An interesting discussion cropped up the other day on the Herald Times Online, in reaction to an article on the large new apartment development at Patterson Drive and Third Street in Bloomington (Massive project presents more evidence of the influence, effect of growth policies – behind paywall, unfortunately).
In short, one poster made a comment about the massive amount of property taxes that the county must be making from this new development. Another poster countered by saying that property taxes in Indiana have been “frozen” since 1973, implying that county government would not be seeing additional property taxes from the new development.
I weighed in essentially on the side of the second poster (with some exceptions), who argued that property taxes were “frozen”, and therefore new development doesn’t generate additional property tax revenues for local government. Since this is such a common topic of discussion and public misunderstanding, I thought I would address the question directly: do local governments get additional revenue from new development.
Property Tax “Freeze” in Indiana
In general, and contrary to popular belief, increased development does not result in an increase in revenue for local government in Indiana (with several exceptions, which I’ll mention below). The reason goes back to the property tax restructuring of 1973, during the Otis Bowen administration.
There are several excellent histories of property tax legislation in Indiana, including:
- Public Question 1: Property Tax Reform in Indiana 1973 through Public Question 1 (Indiana Fiscal Policy Institute)
- How We Got Here from There: A Chronology of Indiana Property Tax Laws (Indiana Business Review)
- Indiana’s 2002 Tax Restructuring (Economist Larry DeBoer)
I will not attempt to reiterate them here, except to say that since the Bowen Tax Package of 1973, property taxes for local governmental units in Indiana have essentially been “frozen” at their 1973 levels, along with a limited number of methods by which property taxes can be increased. Although there have been many legislative changes to the property tax formulas and assessment methods over the years since then, the current formula was established in 2002 (HEA 1001).
In short, local units of government receive in property tax revenue what they received the year before, plus a “cost of living” (my term) adjustment that is determined by the six year moving average of non-farm personal income growth. This adjustment is determined statewide — so that every county and every local unit of government gets the same adjustment. The general principle behind this is that the cost of government shouldn’t increase at a faster rate that the taxpayers’ incomes are increasing. So each unit of government is allowed a maximum levy that is slightly more than their maximum levy the year before.
How Property Taxes Are Calculated in Indiana
So why doesn’t the new assessed value from additional development result in a windfall for local government? It is because, after the changes in property tax legislation I mentioned above, property taxes in Indiana are calculated in reverse from how most people think of taxes. Typically, with most taxes, you have a tax rate that is set by legislation, and then a tax base (what is taxed), and the total amount received by government is the tax rate times the base. For example, the Indiana gross retail sales tax rate is 7%. The government receives 7% of whatever the total retails sales are. If sales are high, government receives a lot of tax. If sales are low, not so much.
However, with property tax in Indiana, we start with the maximum levy that I described above — the total amount the unit of government is allowed to collect. The assessment of individual properties only determines how the tax that generates that revenue is divided up among property owners. So the tax rates are determined by dividing the maximum levy by the total assessed value. Think about this. Because we start with the maximum levy, rather than some fixed tax rate, even if every single property owner’s assessed value doubled overnight, local government still wouldn’t receive a dime more (with the caveats that I’ll describe below).
So because the maximum levy is still the maximum levy (last year’s maximum levy plus the “cost of living” adjustment), regardless of new assessed value, new development doesn’t mean more taxes collected — it means that every other taxpayer’s share of the total is slightly less than it would be without the new development. In other words, new development means that everyone else’s taxes go down slightly (or don’t go up as much as they would without the new development) — but revenues for local government don’t increase.
As Always, There Are Exceptions
Of course, there are exceptions. There are a couple of cases in which new development does result in additional revenue to local governments.
First, there are so-called rate-controlled levies. These behave more like traditional taxes, in that they are established with a fixed tax rate, and so more assessed value translates to increased revenue. Generally these levies support cumulative funds for infrastructure — cumulative capital development, cumulative fire equipment, cumulative bridge fund, etc. This makes sense– in general, more assessed value means more needs for infrastructure maintenance. However, even these rate-controlled levies are restricted in growth in various ways after the 1973 property tax changes.
The second big exception is with respect to the circuit breakers (“tax caps”) — the 1%-2%-3% limits on an individual parcel’s property taxes as a percentage of gross assessed value of that parcel that were placed in the Indiana Constitution in 2008. Because new development (i.e. new assessed value) decreases the tax rates for everyone, it gives local units of government more headroom before the circuit breakers kick in, and so can avert what otherwise would have been losses of revenue through the circuit breakers.
There are a few other exceptions. And of course if the new development actually produces new wages for county residents then local governments would receive additional revenues in the form of increased income taxes on those wages.
But it should be clear now that new development definitely does not result in a windfall for local government — or potentially even any increased revenue at all — and of course local government has to fulfill the increased demand on services that often accompanies new development — a subject for a separate discussion.