Declining House Prices and Property Taxes in Illinois - What is the effect of rapid increases and large drops in house prices on property taxes?
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Declining House Prices and
Property Taxes in Illinois
What is the effect of rapid increases and large drops in
house prices on property taxes?
Declining House Prices and Property Taxes
in Illinois
T
By Daniel P. McMillen
he past decade has been an extraordi- Even if total tax revenue did, in fact, remain
nary time for the housing market in constant as house prices change, there still
the United States. According to data from may be significant changes in individual tax
the Federal Housing Finance Agency bills. Taxes go up in places where house
(FHFA), from the first quarter of 2000 to prices increase unusually rapidly, and all
the peak of the housing market in the first residential tax payments may increase if the
quarter of 2007 the average American rate of appreciation of commercial and
home increased in value by 67 percent, or industrial properties does not keep pace
with residential appreciation rates. More-
1
The data on house
an average annual rate of approximately
prices are drawn
7.6 percent. The price declines since then over, changes in property values directly
from the Federal
have also been dramatic. From the first affect homeowners’ wealth, and significant
Housing Finance
declines in property values may force local
Agency’s web site,
quarter of 2007 to the second quarter of
http://www.fhfa.
2010, the price of an average American jurisdictions to reduce their expenditures.
gov/Default.aspx?
home fell by 11.2 percent, which translates Other changes are even more indirect—if
Page=87. The price
into an average annual rate of about 3.6 consumers feel less wealthy when property
indices are based
on a combination
percent. Although the rate of decline has values decline, then revenue from the sales
of sales and
slowed, it is not yet clear whether the tax may decline when consumers spend less
appraisal data. The
housing market has truly reached bottom, than before, and income tax revenue may be
FHFA data are
unique in the
and it may be some time before prices affected if lower property values lead to less
breadth of
return to the heights reached in 2007.1 building and thus to lower employment in
geography and
the construction industry. But the sum of all
time covered by
such indirect changes is likely to be far less
the price indices.
What is the effect of rapid increases and
large drops in house prices on property than the direct change that would result if
taxes? To a first approximation, it might be property taxes were, in fact, proportional to
expected that there is a simple propor- property values.
tional relationship between house prices
and property taxes—taxes rise when house In this chapter, I review some of the evi-
prices increase and taxes fall when prices dence about the relationship between prop-
decline. This simple relationship would erty values and taxes with an emphasis on
hold if taxes were a constant percentage of Illinois generally and the Cook County pro-
property value, assessments were accurate portion of the Chicago metropolitan area in
and timely, and all property values particular. The main conclusion is simple:
increased at the same rate. Because the falling property values do not necessarily
actual tax system is much more compli- lead to declines in property taxes because
cated than this, it turns out to be very hard tax rates increase when assessments decline.
to predict how taxes will react to changes However, the distribution of tax payments
in property values. In fact, a much better across households can vary greatly. House-
first approximation to the effect of house holds in places with relatively small declines
price changes on property taxes is that in house values may see their tax payment
there simply is no relationship: taxes are increase even if their assessments have been
determined independently of property val- reduced. The main effect of house price
ues, with the tax rate adjusting to keep rev- declines on property taxes is much less
enue constant even in times when prices direct: if homeowners feel less wealthy, they
are changing dramatically. are less inclined to support tax increases.Figure 1
House Price Indices
House Price Volatility
Figure 1 shows the path of house prices for
250
the United States, the Chicago-Joliet-
200
Index, 1995:1 = 100
Naperville metropolitan area (not includ-
150
ing Lake County), the full state of Illinois,
and the parts of Illinois that are not in met-
100
ropolitan areas. After a period of moderate
50
growth in the late 1990s, prices began to
rise rapidly in the U.S. beginning about
0
2001, and a period of extraordinary appre-
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
ciation began around 2003. Price began to
fall sharply in 2007. The Chicago metro
US Chicago-Joliet-Naperville
area’s experience is nearly identical to the
national average through 2007, but the rate
Illinois Illinois, Non-Metro
of decline since then has been greater. The
full state of Illinois has had more moderate
Source: Federal Housing Finance Agency
price growth and more moderate declines.
Non-metro Illinois neither shared in the It is clear from Figure 1 that 2003-2007 was
a unique period of extraordinary apprecia-
The Chicago
rapid price appreciation of the early part of
tion in house prices for Chicago, Illinois,
metro area’s
the decade nor suffered any significant
price declines. and the U.S. How has the rest of metro-
experience is
nearly identical
to the national
average
through 27,
Figure 2
but the rate of
Average Annual Changes in House Prices
decline since
10 then has been
greater.
5
Percent
0
-5
Bloomington-Normal
Champaign-Urbana
Chicago-Joliet-Naperville
Danville
Decatur
Kankakee
Lake County
Peoria
Rockford
Springfield
Illinois, Non-Metro
USA
-10
2003:1 - 2007:1 2007:1 - 2010:1
Source: Federal Housing Finance Agency
The Illinois Report 2011
Illinois fared over the last decade? Figure 2
compares annual average house price
Trends in Property Taxes
changes for the first quarter of 2003 to the The path of house prices over the last
first quarter of 2007 and from 2007:1 to decade might lead one to expect that prop-
2010:2 across all of Illinois’ metropolitan erty tax revenue would have increased
areas, along with non-metro Illinois and dramatically up to 2007 and then fallen
the nation. Chicago and Lake County had significantly since then. The relationship
very high growth followed by sharp between house prices and property tax
declines. Danville, Kankakee, and payments is far from mechanical, however.
Rockford had more moderate declines For example, if property taxes increased in
2
Lutz, Byron F., “The
after periods of growth. The price indices proportion to house prices when terms like
Connection
“bubble” are used to describe the state of
Between House
have not declined since 2007 in
Price Appreciation
Bloomington-Normal, Champaign- the housing market, it is reasonable to
and Property Tax
Urbana, Decatur, Peoria, and Springfield. expect that property taxes would account
Revenues,” National
for a larger share of total state and local tax
Tax Journal 61
(2008), 555-572.
revenue. Figure 3 shows the trend for the
entire U.S. for property tax revenue as a
percentage of total state and local tax rev-
enue for 1998-2008. The percentage hardly
changed between 2003 and 2007, and only
Figure 3
began to rise significantly as house prices
Property Tax as a Percentage of Total State and Local Tax
fell sharply in 2009.
Revenue
40
Similar trends were evident in Illinois.
35
Figure 4 shows the trend for the state
30
Percent
budget for 2000-2009. Despite the huge
25
growth in house prices, the property tax
20
accounted for a lower share of total tax
15
10
revenue for the state in 2007 than it had
0
earlier in the decade. However, the prop-
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
erty tax accounts for only a trivial percent-
age of the state government’s
budget—well under one-half percentage
Source: U.S. Census Bureau, Quarterly Summary of State and Local Tax Revenue
point in each year over the past decade.
In contrast to the state, Illinois’ local gov-
ernments rely heavily on the property tax.
As can be seen in Figure 5, the property tax
Figure 4
accounted for more than 71 percent of local
Property Tax as a Percentage of State Tax Revenue in Illinois
governments’ general own-source revenue
3
in 1997 in Illinois. This figure fell over the
course of the last decade to just over 68
Percent
2
percent in 2007—even as property values
were increasing significantly.
1
0
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Empirical Studies
A study by Byron Lutz was the first to use
national data to estimate the elasticity of
Source: U.S. Census Bureau, Quarterly Summary of State and Local Tax Revenue
property tax revenue with respect to house
23
Lutz, Byron, Raven
Molloy, and Hui
Shan, “The Housing
Figure 5 Crisis and Local
Property Tax as a Percentage of Government Tax
both V and t change, then the full change
Revenues: Five
General Own-Source Revenue, Local
in revenue is T2-T1 = t(V2-V1) + (t2-t1)V1.
Channels,” working
Governments paper, Federal
Reserve Board of
Other channels by which changes in house
72 Governors (2010).
prices affect tax revenue are less direct.
71
4
Declining house prices may reduce con-
Recent studies
70
include Attanasio,
Percent
struction, which reduces sales tax revenue
69 Orazio, Laura Blow,
from construction materials and perhaps
68 Robert Hamilton,
income taxes from construction workers. A
and Andrew
67 Leicester, “Booms
growing recent literature suggests that ris-
66 and Busts: Con-
ing house prices increase consumption
sumption, House
1997 2002 2007
expenditures by making consumers feel
Prices and Expecta-
tions,” Economica
wealthier.4 Thus, declines in house prices
Source: U.S. Census Bureau, Census of Governments
76 (2009), 20-50;
may lead to lower sales tax collections.
Bostic, Raphael,
prices.2 Lutz conducts the analysis using Similarly, voters will be less inclined to
and Gary Painter,
“Housing Wealth,
two data sets—aggregate national data for support expenditure bills when their prop-
Financial Wealth,
1976-2007 on property tax revenue and erty values fall.
and Consumption:
house prices, and a comparable data set
New Evidence from
Micro Data,”
covering all local governments in the U.S. The study by Lutz, Molloy, and Shan sug-
Regional Science
for 1985-2005. Both of these periods are gests that the direct channels are much
and Urban Eco-
times when house prices were rising stronger than the indirect ones. However,
nomics 39 (2009),
79-89; Campbell,
throughout most of the nation. In contrast both this study and the earlier one by
John Y. and João F.
to the evidence presented in Figures 3-5, Byron Lutz suggest that there are long lags
Cocco, “How Do
he concludes that: between house price changes and their
House Prices Affect
Consumption?
“The evidence suggests property tax rev- effects on tax revenue. Recent declines in
Evidence from
enues are quite responsive to changes in house prices may affect revenue sometime
Micro Data,” Journal
house prices. Although it takes several years in the future, but it could easily take 5-10
of Monetary
Economics 54
for house price appreciation to feed through years until their effect becomes pro-
(2007), 591-621;
to property tax revenues, the long-run elas- nounced. These long lags may help explain
and Case, Karl E.,
ticity is on the order of 0.4. On average, why Figures 3-5 show little response of
John M. Quigley,
policymakers are estimated to respond to property taxes to rising house prices. The
and Robert J.
Shiller, “Comparing
increasing home prices by 60 percent of the lags may also explain why recent studies
Wealth Effects: The
increase in tax revenue that would have show little response in property tax rev-
Stock Market ver-
occurred in the absence of a change in the enue to the recent declines in house prices.5
sus the Housing
Market,” Advances
effective tax rate.” (Lutz, 2008, p. 566)
in Macroeconomics
Several factors account for these long lags.
5 (2005).
In a subsequent paper, Lutz, Molloy, and Assessments may take quite some time to
5
Alm, James, Robert
Shan analyze the channels by which the respond to price changes, in part because
D. Buschman, and
housing market affects state and local tax assessors may not respond immediately to
David L. Sjoquist,
revenue.3 At its most basic level, a jurisdic- the price changes and in part because
“Rethinking Local
Government
tion’s property tax revenue (T) is simply many jurisdictions assess property rela-
Reliance on the
the product of its effective tax rate (t) and tively infrequently. In Illinois, Cook
Property Tax,” work-
the market value of its taxable property County assesses properties every three
ing paper, Georgia
State University
(V): T = tV. The first channel by which years while other counties in the state have
(2010), and
changes in house prices affect revenue is a four-year assessment cycle. Thus, it can
Doerner, William M.
entirely mechanical: if the tax rate is con- easily take five years or more for assess-
and Keith R.
Ihlanfeldt, “House
stant and the market value of taxable prop- ments to catch up to market trends. In
Prices and City
erty changes from V1 to V2, then revenue addition, nearly all states have adopted
Revenues,” working
rises by t(V2-V1). However, tax rates may some form of property tax limitation meas-
paper, Florida State
change when property values increase. If
University (2010).
ure which restricts jurisdictions’ ability to The Illinois Report 2011
raise revenue when prices increase.6 In The Assessor’s Office is in charge of esti-
many cases, these limits on the response of mating market values every three years in
property tax revenue when prices rise also Cook County. By statute, residential assess-
lead to some catch-up when prices fall, ments are supposed to be set at 16 percent
which has an ameliorative effect on rev- of market value in Cook County, but in
enue responses to price declines. 2009 the Assessor’s Office recently
announced a “recalibration” of the assess-
The most important source of lags is often ment process and now announces a target
overlooked: in many jurisdictions, tax rates of 10 percent for the assessment ratio rather
respond more mechanically than tax pay- than 16 percent. Similarly, commercial and
6
Anderson, Nathan
ments to changes in house prices. If T = tV industrial assessment levels have been re-
B., “Property Tax
Limitations: An
and V is an accurate and timely measure of calibrated to 25 percent rather than their
Interpretive
house prices, then either T or t can respond statutory 38 percent and 36 percent rates.
Review,” National
to maintain the equality when V changes. Assessment levels are 1/3 of all property
Tax Journal 59
(2006), 685-694.
In many—perhaps most—jurisdictions, T classes in the other counties in state.
is determined in local elections, while V is
7
According to data
determined by local assessment practices. Although Cook County is allowed to have
from the Illinois
The tax rate then responds mechanically to different assessment levels for different
Department of
Revenue, all but 19
ensure that the equality holds. It should property classes, the total of all assess-
of the 101 other
hardly be surprising, then, to find that ments must end up being 1/3 of property
counties in the
property tax revenue bears little or no rela- value for all counties in the state, including
state had multi-
pliers of 1 in 2007
tionship to house prices; it is t that Cook. In Cook County, each property’s
(http://www.
responds, not T. proposed assessed valuation in 2007 was
revenue.state.il.us/
multiplied by the state equalizer—the
LocalGovernment/
2007-table-3-
“multiplier”—of 2.8439 to ensure that total
multipliers.pdf ),
assessment averaged 1/3 of property
meaning that their Property Tax Administration in Illinois
Illinois is part of a group of states in which value, i.e., the average assessment across
assessments were
accurate on aver-
property tax rates bear a more mechanical all property classes was .33/2.8439 = 11.6
age. The average
relationship to property values than is the percent of market value in 2007. Multipli-
multiplier for these
case for revenue. Consider the following ers hover near 1 in all other counties in the
19 states was 1.026,
with a range of .960
table that the Cook County Assessor’s state, which implies that assessment levels
to 1.131.
Office website uses to illustrate how to cal- are close to their statutory 1/3 rate.7
culate an estimated tax bill (http://cook
8
A full list of exemp-
countyassessor.com/estimatedtaxbill.aspx).
tions is available on
The final step in the transition from market
the Illinois
value to the property tax base is the home-
Department of
owner exemption.8 The basic homestead
Revenue’s web site:
http://www.
exemption was increased to $6,000 in 2009.
revenue.state.il.us/
Other special exemptions are available for
localgovernment/
favored groups such as senior citizens, vet-
propertytax/tax Table 1
relief.htm.
erans, and people with disabilities. Cook
How to Calculate an Estimated
County has some additional exemptions
Residential Tax Bill in Cook County
for people who have lived in their home
$ 100,000 Estimated Market Value
×
for 10 years and have household incomes
.10 Assessment Level (10 percent)
of less than $100,000, as well as an alterna-
$ 10,000 Proposed Assessed Valuation
× 2.8439 2007 State Equalizer
tive general homestead exemption for
$ 28,439 Equalized Assessed Value (EAV)
homes with assessed values that have
– 5,500 Homeowner Exemption
increased by more than 7 percent.
$ 22,939 Adjusted Equalized Value (AEAV)
× .10 Sample Tax Rate (your tax rate
could vary)
The Illinois Department of Revenue calcu-
$ 2,293 Estimated Tax Bill in Dollars
lates equalization factors by comparing
Source: http://cookcountyassessor.com/estimatedtaxbill.aspx
Institute of Government & Public Affairs
each county’s assessments to actual sales properties are re-assessed, tax rates will
prices. Equalization factors are calculated rise unless voters agree to reduce expendi-
with some lag because the Department of ture levels.
Revenue compares a year’s assessments to
sales prices from the previous year, and
assessments themselves take place on a
The Distribution of Taxes
rotating three-year cycle within Cook The way tax rates are calculated in Illinois
County and on a four-year cycle elsewhere. means that an individual’s property tax
These lags mean that equalized assess- bill will be unchanged if all prices rise or
ments can easily take four to five years to fall by the same percentage and the num-
Unlike the
fully react to changes in market values. ber of properties does not change over
other counties
time. This unrealistic scenario does not
in the state,
Apart from these lags and the panoply of take into account the fact that new proper-
Cook County’s
exemptions, the assessment process is ties are added over time and others are
classified tax
designed to produce assessments that demolished or are converted to alternative system makes
closely track market values. A jurisdic- uses. It also involves an unrealistic residential
tion’s property tax base is the sum of the assumption that all properties appreciate
or decline in value at the same rate.
properties a
adjusted assessed values, i.e., favored class
These issues are particularly relevant in
with lower
Cook County. Unlike the other counties in
B = ∑tn= AEAVi effective rates
where B is the tax base and AEAVi is the the state, Cook County’s classified tax sys-
than other
adjusted equalized assessed valuation for tem makes residential properties a favored
property
the ith property in the jurisdiction. Once class with lower effective rates than other
classes.
this base is determined, all properties in property classes. Non-residential proper-
the jurisdictions are taxed at the same rate, ties are not the beneficiaries of exemptions
t. The total tax revenue for the jurisdictions and are subject to higher property assess-
is thus T = tB. ment levels. Table 2 shows the calculation
of the tax bill for a representative commer-
Given this reasonably straightforward rela- cial or industrial property in Cook County
tionship between assessed values and tax if the recent recalibration for non-residen-
revenue, changes in actual property values tial assessments to 25 percent of property
would lead in time to proportionate value had been applied in 2007.
changes in tax revenue if the tax rate were
constant. In Illinois, as in most states, it is
the tax rate that adjusts when the tax base
changes, not revenue. In other words, the
simple identity should be re-written as t =
Table 2
B/T to reflect the actual direction of causa-
How to Calculate an Estimated Tax Bill
tion: each jurisdiction’s tax base and total
for a Commercial or Industrial
tax extension interact to determine its tax
Property in Cook County
rate. The tax rate falls when assessed val-
$ 100,000 Estimated Market Value
×
ues rise in response to rising property val-
.25 Assessment Level (25 percent)
ues, and it rises when assessed values fall
$ 25,000 Proposed Assessed Valuation
× 2.8439 2007 State Equalizer
in response to declining property values.
$ 71,098 Equalized Assessed Value (EAV)
However, the change does not come
–0 (No Exemption)
overnight. Property values began to
$ 71,098 Adjusted Equalized Value (AEAV)
× .10 Sample Tax Rate (your tax rate
decline in 2007 and many properties are
could vary)
only now being re-assessed to reflect the
$ 7,110 Estimated Tax Bill in Dollars
changing market conditions. Once the
Source: http://cookcountyassessor.com/estimatedtaxbill.aspx
The Illinois Report 2011
The total tax bill for a commercial or to be replaced with a $269,340 home to
industrial property with a market value of keep taxes the same in Cook County. This
9
Note that these cal-
$100,000 in this example is 7,110; it would situation provides a huge disincentive for
culations use the
same $5,500 home-
be $2,293 for a residential property with commercial property owners to locate in
stead exemption
the identical market value. The effective Cook County, and also means that any loss
that was used in
tax rate is 7,110/100,000 = 7.11 percent, of non-residential property is likely to pro-
the table from the
Cook County
compared with 2.29 percent for the resi- duce increases in residential tax bills even
Assessor’s Office.
dential property. The tax bill is more than as homes drop in value.
When the figure is
three times higher for commercial property
raised to $6,000 to
be consistent with
than for a residential property that has the Unfortunately for Cook County, the num-
the current exemp-
very same market value. ber of commercial and industrial proper-
tion, the value of
ties has been falling over time. Data
$116,667 rises to
$118,000 for coun-
In any county in the state, a loss of com- presented in the Cook County Assessor’s
ties other than
mercial or industrial property will neces- Office Final Assessment Abstracts show that
Cook and the value
sarily lead to higher taxes on residential the total number of commercial properties
rises from $269,340
to $271,107 in Cook
property owners unless the tax extension in the county fell from 73,002 to 69,263 in
County.
changes. In other counties, each $100,000 2008, and the total number of industrial
of market value that is lost in commercial properties declined from 27,879 to 25,110.
10
The exact calcula-
tions are 2.69 ×
or industrial property value only needs to The average commercial assessment was
1,040,964 × (73,002
be replaced with $116,667 in residential $262,491 in 2008 and the average industrial
– 69,262) =
property to keep taxes the same as before. assessment was $171,480; these figures
104,772,722,420 for
commercial and
The additional $16,667 is needed to com- translate into market values of $1,049,964
2.69 × 685,920 ×
pensate for the exemption that is provided and $685,920 at the re-calibrated 25 percent
(27,879 – 25,100) =
to residential property owners. These cal- assessment level. Because each property
5,127,601,819 for
industrial.
culations are shown in the first two needs to be replaced by a residential prop-
columns of the tables below, which show erty with a value that is 2.69 times as
that representative $100,000 commercial expensive to keep property value
industrial properties produce the same tax unchanged, the commercial properties
revenue as a $116,667 residential property would need to be replaced by more than
in 101 of the state’s 102 counties.9 Similar $100 billion in residential homes to keep
calculations in columns 3 and 4 show that the property tax bill constant, and another
the $100,000 non-residential property has $5 billion would be needed to compensate
for the loss of commercial property.10
These calculations show that a loss of non-
residential property in a jurisdiction can
lead to increases in homeowners’ property
Table 3
tax bills even if all residential assessments
Comparison of Residential and Commercial Property Tax
remain constant over time. Tax bills will
Rates and Their Influence on Each Other
also change when property values change
at different rates in different area within a
Other Counties Cook County
Res. Com. or Res. Com. or
jurisdiction. For example, suppose a juris-
Ind. Ind.
diction’s entire tax base is residential, with
$116,667 $100,000 $269,340 $100,000 Estimated Market Value
× .33 × .33 × .10 × .25 Assessment Level (33 percent)
1,000 properties that initially all have
$ 38,500 $ 33,000 $ 26,934 $ 25,000 Proposed Assessed Valuation
× 1 × × 2.8439 × 2.8439
adjusted equalized assessed values of
1 2007 State Equalizer
$50,000. The tax base is $50 million. If vot-
$ 38,500 $ 33,000 $ 76,598 $ 71,098 Equalized Assessed Value (EAV)
– $5,500 –0 – $5,500 –0 (Exemption)
ers in the jurisdiction have authorized
$ 33,000 $ 33,000 $ 71,098 $ 71,098 Adjusted Equalized Value (AEAV)
× .10 × × ×
property tax extensions of $10 million,
.10 .10 .10 Sample Tax Rate
then the tax rate is .20, and each home-
$ 3,300 $ 3,300 $ 7,110 $ 7,110 Estimated Tax Bill in Dollars
owner pays $10,000 in property tax. Now
Source: http://cookcountyassessor.com/estimatedtaxbill.aspx
Figure 6
Appreciate Rates for Residential Properties in Chicago, 1995-2005
1.2
These
1.1 calculations
show that a
loss of non-
residential
property in a
1.0
jurisdiction can
lead to
increases in
homeowners’
property tax
bills even if all
0.9
residential
assessments
remain
constant over
time.
0.8
Source: Author’s calculations using data obtained from the Illinois Department of Revenue
suppose that the market value of half of 10 percent. Though this result may lead to
these properties falls by 10 percent, while some complaining, it is a mathematical
the others are fortunate enough to remain necessity if tax extensions are not included.
unchanged. For simplicity, ignore the effect
of exemptions, and assume that the Although we do not yet have sufficient
adjusted EAV declines by 10 percent to data to observe variations within jurisdic-
$45,000. The tax base is now 500 × $45,000 tions in the decline in property values
+ 500 × $50,000 = $47.5 million, and the tax since 2007, it is clear that appreciation rates
rate must rise to .2105 to raise the required varied markedly during the boom time
revenue. The tax bill for the properties that preceding the decline. Figure 6 shows
have declined in value falls to $9,474, but average appreciation rates for residential
the tax bill for the houses that have not properties for census tracts in the City of
changed in value rises to $10,526. Thus, Chicago for 1995-2005. During this time,
half the homeowners in the jurisdiction get sales prices increased markedly through-
higher tax bills even though their property out Chicago. Appreciation rates were
value has not increased. The other half gets much higher in areas near the city center
only a 5.26 percent decline in their tax bills on the north side of the city. Property val-
even though their property values fell by ues grew at much lower rates on the south 7The Illinois Report 2011
side of the city. If tax extensions remained Merriman study captures the essence of
constant during time and there were no the rate setting process. The maximum tax
change in the number of properties or the rate imposed by PTELL can be written as
mix of residential and non-residential follows:
properties and assessments accurately Maximum tax rate = {(prior extensions)
reflect changes in market value, then tax × (1 + inflation factor)}/(new total tax
payments would increase in the areas of base), or
the city that are in red relative to the areas
shaded in blue. If the red areas also experi-
enced greater declines in property values
T
tptell = ( last year) * (1+p)
11
Dye, Richard F.,
after prices began to decline in 2007, then
Daniel P. McMillen, Bthis year
and David F.
these areas will eventually come to be the where, as before, T represents total tax
Merriman, “The
beneficiaries of lower tax payments while extensions, B represents the total assess-
Effect of Declining
the blue areas may make higher tax pay- ment base, and t represents the tax rate.
House Prices on
School Property
ments even as their homes drop in value. The new variable is p, which represents
Taxes and School
the inflation factor—the less of the rate
Aid in Illinois,”
of inflation or 5 percent.
University of Illinois
Institute of
Government and
The Illinois Property Tax Extension
In times when assessments are rising,
Public Affairs Limitation Law (PTELL)
PTELL was first adopted in 1991 by the PTELL is implemented by imposing a
(2010).
five collar counties of suburban Chicago. It limit on the tax rate. An example based on
was extended to Cook County in 1994, and one presented in the Dye, McMillen, and
has since been adopted by another 33 Merriman study illustrates how PTELL
counties in the state. PTELL limits the affects total tax extensions for a
growth rate in total property tax to the representative school district in a time
lesser of the rate of inflation and 5 percent. when assessments are falling. The
The limits are implemented by imposing a representative district starts with total
maximum tax rate for jurisdictions in EAV (B) of $100 million and a tax rate (t)
PTELL areas. Because declining assess- of 2.5 percent, a combination that provides
ments must be accompanied by higher tax $2.5 million in total tax extensions (T).
rates to keep extensions at their target lev- Suppose that assessments fall by 10
els and PTELL imposes maximum tax rates percent so that the new tax base is $90
on jurisdictions, do falling house prices million instead of $100 million. Also,
necessarily lead to lower property tax suppose that the overall inflation rate is
extensions in PTELL jurisdictions? zero, and the district therefore decides to
leave tax extensions unchanged from the
This question is addressed in a recent study previous period. The tax rate then must
by Dye, McMillen, and Merriman.11 The rise by exactly the amount that assures
answer to the question is no; although that the $90 million tax base produces $2.5
PTELL imposes limits on increases in prop- million in taxes. Thus, the new tax rate in
erty tax extensions, the interaction between this non-PTELL district is simply 2.5/90 =
falling assessments and the maximum tax 2.78 percent, or an increase of 0.28
rate imposes no additional constraints on percentage points.
tax extensions. The reason for this some-
what counter-intuitive result is that the Suppose that an identical district that is
maximum tax rate is not set by law; subject to PTELL also began with a $100
instead, it varies to allow extensions to million tax base, a tax rate of 2.5 percent,
reach the same level that would have been and total tax extensions of $2.5 million. If
reached if assessments had not changed. the district’s maximum rate remained at
An example from the Dye, McMillen, and 2.5 percent, then tax revenue would fall to
Institute of Government & Public Affairs
.025 × 90 = $2.25 million. But the
maximum tax rate adjusts to allow the
district’s expenditures to keep up with the
less of 5 percent or the inflation rate,
which in this case is simply zero. So the
new maximum tax rate is 2.5/90 = 2.78
percent, which is exactly the same as in
the otherwise identical non-PTELL district.
The general point is quite simple: property
Falling
tax rates are not constant over time in
property
Illinois. Rather, the tax rate changes to
values do not
keep ensure that the tax base provides the
automatically
amount of revenue agreed upon by voters.
Daniel P. McMillen has a joint
impose fiscal
Though PTELL places limits on total
appointment in the Department
stress on state
increases in tax extensions, it places no
of Economics and the Institute of
Government and Public Affairs. He and local
limits on how much tax rates can change
also is a visiting fellow at the
governments.
in response to changing assessments.
Lincoln Institute of Land Policy
and a consultant at the Federal In the short
Reserve Bank of Chicago. He run, assess-
served as the Director of the
Conclusion
Center for Urban Real Estate at the
ments do not
Falling property values do not
University of Illinois at Chicago change and
automatically impose fiscal stress on state
from 1999-2005, and has been a tax rates stay
and local governments. In the short run,
member of the economics
the same
assessments do not change and tax rates
departments at the University of
Oregon, Santa Clara University, unless tax
stay the same unless tax extensions
Tulane University, and the extensions
change. Although assessments eventually
University of Illinois at Chicago.
change.
will fall to reflect changing market
McMillen received his Ph.D. in
conditions, homeowners’ tax payments
Economics from Northwestern
may stay the same as before. In Illinois, as
University in 1987. His
publications have appeared in
in most of the country, tax extensions do
such academic journals as the
not adjust passively to changes in
Journal of Urban Economics,
assessments: increases in assessments do
Regional Science and Urban
not automatically produce increases in
Economics, the Review of
Economics and Statistics, Real
property taxes, and declines in
Estate Economics, and the Journal
assessments do not automatically produce
of Business and Economic Statistics.
decreases in property taxes. Instead, it is
He has been co-editor of Regional
tax rates that adjust to changing
Science and Urban Economics since
assessments.
2007.
The distribution of assessment changes
can have a significant effect on a most fundamental effect of declining
homeowner’s tax bill, however. Areas house prices on property taxes is much
with smaller declines in assessments may less direct: if voters turn down tax
end up having higher tax bills even requests when property values fall, then
though their homes have decreased in taxes will eventually fall. In the end, it is
value. Declines in the non-residential tax voters who determine the overall size of
base can lead to large increases in property tax extensions, not house prices.
residential tax bills irrespective of the
direction of change in home prices. But the You can also read
