Our property tax system rewards neglect and punishes investment in struggling neighborhoods
Image by TMG177 licensed under Creative Commons.
Right now in DC, many residents take new development as a given—and even a problem, as the cost of living continues to climb. But other old cities around the country have a different problem: they can't get developers to build anything without incentives. A simple change to how we tax land could help revitalize these places. This article was first published by Strong Towns on March 7, 2019.
On day one of a grad-school class I took about real-estate development, the instructor asked us to play a word-association game. “Shout out the first thing that comes to mind when you hear 'developer'.” Among the list of words that he began furiously scribbling on the white board as they were shouted were some unsurprising choices: Greedy. Arrogant. Corrupt. Profit. Money. Power. Gentrification.
We were all well acquainted with the cultural trope: developers are money-grubbers who make a profit at the expense of the community, and local governments should, if anything, seek to rein in that profit motive, or redirect it to the public good by making them give something back.
For countless older cities, though, especially mid-sized ones in the Rust Belt and Northeast, the problem they face isn't how to get developers to do something beneficial for the public, but how to get developers to do anything at all. The conversation I described took place in a city with a strong economy and a growing population. In places still suffering the hangover of decline, population loss, and widespread neglect and abandonment of properties, the reality is very different.
Here's a startling fact I've learned about new development in many struggling older cities. I had to be told this several times, by several credible sources, before I really believed it, because it just didn't seem possible: There are whole cities where every single private development project receives some sort of tax abatement or incentive.
All of them. Nothing is viable without it.
And these places aren't desolate slums. They're often cities that have made a notable resurgence from a period of past decline. They're often cities renowned for great “bones,” walkable downtowns, gorgeous historic architecture. They're places that really could make a dazzling comeback. But the rents that people can afford to pay aren't enough to make building new homes a profitable endeavor, when you consider the expense of doing so—and a big part of that expense is property taxes.
And so developers negotiate for tax breaks to induce them to skip the suburbs and give the city a chance. Is this corporate welfare run amok? Not really. To no small extent, it's an object lesson in how something surprising—the property tax system—contributes to locking places into decline.
The catch-22 of low demand and high taxes
Many older cities have been through the same vicious cycle. Suburbanization leads to population loss. At the same time, the city's infrastructure is aging and requires more maintenance than it once did. Hit with the double whammy of falling revenues and rising expenses, the city does the only thing it can: raise property taxes.
The higher taxes act as a disincentive for people to live in the city or open business there, resulting in a further population drain. Joshua Vincent’s piece on land taxation in Pennsylvania examines relative tax rates in Erie County, Pennsylvania, finding that property owners in the city of Erie proper pay close to double the taxes that those in many of Erie's suburbs pay.
Council Bluffs, Iowa. by Jan Tik licensed under Creative Commons.
There's Bridgeport, Connecticut, the poorest city in one of the richest states, where in 2016 a reassessment caused total property value to fall by 14%, and the property tax rate to rise abruptly by a jarring 29%, as the New York Times describes.
There's York, Pennsylvania. I spoke with a York resident who said the same is true there: taxes are through the roof, and even committed urbanists may now find it a bad investment to settle in York proper. Homeowners won't make incremental improvements to their property, because the tax burden and market conditions mean they will never recoup that investment. New development requires a slew of tax abatements and subsidies. Nothing that is built in the city pencils out based on market rate rents alone.
There's Akron, Ohio, whose planning director, Jason Segedy, wrote this eye-opening piece about what it actually costs to maintain an older house. In many, many cases, the return on investment for doing so is negative.
And this is exacerbated by the way we tax property in most cities: as a single rate applied to both the land and the buildings on it. Fix up your house dramatically? Taxes go up. Put off maintenance and just deal with drafty windows and that one leaky pipe? At least your taxes stay low. You're rewarded for neglecting your property, and punished for improving it.
And for owners or would-be builders of rental property, the taxes in one of these high-tax older cities can very, very easily be the thing that tips a project from the viable into the non-viable category.
From flippers to “milkers”
In a hot market you get one type of speculator: the flipper. This is someone who seeks to buy property low and sell it higher, riding a wave of rising values created by all the productive things their neighbors are doing.
In a market mired in decline you get a different type: the milker. (Credit for the term goes to urban researcher and author Alan Mallach.) The milker buys a property cheap and doesn't do basic maintenance. They rent it out for whatever they can get—a little more than the maintenance is costing them, and a little more than low taxes that are charged on a building in poor conditions that the tax assessor doesn't deem worth very much. The milker, then, can sit on their property and run it into the ground. Eventually, they'll sell or, worst case, abandon it.
Don’t get us wrong: this shouldn't be caricatured as deeply villainous behavior. While there are some truly egregious examples of this kind of “milking” out there, there's also a much larger gray area of people who aren't actively trying to exploit a neighborhood's struggles, but who are simply being economically rational. It doesn't make sense to put money into improving a property if you will never recoup that investment. Or if increased taxes will swallow your investment while you're waiting for the market to turn around.
How switching to a land tax can help
Under a Land Value Tax (LVT), on the other hand, the underlying land in our neighborhoods would be taxed at a higher rate, while the buildings on it would be taxed at a low rate or not at all. (If there is a low but nonzero rate for buildings, that’s called a split-rate tax or partial land value tax.)
Providence, Rhode Island. by Wikimedia Commons licensed under Creative Commons.
Seth Zeren is a small-scale developer in Providence, Rhode Island, another of those high-tax legacy cities increasingly appreciated for its historic assets, but that still has large areas of poverty and blight. Zeren says:
“Land Value Tax [LVT] is a huge deal for the small developer crowd. If you want to make incremental improvements to a property, it makes that more viable. In regimes like the one I’m in, where we don’t have a system like that, most projects of any substantial scale pursue property tax abatement or stabilization. It creates a sort of gap where projects have to be so large to develop the political will. They have to be able to push through the bureaucracy to get the special treatment.”
Removing much of the tax on building improvements would mean that you're no longer punished for investing in your neighborhood, but rather incentivized to do so, or at least to sell your property to someone who will. It would be a game changer for places on the cusp of a comeback.
Not a panacea, but key to a healthier economic ecosystem
Let's be clear: a land tax isn't Miracle Gro. But it will make the soil a bit more fertile.
If a place like Providence or Bridgeport or Erie or Niagara Falls (where, as of this writing, mayoral candidate Seth Piccirillo is a strong LVT advocate and makes the case for it in this video) instituted a split-rate tax tomorrow, they would still have the larger problems of vacant and blighted property, a lot of infrastructure to maintain, and a too-small tax base with which to do it.
But by shifting the tax code to incentivize property improvement rather than deter it, they would lay a crucial piece of the groundwork for revitalization of neighborhoods, and ultimately for these cities' populations to grow again. That would make it possible to lower the overall tax burden on residents as the place's financial health improves.
And, importantly, LVT would weaken the ability of slumlords and “milkers” to profit from a neighborhood's decline. The tax burden would fall more heavily on those who sit on vacant or dilapidated properties and don't do anything to improve them. Those who are working hard to make their neighborhood a better place would get a badly-needed break.