The negative consequences of limiting property taxes

The NY Times has an interesting piece today on cities trying to help long-time homeowners whose property taxes are going up as a result of gentrification.

Here’s the money quote:

“The initiatives, planned or underway in Boston, Philadelphia, Washington, Pittsburgh and other cities, are centered on reducing or freezing property taxes for such homeowners in an effort to promote neighborhood stability, preserve character and provide a dividend of sorts to those who have stayed through years of high crime, population loss and declining property values, officials say.”

Here’s what the cities are trying to prevent: Area gets better, new people move in, prices go up, property taxes get re-assessed upwards, existing residents can’t afford to pay, existing residents sell and move-on, community suffers.

In California, Prop 13 protects homeowners in this situation, because property taxes are pegged at roughly 1.25% of the purchase price and can only be increased by a maximum of 2% annually thereafter. So, price increases of more than 2% annually have no effect on CA property taxes. (For more on Prop 13 and its implications for property owners, read this and this.)

But our experience with property tax limitations in CA does point to one interesting problem with the policies contemplated by the above-referenced cities: If you limit property tax increases, you dramatically slow the rate at which neighborhoods improve.

To illustrate why, consider two examples:

1. The case of the vacant lots on La Brea, just south of Wilshire. (If you’re too lazy to click the link: There are vacant lots on La Brea, an incredibly important and valuable street, because the prop taxes are low so the owner has no incentive to sell or develop himself); and

2. All over the city, but particularly in Silver Lake and Echo Park, there are people who bought their homes in the 1980s for peanuts. Many of these homes have now fallen into disrepair because the owners are insufficiently well-capitalized to maintain them. These owners almost never sell, because they are living for very, very little. So, their properties will remain eye-sores in perpetuity.


So, if cities are going to opt to help the original owners stay, they ought to put in place some standards for property upkeep and, possibly, a program to help pay for upkeep if the owners can’t afford it.