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Comment:

The Missouri House committee reviewing the recommendation of St. Louis Budget Director Paul Payne should seriously consider a phase-out of the earnings tax. But then Mr. Payne said there wasn’t a backup revenue plan if voters rejected the tax. Rep. Murphy said the lack of a plan from St. Louis was disturbing.

Well actually there is a backup plan for replacing the earnings tax. For those who might remember, it was proposed 27 years ago by the libertarian Show Me Institute. On January 24, 2007, Joseph H. Haslag, professor of economics at the University of Missouri, published in the institute’s Policy Study “How to Replace the Earnings Tax in Saint Louis”. His study posed the question: What source of tax revenue could offset the revenue lost by eliminating the earnings tax and create the smallest economic distortion? Following extensive analysis, he laid out the case for a tax that economists have long regarded as non-distortionary: a tax based on land value. According to his calculations, the Saint Louis earnings tax can be phased out over ten years without reducing city revenue if a tax on land value is created and gradually increased to 10.04 percent.

His model simulations indicate that Saint Louis would enjoy an economic rejuvenation as the increased return to physical and human capital lured people back into the city. The model suggests that city population and employment would both increase. These predictions have been borne out in the real world. Land-value taxes have been implemented by nations around the world, including Estonia, Taiwan, Singapore, Hong Kong, Sydney and Canberra. In the United States, the Pennsylvania legislature in 1913 granted cities the option to adopt a land value tax.

Economists have shown that Pennsylvania cities that implemented a two-tier property tax experienced an increase in economic growth relative to cities that did not use the land tax. Comparing 15 Pennsylvania land-tax cities with 204 similar no-land-tax cities over a 22-year period, Plassmann and Tideman report that cities utilizing the two-tier land tax have higher average construction levels than no-land-tax cities. They conclude that there is a significant, positive correlation between the ratio of land tax rate to structure tax rate and the level of construction spending.

Economists Oates and Schwab (1997) focus on the experience of Pittsburgh following a 1979 increase in the tax rate on land to five times the rate on structures. Pittsburgh recorded a 70% increase in the number of building permits while the number declined by 16% for the 15 northeastern cities over the same period.

The two-tier model adopted by Pennsylvania makes good sense to Professor Haslag because of its built-in positive/negative incentives. Nobel laureate William Vickery is quoted as saying, “The property tax… is a combination of the worst taxes—the part that is assessed on real estate improvements—and one of the best taxes—the tax on land or site value. A tax on land, properly assessed… is virtually free of distortionary effects, while the tax on improvements imposes serious burdens on construction.” Thus, it makes economic sense to separate the two taxes, charging a higher rate on land and a lower rate on improvements.

So does the failure of the City of St. Louis to come up with alternatives to the earnings tax mean that such a solution does not exist? No. It’s time to consider the overlooked reform of Missouri’s property tax structure – a split-rate land value tax. This could be a heavy lift for the legislature, as constitutional amendments may be necessary to authorize unequal tax rates, even though the rate combination would be uniformly applied across the entire property tax base. Nevertheless, it’s worth the effort, as Mayor Duggan of Detroit would advise.

After years of decline and abandonment the city of Detroit has finally seen how the property tax system can be shaped to reverse this trend. The Lincoln Institute’s 2022 study of Detroit’s tax system describes a property assessor’s predicament and its logical solution. The consequence of having the lowest market values of any large city is a persistent, self-reinforcing dilemma: properties of all types are taxed at rates that exceed most other large United States cities. High tax rates on residential properties correspond to higher rates of tax delinquency, home abandonment, and foreclosures.

Eventually, chronically low taxable values cause local governments to pass higher tax rates on assessed values, hastening capital flight, and causing further reductions in the tax base.

Detroit property owners need incentives that reward new development or redevelopment; homeowners and employers need relief from high effective property tax burdens; and local governments need to expand their tax base. A solution that converges on all these needs is a split-rate property tax system.

But whatever replacement options materialize, Missouri legislators should look very skeptically a taxes on income from labor. Imposing a tax on income generated by effort lowers the after-tax wage, which in most cases leads to a corresponding decrease in effort since the reward for working is diminished. A wage earner’s decision to work fewer hours or not to take a second job is a reaction to an increase in the tax on labor income. The worker can avoid the tax by working less. The increased sales tax option is also a poor choice; it not only generates a dead-weight loss in the local economy, but is regressive too.

Look to the land.

Tom Gihring, research director
Common Ground, OR/WA

www.commongroundorwa.org