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Finally, a Halt in Escalating City Property Taxes

August 25, 2014 By Jeff Van Wychen, Fellow and Director of Tax Policy & Analysis

From 2002 to 2013, city budgets shrank while city property taxes increased, thanks to rapidly declining state aid. Legislative actions in 2013 and 2014 mercifully reversed this trend. However, while much progress has been made in terms of reforming Minnesota’s property tax and state aid system, more work needs to be done.

The recent history of city finances is an intricate tale that involves city budget decisions, fluctuations in state aid, and resistance from taxpayers to rising property taxes. To help unravel the various threads that influence city finances, the following analysis will examine: (1) total city property taxes, (2) total state aids and credits to cities, and (3) the sum of these two items, referred to in statute as city “revenue base.” While not inclusive of all city revenues, revenue base is commonly used to analyze city finance trends because accurate amounts are available through the current budget year. To compensate for the effects of inflation and population growth, amounts below are expressed in constant 2014 dollars per capita. Click here for a table showing the data used in this analysis.

During the 1990s, city finances were stable—at least in comparison to the tumultuous decade that was to follow. During most years of the 1990s, city Local Government Aid (LGA) was adjusted annually for inflation; however, the LGA appropriation was not adjusted for growth in city population, so total statewide LGA in real (i.e., inflation-adjusted) dollars per capita declined modestly over the decade. Fluctuation in other aid programs also contributed to a modest overall reduction in city aid from 1990 to 2002, which was recouped through a combination of property tax increases and city budget reductions. However, from 1990 to 2002 city property tax increases (12 percent) and revenue base reductions (4 percent) were modest and manageable relative to what was to come.

This relatively stable period of city finances ended abruptly with the advent of “no new tax” policies in 2003. Unfortunately for cities and property taxpayers, “no new taxes” applied only to state income and sales taxes; conservative state policymakers had no qualms about shifting state budget problems on to regressive property taxes through reductions in state aid. From 2002 to 2013, state aid to Minnesota cities fell by $143 per capita or nearly 59 percent. The single largest one-year decline ($55 per capita) occurred from 2002 to 2003, although aid continued to drop in all but two of the next ten years. With the abrupt drop in city aid, the downward plunge in the city finance roller coaster was underway.

While the level of aid cuts and the response to them varied from city to city, the loss in state assistance was generally dealt with through two strategies: property tax increases and budget reductions. From 2002 to 2013, city property taxes increased by $83 per capita (23 percent)—double the annual average growth rate from 1990 to 2002. Two-thirds of this property tax increase occurred from 2002 to 2008, although city property tax increases continued in each of the next five years (2009 through 2013) with only one exception.

The other coping strategy adopted by cities to deal with state aid cuts was budget cuts. From 2002 to 2013, the statewide revenue base of Minnesota cities fell by $60 per capita (10 percent). Nearly three quarters of this revenue decline occurred from 2002 to 2003; because the 2003 aid cuts occurred after 2003 city property taxes were set, cities had no other option in that year other than to cut budgets in response to a massive state aid cut. After 2003, city revenue base fluctuated over the next ten years, gradually drifting downward, reaching the lowest point in at least three decades in 2011, before rebounding slightly in 2012 and 2013.

The argument that city budgets were flush in 2002 and thus cities could deal with a decade of perennial aid cuts is not supported by the facts. Previous Minnesota 2020 analyses show that per capita city spending was slightly below the nationwide city average per capita in 2002 and significantly below by 2007, after adjusting for differences in city funding responsibilities among the states. (This analysis will be updated when the 2012 Census of Governments in released.)

The period of “no new state taxes” but continually escalating local property taxes ended in 2014 as the result of progressive takeover of the state legislature in the preceding year. In the above graph, the increase in 2014 per capita city aid looks modest because it is measured relative to the robust to 2002 city aid total. In reality, the $15 per capita increase in state aid in 2014 represents a 15 percent increase above the 2013 aid level. With this $15 per capita aid increase, cities increased their revenue base by $9 per capita (recovering 18 percent of what was lost from 2002 to 2013) and reduced city property taxes by $6 per capita. The increase in city aid in 2014 was a contributor to the first statewide reduction in property taxes in twelve years.

Two lessons can be gleaned from this analysis. First, the increase in city property tax from 2002 to 2013 was not the result of increases in local budgets, as demonstrated by the fact that real per capita city revenue base declined over this period. This is confirmed by Price of Government information and State Auditor’s data, which also shows a double digit real per capita decline in total city revenue.  Rather, the growth in property taxes was driven by reductions in state aid.

Second, conservative “no new tax” lingo does not apply property taxes. During the decade when they were effectively running state government, purportedly anti-tax politicians repeatedly shifted state budget problems on to property taxpayers through reductions in property tax relief programs, not to mention shifts in funding responsibilities from state to local government which thereby created even more pressure for property tax increases.

The task of reforming state aid is not complete. In 2015 state policymakers approved a modest increase in city LGA funding, but not sufficient to keep pace with growth in the cost of the goods and services that cities purchase or the size of the population that cities serve. In order to help avoid future property tax increases, policymakers should annually adjust funding for LGA and other general purpose aids to keep pace with inflation and population growth.

Nonetheless, significant property tax reform was achieved during the 2013 and 2014 legislative sessions, not just through increases in LGA and other local aid programs, but through the new homestead credit refund, increases in the renters’ refund, and reform of the city LGA formula. Minnesotans need to decide whether they want to continue on this course or return to the “no new tax” property tax increases that preceded it.
 

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2 Comments:

  • David Miller says:

    September 2, 2014 at 7:46 am

    I think the dates are wrong in the last sentence of the third paragraph. The date range is not consistent with the claim in the sentence that property tax increases during the period were manageable. To be consistent with other information in the article, the dates should probably be 1990-2002 rather than 2002-2012.

    • Jeff Van Wychen, MN 2020 says:

      September 2, 2014 at 9:55 am

      David:
      You are absolutely correct.  Thanks for reading so attentively.  The correction has been made.