Pennsylvania was the birthplace of one of the most novel approaches to property taxation: the “two-rate,” or land value tax (LVT), developed by Philadelphia-born philosopher and economist Henry George (1839-1897).
Today, 18 cities, one school district, and one special district in Pennsylvania tax land at a higher rate than buildings. The results have been the subject of national attention by state and local policymakers searching for pro-economic growth tax policies.
Debate in Philadelphia
The two-rate system is getting serious consideration in Philadelphia, where it has been endorsed by the Tax Reform Commission and championed by City Controller Jonathan A. Saidel. Philadelphia Councilwoman Jan Blackwell has introduced a resolution calling on the Council Committee of the Whole to hold hearings on Saidel’s proposal.
“Land-Value Taxation would reward owners who strengthen neighborhoods while it would punish those who are causing blight across the city,” Saidel said earlier this year when he released the findings of a Drexel University study on land value taxation.
The report, prepared by Roger McCain, Paul Jensen, and Stephen Meyer of the department of economics and international business in the university’s LeBow College of Business Administration, concluded a revenue-neutral shift to an LVT system would lower property taxes for four of every five residential properties in Philadelphia.
Saidel has been championing such a system since November 2001, when his office issued a 98-page Tax Structure Analysis Report that recommended the city change the way it taxes real estate. At present, a tax on land generates roughly 22.5 percent of the city’s real estate tax revenues, while a tax on structures and improvements generates roughly 77.5 percent. Saidel proposes switching to a system where the two taxes each generate an equal amount of revenue.
“By reducing the tax on structures and increasing the tax on land,” Saidel explained, “we can encourage property owners to best utilize their properties, discourage speculators from holding land vacant and allowing buildings to decay, and encourage economic development across the city.”
How Land Value Taxes Work
The real estate tax is a combination of two taxes: one on the land itself, and one on improvements made to the land, generally buildings or other structures. By changing how the two taxes are applied, Saidel points out, “we can change how property owners act.”
Consider two adjacent properties of equal value, one vacant and the other with a house. Under a conventional real estate tax, the two properties might generate $1,750 in total tax revenues, and the property owners’ tax bills might look like Table 1.
| Table 1 Conventional Real Estate Tax |
||
|---|---|---|
| Amount Paid by Two Hypothetical Adjacent Parcels | ||
| Parcel | Vacant Lot | Lot with House |
| Value of Land | $50,000 | $50,000 |
| Tax on Land @ 1% | $500 | $500 |
| Value of Improvement | -0- | $75,000 |
| Tax on Improvement @ 1% | -0- | $750 |
| Total Tax | $500 | $1,250 |
The conventional real estate tax penalizes investment–all other things being equal, it’s less expensive to leave a property vacant than it is to improve it.
The conventional real estate tax also raises the cost of housing. Putting a house on the lot has cost the owner $750 a year in real estate tax, or $62.50/month. If the building is a rental property, its owner must charge higher rent in order to recoup the tax cost.
The incentives are different under a land value tax system. Although an LVT can be implemented many different ways, for the sake of simplicity consider a system that taxes the value of land but does not tax the value of improvements.
| Table 2 Land Value Tax |
||
|---|---|---|
| Amount Paid by Two Hypothetical Adjacent Parcels | ||
| Parcel | Vacant Lot | Lot with House |
| Value of Land | $50,000 | $50,000 |
| Tax on Land @ 1.75% | $875 | $875 |
| Value of Improvement | -0- | 75,000 |
| No Tax on Improvement | -0- | -0- |
| Total Tax | $875 | $875 |
Table 2 shows how raising the tax on land and eliminating it on improvements can generate the same amount of revenue as the conventional real estate tax system described in Table 1.
Under an LVT system, homeowners pay less and the owners of vacant lots pay more. But the latter benefit too: They can build on their lots without paying any additional tax. Theoretically, that reduces the cost of a $75,000 house by $62.50/month.
More Housing, More Jobs
Giving property owners an incentive to improve their properties creates more housing, and that housing is less expensive. The construction activity also creates jobs.
Economist Florenz Plassmann, currently with State University of New York at Binghamton, has conducted mathematically sophisticated studies comparing Pennsylvania’s two-rate cities to cities using conventional one-rate. He concludes that, in cities where additional development “was considered a good thing,” the two-rate tax system has resulted in increased construction of housing as well as nonresidential buildings. Tabulations by the Center for the Study of Economics have consistently supported that finding. This work implies more jobs and less-expensive housing, but studies directly addressing that relationship apparently have yet to be done.
Harrisburg, one of the Pennsylvania cities that has adopted land value taxes, has seen major improvements in its economy and quality of life. “Without hesitation we can commend the importance and benefit of the land-value tax policy,” says Mayor Stephen R. Reed.
Legal Issues
Rules governing the assessment and taxation of real property vary from state to state. According to a 1999 article published in the George Mason Law Review by attorney Anthony Coughlan, most states require “uniformity” in assessment, but at least 20 allow some “classification” of real property, which could permit LVT.
In Illinois, for example, counties with populations of more than 200,000 are permitted to classify real property for taxation purposes. The most heavily taxed property class may not pay a rate more than 2.5 times the rate applied to the class taxed most lightly.
In states that do not explicitly permit classification, according to Coughlan, a review of case law would be required to determine the legality of LVT.
Chuck Metalitz is director of the Henry George School in Chicago. His email address is [email protected].
For more information …
The March 2003 Drexel University report, Research on Valuation of Land and Improvements in Philadelphia, is available in Adobe Acrobat’s PDF format from The Heartland Institute’s free PolicyBot research database. Point your Web browser to http://www.heartland.org, click on the PolicyBot button, and search for document #13672.
Philadelphia Controller Jonathan Saidel’s November 2001 report, Tax Structure Analysis Report, is also available through PolicyBot. Search for document #13671.
Florenz Plassmann’s study The Impact of Two-Rate Taxes on Construction in Pennsylvania is posted at http://scholar.lib.vt.edu/theses/available/etd-61097-13834/.
Additional studies and information regarding two-rate in Pennsylvania and elsewhere is at the Center for the Study of Economics site, http://www.urbantools.net.
