- Mayor Mike Duggan suggests that his plan to allocate $400 million towards addressing the city’s fiscal shortfalls will keep Detroit’s fiscal health stable over the next several years, but the negative economic impacts from the COVID-19 pandemic might threaten that projection due to diminishing tax bases.
- As hybrid models of work and full remote work become the way of the future, Detroit, as well as other Michigan cities reliant on municipal income tax revenues, may find itself in a vulnerable position as much of its income tax payments will diminish due to non-resident employees working from home and residents choosing to live in localities that cost less.
- The city needs to think of alternative revenue sources that can help offset the potential fiscal impact of population decline and a new hybrid working model.
Detroit’s plan to use $826 million of American Rescue Plan Act (ARPA) funding from the federal government includes $400 million to restore the city’s budget and $426 million for community investments. Planned community investments include infrastructure spending, blight remediation and addressing issues affecting intergenerational poverty, all of which could have a positive impact on the city’s well-being and improve Detroiters’ quality of life.
However, it is unknown at this time whether the $400 million to restore the city’s budget will be enough to backfill lost revenue from the COVID-19 pandemic. The mayor suggests that his plan will keep Detroit’s budget stable over the next three years and avoid fiscal shortfalls.
The Post-COVID World
One of the biggest changes that has come out of the pandemic is the restructuring of the workforce and the work environment. Most businesses shifted to remote work as the pandemic ravaged the nation. This was expected to have a negative impact on the workforce due to a lack of face-to-face interaction.
Some business leaders have found that productivity and employee work-life balance have increased with this new working environment. Businesses in high-priced cities also found that they could reduce their operating costs and capture large savings if employees worked remotely or were assigned to cheaper satellite offices outside city boundaries.
This worker relocation negatively impacted some city’s finances. However, for many local governments, the pandemic was a fiscal “non-event” as property tax dependent localities were insulated. However, this is not the case for the City of Detroit as property taxes make up a small portion of the city’s revenue structure. In 2020, property taxes represented 12 percent of the total general fund revenue. Detroit has a highly diversified revenue structure with municipal income taxes and wagering taxes representing a 44 percent share of the total general fund revenue in 2020.
Detroit’s Diversified Revenue Structure
A big portion of Detroit’s revenue base comes from local taxes and state-shared taxes. Local revenue streams in Detroit include the municipal income tax, casino wagering tax, utility users’ tax, and property tax. The tax base, as well as the maximum rates allowed to be levied, are determined by state law. While it has a fairly diverse revenue base, the city must still operate within the guideposts set by the state government. No other city in the state has as diversified of a revenue structure as Detroit does. The chart below presents the revenue components of the city’s general fund; municipal income tax accounts for the largest share. Collectively, the income and wagering taxes made up 44 percent of Detroit’s general fund.
The chart below shows that Detroit’s municipal income tax revenue increased by 42 percent from 2014 to 2019, but fell by 20 percent from 2019 to 2020. This highlights a major issue for the city’s fiscal situation as more workers transition to remote work and the city is unable to capture the municipal income tax revenue from non-residents.
Detroit taxes the income of city residents at a 2.4 percent rate and collects 1.2 percent from non-residents. The municipal tax also applies to business income at a rate of 2 percent.
The geographic place of work is a significant feature of this tax. It does not matter that the employer is physically located in the city. Non-residents are only subject to the city income tax if they physically work in the city. As hybrid models of work and full remote work become the way of the future, this places the handful of Michigan cities with an income tax in a vulnerable position. Much of its resident income tax payments will diminish due to employees working from home and choosing to live in localities that cost less.
Detroit’s casino wagering tax revenue decreased by 28 percent from 2019 to 2020 because of the COVID-19 pandemic. This decline might have been more significant, but Michigan launched online sports betting during this period. The city collects 8.4 percent of adjusted sports betting receipts. With COVID-19 restrictions and mandates lifted, the city should see its third largest source of tax revenue bounce back due to casinos being open for business. The chart below shows the city’s wagering tax revenue trend from 2014-2020.
A New Normal After the Pandemic
During the pandemic there were drastic economic changes that negatively impacted city finances. The city plans to earmark $400 million of its ARPA award to backfill lost revenue over the next three years. Looking at the chart below, the total revenue for the city’s general fund from 2019 to 2020 dropped by 14 percent, $159.9 million. Revenue from the municipal income tax and casino wagering tax make up $122.4 million of that lost revenue.
Other revenue losses caused by the pandemic include parks, recreation, and culture fees which were down due to the city being unable to admit patrons to recreation centers, hold sports leagues, allow for gazebo and service rentals in parks, etc. The cancellation of concerts, conferences, and the age of crowd-free sporting events hurt the city’s bottom line. Program revenue for recreation and culture fell from $4.2 million in 2019 to $1.4 million in 2020. As a whole, Metro Detroit had lost out on 143 bookings for conventions and sports groups in 2020 representing an attendance of 473,889 people and direct spending of more than $225 million. Hotels in Downtown Detroit had also suffered with occupancy rates dropping below 18 percent in July of 2020 compared with 73 percent in July of 2019. Revenue from city transportation services took a hit with numbers falling from $20.2 million in 2019 to $15.1 million in 2020. Parking meter and ramp revenues were also down with fewer people coming downtown. How are these services going to bounce back with population decline that is expected to persist and the attractiveness of a downtown diminishing from a new economic environment?
The negative economic impact on city finances can still be felt as revenue losses have adversely impacted the city’s ability to implement the Restructuring and Reinvestment Initiatives (RRI) required by the bankruptcy Plan of Adjustment (POA). The $400 million for backfilling the city’s lost revenue are projected to offset budget shortfalls through 2024. The question is, will this $400 million appropriation be enough?
With city taxes already being so high and the quality of city services not matching the rate Detroit residents pay for them, residents may be more inclined to move out of the city to work remotely and reduce expenses. The Office of the Chief Financial Officer has already built in a permanent 10 percent reduction in non-resident income tax payments assuming hybrid work will be the future. But will an increase in employees working remotely also have an impact on other aspects of the city that generate capital?
If hybrid work becomes more of a permanent fixture, then commercial property will be in less demand. There will be less need for restaurants and other amenities that support day workers which may impact the desire to live downtown for potential residents. In addition, Detroit will have to start making pension payments in 2023 as the Grand Bargain that got Detroit out of bankruptcy comes to an end. This will potentially cost the city 20 percent of its revenue which so heavily relies on municipal income tax.
Future revenues for the city are at risk, especially that of municipal income tax. The city has taken a hit on municipal income tax revenues spurred by job loss and the volume of non-residents which make up half of the city’s income tax revenue. The city needs to think of alternative revenue sources that can help offset the potential fiscal impact of population decline and a new hybrid working model. The city could consider adopting an ordinance to allow the sale of recreational marijuana and capture that tax revenue or engage the state to allow for revenue enhancements by authorizing the levy of new local-option taxes, such as a sales tax or other selective sales and excise taxes on certain goods and services.