This article appears in the Michigan Counties magazine produced by the Michigan Association of Counties
The Citizens Research Council’s new report, Michigan’s Overlapping Property Tax Limitations Create an Unsustainable Municipal Finance System, argues that the property tax system can be fixed without diminishing taxpayer protections.
Michigan has some of the strictest property tax limits among the states. Its status as the primary revenue source for local governments has contributed to building pressure on taxpayers. Taxpayers reacted to that pressure with limitations to lessen the overall burden and to improve year-to-year predictability in tax bills.
The first of these, the 1978 Headlee Amendment to the state constitution limits property tax revenue growth. It requires local governments to reduce – rollback – the maximum authorized tax rate if their tax bases increase faster than inflation.
While this limitation helped, it had faults. Its unit-wide application meant that some tax bills could grow faster than the rate of inflation if they were offset by decreases for other taxpayers.
That dissatisfaction led to the inclusion of a new assessment limit as part of the 1994 Proposal A school finance reform. A new tax base was created, called taxable value, and the measure capped the annual growth of taxable value to the lesser of five percent or inflation, excluding the value of new construction. Taxable value is reset, or “uncapped”, when ownership of properties changes.
Our analysis finds that these limitations achieved the same thing in different ways for the first couple of years with them both in place. Each works toward the same ends in different ways.
The Great Recession from 2007 to 2009 was a game changer that brought forth the strictest elements of each limitation. The housing bubble of the late 1990s caused rapid appreciation of property values that led to tax rate rollbacks to keep growth of the overall tax burden in line with inflation. And then the loss of property values during and after the Great Recession caused reductions of tax bases for many local governments, especially in Southeast Michigan,. As a result, local governments were left with lower tax rates and slow growth of their tax bases.
Since then, we see a growing disconnect between property values and tax bases. Taxable values are growing at slower rates now than they were before the Great Recession.
As a mechanism to fund local government services, the Michigan property tax system is not sustainable. Like the increases in the cost of living many are experiencing currently, the cost of providing services increases over time. But their tax bases cannot grow at a pace to reflect that cost inflation without attracting new development.
Growth in tax bases in Michigan comes from 1) appreciation, 2) the uncapping of TV when a property is sold to a new owner, and 3) new development. Under our current system, appreciation is capped and uncappings when properties are sold lead to tax rate rollbacks. Hot real estate markets for existing property, like many communities are currently experiencing, does nothing to help the local governments fund services.
It is only by attracting new development that tax bases can grow at or above the rate of inflation. Our analysis finds that the local governments that have attracted new development have fared the best under the overlapping tax limitations. That is not sustainable because land is finite and urban sprawl strains precious resources.
In the face of these limitations on their tax bases, we found that many local governments have responded to constraints on their tax bases by increasing tax rates. For instance, over 80 percent of the local governments in Oakland County have increased their tax rates since 2007. This too is not sustainable as state law limits tax rates.
What can be done?
Some have advocated for re-instating Headlee tax rate rollups – they were ended in 1993. Our analysis finds that this would provide very little relief.
On the other hand, ending the tax rate rollbacks created by the Headlee Amendment would improve sustainability. Taxpayers would still enjoy the protections of taxable value system, but local governments would benefit from uncappings when property is sold.
Local governments also would benefit from changing the method of measuring taxpayers’ ability to support government. Drafters of these limitations recognized that the tax and revenue limitations should not be static. They allowed state and local government revenues to grow on par with economic growth. Adjustments to the state government revenue limit are based on state personal income growth. They pegged growth of local property tax revenues to inflation as measured by the Consumer Price Index (CPI).
Inflation has grown relatively slowly. Using the growth of personal income would put the state and local governments on equal footing. The implicit price deflator for state and local governments would recognize that the cost of operating a local government is different than running a household.
Local governments are overly dependent on property taxes and no changes to the tax limitations are going to fix that. Diversification of the revenue sources would provide the stability of property taxes and the responsiveness of sales or income taxes to the economic activity that characterize your counties.