Declining Housing Prices and Property Taxes - Institute of ...

The Illinois Report 201111Dye, Richard F.,Daniel P. McMillen,and David F.Merriman, “TheEffect of DecliningHouse Prices onSchool PropertyTaxes and SchoolAid in Illinois,”University of IllinoisInstitute ofGovernment andPublic Affairs(2010).side of the city. If tax extensions remainedconstant during time and there were nochange in the number of properties or themix of residential and non-residentialproperties and assessments accuratelyreflect changes in market value, then taxpayments would increase in the areas ofthe city that are in red relative to the areasshaded in blue. If the red areas also experiencedgreater declines in property valuesafter prices began to decline in 2007, thenthese areas will eventually come to be thebeneficiaries of lower tax payments whilethe blue areas may make higher tax paymentseven as their homes drop in value.The Illinois Property Tax ExtensionLimitation Law (PTELL)PTELL was first adopted in 1991 by thefive collar counties of suburban Chicago. Itwas extended to Cook County in 1994, andhas since been adopted by another 33counties in the state. PTELL limits thegrowth rate in total property tax to thelesser of the rate of inflation and 5 percent.The limits are implemented by imposing amaximum tax rate for jurisdictions inPTELL areas. Because declining assessmentsmust be accompanied by higher taxrates to keep extensions at their target levelsand PTELL imposes maximum tax rateson jurisdictions, do falling house pricesnecessarily lead to lower property taxextensions in PTELL jurisdictions?This question is addressed in a recent studyby Dye, McMillen, and Merriman. 11 Theanswer to the question is no; althoughPTELL imposes limits on increases in propertytax extensions, the interaction betweenfalling assessments and the maximum taxrate imposes no additional constraints ontax extensions. The reason for this somewhatcounter-intuitive result is that themaximum tax rate is not set by law;instead, it varies to allow extensions toreach the same level that would have beenreached if assessments had not changed.An example from the Dye, McMillen, andMerriman study captures the essence ofthe rate setting process. The maximum taxrate imposed by PTELL can be written asfollows:Maximum tax rate = {(prior extensions)× (1 + inflation factor)}/(new total taxbase), ortptell =( T last year) * (1+p)B this yearwhere, as before, T represents total taxextensions, B represents the total assessmentbase, and t represents the tax rate.The new variable is p, which representsthe inflation factor—the less of the rateof inflation or 5 percent.In times when assessments are rising,PTELL is implemented by imposing alimit on the tax rate. An example based onone presented in the Dye, McMillen, andMerriman study illustrates how PTELLaffects total tax extensions for arepresentative school district in a timewhen assessments are falling. Therepresentative district starts with totalEAV (B) of $100 million and a tax rate (t)of 2.5 percent, a combination that provides$2.5 million in total tax extensions (T).Suppose that assessments fall by 10percent so that the new tax base is $90million instead of $100 million. Also,suppose that the overall inflation rate iszero, and the district therefore decides toleave tax extensions unchanged from theprevious period. The tax rate then mustrise by exactly the amount that assuresthat the $90 million tax base produces $2.5million in taxes. Thus, the new tax rate inthis non-PTELL district is simply 2.5/90 =2.78 percent, or an increase of 0.28percentage points.Suppose that an identical district that issubject to PTELL also began with a $100million tax base, a tax rate of 2.5 percent,and total tax extensions of $2.5 million. Ifthe district’s maximum rate remained at2.5 percent, then tax revenue would fall to