In nearly every state in the U.S., municipalities rely, to some degree, on the same funding mechanism: property taxes. Property tax is one of those things that we should put in the category of “it seemed like a good idea at the time.”
In Michigan, “the time” was 1893. Municipalities were charged by law to provide three specific services: elections; assessment and equalization; collecting taxes for the county. So the Michigan General Property Tax Act was put in place, and it provided the funding mechanism for all three levels of government: local, county and state.
By the 1930s, as cities grew and began to offer more services to meet that growth, they were running out of money. So was the state, which finally decided: “This really isn’t working for us; you can have it.” Michigan went to a series of special revenue taxes – liquor, tobacco, sales and eventually income, and left the cities with property tax.
But it wasn’t good enough for the cities, either, who started running out of money. For years, they begged the state legislature to allow them to implement their own local sales taxes – which 35 other states allow. They begged the state to allow them to impose their own local income taxes.
In 1966, the state relented on the income tax, but set a cap on the rate that a municipality can collect. That cap was later revised.
The state refused to budge on the sales tax issue, though, but finally compromised. “We won’t let you enact your own sales tax,” the state said. “But we’ll raise the state sales tax, and we’ll give you a cut of it. Part of that cut will be built into the state constitution; the other part will be allocated each year by the legislature.”
That is, until the state legislature gets in a crunch and decides that it needs it more. Or the governor decides that you shouldn’t just automatically get it any more, but compete for it. But we’ll come back to revenue sharing later, too.
Property taxes have declined from the sole source of municipal tax revenue when they were enacted to, in many Michigan cities, as little as 20 to 30 percent.
That’s because the very idea behind property tax has an inherent – and fatal – flaw. It punishes the taxpayer for doing the very thing the municipality wants him to do. Not only is it all stick and no carrot, it makes the taxpayer wield the stick himself.
As a municipal official, I want homeowners, landlords and the owners of commercial and industrial properties to invest. I want them to improve their properties, grow their businesses, maintain their homes. Increased property values make for a more attractive and economically vibrant city.
While that attractiveness and vibrancy has a benefit for those property owners – and while increased property value is an increase in their net worth – the benefit is disproportionate to the hard dollar cost of increased taxes.
Worse, even if I don’t improve my property, but merely keep it up, increased values around me cause my value to increase. And with it, my taxes.
Income tax has a bit of a carrot. While I pay more tax as my income increases, the fact that my income has increased offers a comfort equal to, if not greater than, the pain of the stick. Sales tax is a stick, as well, but at least I’m getting something of value with my purchase. And I can control, to some degree, how much I pay through how much I consume.
Property tax, on the other hand, is largely out of our control. Value drives what I pay; the real estate market drives value. All I can do to mitigate increases is to let my property go downhill.
Or enact a referendum that limits property tax increases.
Which is exactly how cities, at least in michigan, got into this mess. They were dependent, under state law, on a tax structure that offers no benefits to, and in effect punishes, the taxpayer. So it was understandable that the taxpayers would eventually revolt.
In Saginaw, they revolted even more, by enacting an absolute dollar cap as well as a mill cap … which is why Saginaw’s property tax collection makes up only about a tenth of its general fund budget today. The Headlee Amendment and Proposal A similarly imposed limitations on a city’s ability to increase property taxes.
The net result? In 2008, some Michigan cities saw their taxable values collapse, almost overnight, to anywhere from 30 to 40 percent of their pre-recession highs. Which meant property tax revenues collapsed almost as far.
Even if a miracle occurred, and property values rocketed overnight to their pre-recession levels, it wouldn’t do Michigan cities a bit of good. Because Headlee and Prop A limit the increase in taxable value from year to year to five percent or the rate of inflation – whichever is less. At three percent per year, it will take decades for those cities to get taxable values – and, therefore, the revenue they need to operate – back to 2007 levels.
It’s like telling someone who’s almost starved to death, who’s lost nearly half his body weight, that we’re still going to keep him on a 1,200-calorie diet. Because he needs to learn to better manage his weight.
It is time for Michigan cities – if not cities throughout the U.S. – to abandon a hopelessly obsolete system. Its replacement could be:
- Eliminate most local taxes, increase the sales tax, income tax or other state taxes and fees – or some combination thereof – and disburse funds back to the cities. However, it only works if the legislation safeguards the money so state legislators don’t use it, as they have revenue sharing, as their own reserve fund or pork barrel.
- A modified “property tax,” in which a flat rate is calculated based on the square footage of the land and buildings – rather than the number of improvements on them
- Municipal sales tax – available in 37 states, but not in Michigan
- Municipal income tax with fewer restrictions on the local government’s ability to set rates
As we see more and more Michigan school districts joining municipalities on the endangered species list, it’s not hard to see a pattern: with the passage of Headlee, Prop A and shared revenue from state sales tax collections, the state has assumed more and more control – and placed more and more restrictions – on local government and school district revenue. I don’t think it’s a coincidence that we’re seeing more and more local governments and school districts struggling financially.
The more the state has tinkered with the systems, the more dysfunctional they’ve become. So the ultimate change would be for this current Republican governor and Republican-majority legislature to act like, well, Republicans – and start eliminating the burden of complex regulations and multiple layers of government.
Of course, that would mean loosening their control, both financial and regulatory, of local government and school districts. It would mean coming up with a straight-up, no-legislative-discretionary formula for shared revenues – or simply dropping the state sales tax a few points and allowing municipalities to levy their own. It would mean repealing Headlee and Prop A, and forcing local voters to actually be accountable for their mistakes in local elections and turn the levying and distribution of money for local schools back over to the communities they serve.
There are many ways we can change the way municipalities get their funding. But any way is better than the one we have now, and cities – in Michigan in particular – will continue to struggle until we do.