Property Tax Web Series

Abstract

Since at least Smith (1776), economists have favored taxes on land and immovable property, believing that such taxes minimally distort incentives. Theories by George (1879) and Tiebout (1956) formalize the view that if homeowners do not alter their property when taxed, property taxes resemble lump sum taxes and are therefore perfectly efficient. Yet popular narratives allege that when home prices rise, property taxes create financial hardship and can force homeowners to move out of their neighborhoods. Such narratives are difficult to reconcile with these canonical theories, as well as contemporary models that incorporate many realistic features of homeownership.

This study reconciles this disagreement through the lens of homeowner responses to housing wealth. Standard models predict that a homeowner who experiences an increase in housing wealth will dissave in order to increase current consumption and pay property taxes, possibly by borrowing against their housing wealth. However, recent findings indicate that homeowners do not dissave when a reduction in mortgage debt increases their net housing wealth (Bernstein and Koudijs 2021). Whether such deviations from neoclassical savings behavior are empirically relevant for property taxes remains an open question. If homeowners do not react to increases in housing wealth, the corresponding increases in property taxes may create financial hardship.

This study is the first to document the role of non-neoclassical savings behavior in determining homeowners' responses to property taxes. Using quasi-experiments applied to merged administrative data, I show that property taxes increase financial distress, consumption volatility, and displacement, and decrease investment. Coupled with an absence of borrowing, these patterns suggest that homeowners are unresponsive to the accompanying increases in housing wealth. A novel household survey indicates that this behavior is generated by preference-based debt aversion, rather than by financial or information constraints. Taken together, these findings imply that debt aversion increases wealth accumulation but prevents property taxes from attaining the level of efficiency envisaged by standard economic theories.

This paper was presented by Francis Wong (Ludwig-Maximilians University of Munich) on April 7, 2023 as part of the 2022-2023 Syracuse-Chicago Webinar Series on Property Tax Administration and Design. Luke Rodgers (Florida State University) was the discussant for this presentation.