial analysis. In
the long run the tax drives capital out of capital-intensive uses. The
case is really weak where cartels are engaged in
underutilizing capital or land - the common condition according to
students of industrial organization. These holding actions are
extremely vulnerable to the property tax. Far from being shifted
forward, the tax forces idle capital and land into use, increasing
supply and lowering prices. All
cartels are characterized by excess
capacity -- that is of the essence. When you consider that half the
wells in Texas are surplus -- need I go on? In a cartelized society
like ours the forward shifting thesis is not just shaky but
ludicrous. Untaxing property, as by revenue sharing, would
strengthen the hand of every cartel now locking up excess capacity. It
is not the property tax but the lack of one that would be shifted
forward in higher prices.
. The Need to
Correct for Regression Fallacy, or Which Top 10% Do You Mean?
Most studies of property tax regressivity stumble squarely into
the pratfall of regression fallacy. The problem in brief is this.
Income and property are positively related but the scatter of points
is loose, with great individual residuals from any fitted curve, and
a high error of estimate. We want to know which rises faster as they
rise together. The answer depends on which we arbitrarily select as
the ranking variable. Let us say we rank by income on the abscissa
and find the top 10% have 30% of the income and 25% of the property
(a hypothetical number). It looks as though the property tax is
regressive. But now rank them by property on the ordinate. The top
10% are now a different group -we have taken a stratum of points at
right angles to the original column. Some of the humble have been
exalted, and the mighty laid low. This top 10% has say 50% of the
property and 25% of the income, and the property tax looks
progressive (in terms of
income).(31)
31 Good discussions of regression fallacy are in Allen Wallis
and Harry Roberts, Statistics (Glencoe: The Free Press, 1956), preceding
p. 263; Lawrence Klein, Introduction to Econometrics (Englewood Cliffs: Prentice-Hall,
1962), pp. 68-69; George Stigler, 'Labor Productivity and Size of Farm: A
Statistical Pitfall," Journal of Farm Economics 28: 21-25 (1946); and A.
E. Waugh, Elements of Statistical Method (New York: McGraw-Hill, 1943). pp.
387-89.
When the Census of Housing ranks families by income, rent
payments do not keep up with
income.(32) But ranking them by
value of dwelling units, value quintuples while income only
doubles.(33) That is the
difference a technical detail or two can make.
32 U.S. Census of Housing, 1960, Table A-3.
33 Op. cit., Table B-3, p. 14.
So which top 10% do we mean? Most studies have uncritically
chosen income as the proper ranking variable, by assumption, thus
practically preordaining the conclusion - and largely invalidating
it.
The Chicago school of permanent income hypothesizers have
counterattacked sharply on the housing salient. Margaret Reid
(34) undertook to narrow the
scatter of points by removing random year-to-year income changes. She
related housing to a definition of permanent income, and came up
with income-elasticity of demand for housing well above unity.
34 M. Reid, Housing and Income (Chicago: University of Chicago
Press, 1962).
One of Reid's methods of avoiding regression fallacy was the
interarea comparison, where data are grouped by a neutral variable
(neighborhood) which is neither housing nor income. Brodsky has
repeated this for Census Tracts of the District of Columbia. His
findings strike me because he is a geographer who is not concerned
with the permanent income or regressivity question and presents his
findings just as interesting facts. He finds residential improvement
values rise with the 1.3 power of income; land values rise with the
1.8 power.(35) Muth has refined
and expanded Reid's method!;. He now suggests 1.2 or 1.3 as correct
income-elasticities of demand for
housing.(36) Lee has criticized
Reid's methods and come up with an elasticity of about .81. However,
Lee's data were too small a sample to lean on heavily, and more
important they excluded land. (37)
We have seen that land is the most progressive share of housing, so this biases
Lee's findings
downwards.
35 H. Brodsky, 'Residential Land and Improvement Values in
a Central City," Land Economics 46 (3): 229-47 (August 1970), p. 239.
36 R. Muth, "Permanent Income, Instrumental Variables, and
the Income Elasticity of Housing Demand" (MS, n.d., ca. 1971, pp. 1-40).
37 Tong Lee, "Housing and Permanent Income," Review ot Economics
and Statistics 50 (4): 480-90 (November 1968), p. 487.
Another needed correction is the
treatment of realized capital
gains. Say an asset rises slowly for twenty years and is sold.
In
the year of sale, reported income is high, but property taxes are
normal or fall. In the first 19 years
there were property taxes and
no reported income. This creates a statistical illusion of
regressivity. If accrual of value were treated as current income,
the illusion would be dispelled.
Another
needed correction is the treatment of normal life-cycles
of accumulation and liquidation. It is normal for the retired
elderly to draw on savings in years of low income, and get help from
children, if needed, to hang onto property the children will inherit. The
property tax which has not been regressive in a lifetime sense
looks regressive when no correction is made for this statistical
illusion.
But
these are only glancing blows. The central question is, why
rank by income at all -any concept of income? When we do that we
accept income-fundamentalism, a kind of philosophical imperialism
where Adjusted Gross Income on Form 1040 is the basic reference datum
against which to measure and judge everything. "Similar
circumstances" mean similar AGI, and similar circumstances deserve
similar taxes. In effect this means we judge the property tax on the
basis of how closely it resembles the income tax, in every detail.
Since nothing resembles the income tax so much as the income tax, the
property tax looks inferior.
Again, the concept called "income-elasticity of demand for wealth"
contains implicit income - Chauvinism. It implies one-way causation:
income causes wealth. But wealth also causes income, and as Klein
points out that changes the rules for relating them. No longer can
income be the simple ranking variable.
38 Klein, op. cit., p. 68.
If the property tax had no rationale of its own we would be forced
to accept income fundamentalism. But if the property tax has a
rationale, then it is legitimate to rank by wealth, and fault the
income tax for failing to tax large properties adequately. Here is
an outline rationale for the property tax.
1.
"Ability-to-pay" derives from wealth as well as current income. James
Tobin, Arnold Zellner, Taylor and Houthakker, Harold Somers,
and others have stressed this lately. The old cliche that "taxes are
paid out of income" is as empty as the one that we consume "out of
income." We spend money, and it is not labelled.
2. The
property tax asserts a public equity in land which was won
and is defended by joint efforts, and whose value derives from public
works and spillovers, not from the owners' efforts. It exempts
human
effort, thus rewarding service to the community and denying the state
any equity in the bodies of its citizens whose freedom and dignity is
thus enhanced in their capacity as human beings, as distinct from
owners of wealth.
3.
Property taxes reduce the differential effect of inherited
wealth on the current generation. They strike directly at
concentration of economic and other power based on wealth, promoting
competition and equal opportunity. Property as collateral is a
source of invisible income (credit rating). Taxing property reduces
the differential advantage of the rich in credit rationing.
4.
Property income of a given dollar value places the receiver on
a higher welfare plane than labor income, because he needn't work for
it. $10,000 a year received by dint of working long hours in a
coal
mine with black lung disease is not the same as $10,000 plus a life
of ease.
5. The
property tax is needed to plug loopholes in the income tax,
which is inexorably devolving into a payroll tax.
If one finds that rationale compelling, then the proper approach
is to rank by wealth. Doing so, one finds that property is used
regressively, i.e., the larger holdings generate less taxable sales
and income per dollar of wealth. Thus in the Milwaukee industries
reported in Table
1,
ranking by value, the top 10% who have 89% of the value have only 69%
of the employees.
If one likes the property tax rationale partly but not wholly,
then he may follow Wallis and Roberts
(39) who tell us that to avoid
regression fallacy a valid way to compare two populations is to
compare their standard deviations or other measure of
variability. If there is less income than property in the upper
groups, the variability of the income distribution will be less. But
we have already seen that is so (Table
1). Table I only gives the top group, but in each case I have
computed Gini (or Lorenz concentration) ratios for the entire
distribution, and they are as you would expect much higher than for
income. (The Gini ratio is, in my experience, closely correlated with
the coefficient of dispersion.)
39 Ibid., p.??
The more we correct for regression fallacy, then, the more
progressive the property tax looks.
D. On Defining
Income and Wealth
Dick Netzer, like others, uses AGI as the reference standard
against which to match the property tax and find it
regressive.(40) A certain
citizen in 1970 reported no AGI, but heavy property taxes, which
might make the property tax quite regressive were it not Ronald
Reagan. Yet he is not alone, and it seems harsh to select a measure
that makes the property tax regressive because it is the only tax
many rich men pay. General Oppenheimer has written a fine set of
manuals on how to reach Zero AGI by losing money
farming,(41) and they work so
well that taxable farm income is down to about $3 billions while the
USDA estimates farm income at $14
billions.(42) I do not think
that AGI will do.
40 Op. cit., p. 49.
41 H.L. Oppenheimer, Cowboy Economics, 1966; Cowboy Litigatton,
1968; Cowboy Arithmetic, 1964 (Danville, Illinois: Interstate Printers and
Publishers) -
42 Hendrik S. Houthakker, "The Great Farm Tax Mystery," Challenge,
January and February, 1967, pp. 12-13 and 38-39; Edward Reinsel, Farm and
Off-farm Income Reported on Federal Tax Returns, ERS-383 (Washington: GPO,
1968).
It is not just farming. Property is the paramount tax shelter. How
does it cover thee? Let me count the ways. There is
- expensing of intangibles and soil and water conservation,
- percentage depletion,
- capital gains rates,
- deferred realization,
- non-distribution of profits,
- nonrealization,
- conversion of interest into cost recovery by watered sales
prices,
- accelerated depreciation,
- multiple depreciation,
- de facto expensing of capital improvements,
- deduction of interest,
- covert write-off of undepreciated land value,
- deferral of tax beyond date of sale, and many others.
At the same time, property is a large source of income that is not
counted in AGI. Unrealized accruals and imputed income are the most
obvious, and each is a huge item.
Thus the ownership of property tends on a large scale to reduce
AGI and increase real income. When we rank by AGI, property owners
move into lower brackets than they belong; non-owners move into
higher brackets. Property tax payments move into the lower
brackets, pre-ordaining a finding of regressivity which is totally
illusory.
At least two studies have sought to correct for the Reagan Effect.
Both corrected only partially, and with spectacular results.
- The Survey Research Center made the tax progressive simply by
including imputed income.(43)
- Brainin and Germanis do a similar job with California data.(44)
43 Survey Research Center, Income and Wealth in the U.S. (New
York: McGraw-Hill, 1962).
44 David Brainin and John J. Germanis, Comments on "Distribution
of Property, Retail Sales and Personal Income Tax Burdens in California:
an Empirical Analysis of Inequity in Taxation,' National Tax Journal, March
1967, pp. 106-112.
Another common method is to define property tax payments as only
the net burden after deducting payments from taxable income. This is
to impute a regressive feature of the income tax to the property tax.
That would be wrong at best, but more so when one is comparing the
property tax with the income tax itself.
If one does choose to evaluate the two taxes jointly, he should
note above all that the Federal Government has moved far toward
abandoning the taxation of property income. That is the cumulative
effect of a hundred loopholes, available to property but not to the
poor stiff with his W-2 Form. Equity suggests that state and local
treasuries move in on this unpreempted tax base.
Definition of the property tax base is also a source of serious
error in a number of studies based on cash rents. Netzer for example
assumes that property taxes are proportional to rents. They aren't. The
base is not rent but capital value. The poor live in declining
neighborhoods and buildings nearing abandonment, where capital value
is a very low multiple of rent. Rents include high costs for
collection, turnover, damage, loss of status, maintenance and
repairs, and general unpleasantness. In
Milwaukee's "Inner Core" or
slum area the rule of thumb is you pay 30 months' rent to buy a
dwelling unit. Tenant incomes are low, but higher than such
capital
values. The rich live in new buildings of long future life in
appreciating neighborhoods. Incomes are high, but normally less than
half of lot or acreage plus house values.
It is true that slums are often overassessed, but again,
maladministration is the fault of administrators. The property tax
in concept is progressive precisely because it is based on capital
value. Owners of appreciating property often complain that capital
value as a base hits them harder than would current income or service
flow as a base, and they are right. That is precisely what makes the
property tax, correctly administered, so progressive.
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