The broader concept of property taxes

Largely dependent on their adopted policy objectives, countries differ substantially with regard to their use of the different property tax sources. Some countries place emphasis on providing a stable and substantial source of revenue for sub-national governments through immovable property taxes, while others prioritize general revenue raising (by using mainly capital transfer taxes),⁷ or enhancing the progressivity and fairness of the overall tax system (by relying on taxes on net wealth or inheritance and gifts).⁸ The property tax structure for the few countries presented in Table 1 reflects the large variety among OECD countries in the weights attached to these different policy objectives. Countries such as New Zealand, Poland, and the United States (together with the United Kingdom, Japan, and Canada, not shown) levy property taxes mainly on immovable property, while Germany uses a variety of sources including inheritance and capital transfer taxes. So does Greece, but by tapping mainly transfers of property as a base (as do Italy, Korea, and the Netherlands). In contrast, Luxembourg (together with Switzerland and Norway) is among the few remaining OECD countries that continue to raise important revenue from the taxation of net wealth. Among developing, emerging, and transition countries, the recurrent immovable property tax is the only property tax source in countries such as Azerbaijan, Jordan, Georgia, Mongolia, and Ukraine. All countries covered by the dataset raise revenue from immovable property on a recurrent basis (Appendix Tables 3–4).

Table 1.

Composition of General Government Property Taxes, Selected OECD Countries 2011

(Total = 100)

Source: OECD Revenue Statistics, 2012.

^1/2010.

Table 1.

Composition of General Government Property Taxes, Selected OECD Countries 2011

(Total = 100)

	New Zealand	Poland 1/	United States	Germany	Greece 1/	Luxembourg
Recurrent taxes on immovable property	95.5	100.0	96.8	55.6	10.0	3.8
Recurrent taxes on net wealth	0.0	0.0	0.0	0.0	20.0	76.9
Estate inheritance and gift taxes	0.0	0.0	3.2	22.2	10.0	3.8
Taxes on financial and capital transactions	0.0	0.0	0.0	22.2	50.0	15.4
Other	4.5	0.0	0.0	0.0	10.0	0.0
Total	100.0	100.0	100.0	100.0	100.0	100.0
Total, percent of GDP	2.2	1.2	3.1	0.9	1.0	2.6

Source: OECD Revenue Statistics, 2012.

^1/2010.

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Table 1.

Composition of General Government Property Taxes, Selected OECD Countries 2011

(Total = 100)

	New Zealand	Poland 1/	United States	Germany	Greece 1/	Luxembourg
Recurrent taxes on immovable property	95.5	100.0	96.8	55.6	10.0	3.8
Recurrent taxes on net wealth	0.0	0.0	0.0	0.0	20.0	76.9
Estate inheritance and gift taxes	0.0	0.0	3.2	22.2	10.0	3.8
Taxes on financial and capital transactions	0.0	0.0	0.0	22.2	50.0	15.4
Other	4.5	0.0	0.0	0.0	10.0	0.0
Total	100.0	100.0	100.0	100.0	100.0	100.0
Total, percent of GDP	2.2	1.2	3.1	0.9	1.0	2.6

Source: OECD Revenue Statistics, 2012.

^1/2010.

According to available data sources, property taxes are far from being a mainstay of the revenue system in developed, developing, and transition countries. A frequently cited source⁹ emphasizes that the average revenue raising from property taxes is modest in all three main country groupings, but seemingly with a slightly upward trend since the 1970s (Table 2). The data also suggest that reliance on property taxation (similar to most other taxes) is strongly related to economic development, with the average revenue ratio to GDP in OECD countries being triple that of developing countries. These data, however, cover total property tax revenue and thus not only taxes on immovable property—as noted the main focus here.

Table 2.

Levels of and Trends in Property Tax Revenues

(Percent of GDP)

Source: Bahl and Martinez-Vazquez (2008).

Table 2.

Levels of and Trends in Property Tax Revenues

(Percent of GDP)

	1970s	1980s	1990s	2000s
OECD countries	1.24	1.31	1.44	2.12
(number of countries)	(16)	(18)	(16)	(18)
Developing countries	0.42	0.36	0.42	0.60
(number of countries)	(20)	(27)	(23)	(29)
Transition countries	0.34	0.59	0.54	0.68
(number of countries)	(1)	(4)	(20)	(18)
All countries	0.77	0.73	0.75	1.04
(number of countries)	(37)	(49)	(59)	(65)

Source: Bahl and Martinez-Vazquez (2008).

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Table 2.

Levels of and Trends in Property Tax Revenues

(Percent of GDP)

	1970s	1980s	1990s	2000s
OECD countries	1.24	1.31	1.44	2.12
(number of countries)	(16)	(18)	(16)	(18)
Developing countries	0.42	0.36	0.42	0.60
(number of countries)	(20)	(27)	(23)	(29)
Transition countries	0.34	0.59	0.54	0.68
(number of countries)	(1)	(4)	(20)	(18)
All countries	0.77	0.73	0.75	1.04
(number of countries)	(37)	(49)	(59)	(65)

Source: Bahl and Martinez-Vazquez (2008).

More recent and detailed data with wider country coverage suggest that at least for developed countries, total property tax yields have been broadly stable since the mid-1960s. Figure 1 shows for OECD countries—the only group for which accurate and detailed time-series exist—that the average revenue ratio has been broadly stable around 2 percent of GDP since 1965, albeit with a slight dip during the 1970s and recovery thereafter. It also shows that recurrent taxes on immovable property at roughly half the total constitute by far the largest sub-component, also with a broadly stable revenue ratio at around one percent of GDP during this period (although little is known about the relative importance of policy changes and property prices underlying this trend). Similar data for transition and developing countries are unfortunately not readily available.

Property Taxes, OECD 1965–2010, Percent of GDP

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Property Taxes, OECD 1965–2010, Percent of GDP

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Property Taxes, OECD 1965–2010, Percent of GDP

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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In contrast, when measured as a share of total general government tax revenue, the yields of property taxes in OECD countries have declined. The decline took place during the late 1960s and 1970s, with the share stabilizing thereafter, and is mainly a reflection of the trend in immovable property taxes (Figure 2). This decline is the result of buoyant income and consumption taxes and—in particular—social security contributions during this period.¹⁰

Property Taxes, OECD 1965–2010, Percent of Total Tax Revenue

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Property Taxes, OECD 1965–2010, Percent of Total Tax Revenue

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Property Taxes, OECD 1965–2010, Percent of Total Tax Revenue

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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On tax revenue raised from recurrent taxes on immovable property

Reliance on immovable property taxation is broadly (albeit imperfectly) correlated with income levels. The most recent data (for 2009 or 2010) were compiled for OECD and a sample of non-OECD (developing, emerging, and developed) countries and then classified into high income and middle-and low-income countries.¹¹ The average yield from immovable property taxes in high-income countries at 1.06 percent of GDP is more than 2.5 times the average level of 0.40 percent of GDP in middle income countries¹² (which in turn splits into 0.33 percent for lower-middle income and 0.44 percent for upper-middle income countries).¹³ Figure 3 presents the correlation between immovable property tax revenue in percent of GDP and per capita income levels.

Immovable Property Tax Collections Across Income Levels

(OECD and selected non-OECD countries, 2009)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Immovable Property Tax Collections Across Income Levels

(OECD and selected non-OECD countries, 2009)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Immovable Property Tax Collections Across Income Levels

(OECD and selected non-OECD countries, 2009)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Evidently, cross-country variation in immovable property tax collection increases sharply with income level. Among the high income countries, reliance on immovable property taxes vary from close to nil in Croatia, Luxembourg, and Switzerland, to heavy reliance (revenue more than two percent of GDP) on this source in Canada, France, Israel, Japan, New Zealand, the United Kingdom, and the United States. In contrast, there are more middle income countries that rely only modestly on immovable property taxes such as the Dominican Republic, Mexico, Peru, Tunisia, Albania, Egypt, Moldova, and Mongolia. In this group, Bulgaria, Russia, and Georgia stand out by relying to an important extent (close to or above one percent of GDP) on immovable property taxes. The difference between high income and middle income countries with regard to the dispersion of yield-ratios is striking and abundantly clear from Figure 4.

Distribution of Yields from Immovable Property Taxes, 2009

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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Distribution of Yields from Immovable Property Taxes, 2009

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Distribution of Yields from Immovable Property Taxes, 2009

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

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While the immovable property tax may not take up a central position in the overall revenue systems of most countries, it frequently contributes significantly to the financing of local governments. Hence, an almost defining aspect of property taxes is their assignment predominantly to lower levels of government, indicating that increased reliance on this source of revenue involves important issues of inter-governmental fiscal design. Appendix Tables 3 and 4 shed some light on this particular role of immovable property taxes for high income and middle income countries, respectively: the penultimate column show, for example, that the share of the immovable property tax in total local taxes is 100 percent in Australia, Ireland, and the United Kingdom, with an average of 37.7 percent in high income countries, and slightly less (35.5 percent) in middle income countries; and the last column of each of the two tables demonstrates that all of the immovable property tax revenue collected by government accrues solely to local governments in the large majority of both high income and middle income countries.

Interestingly, there are indications that decentralization in itself may incentivize increased revenue mobilization from property taxation. Bahl and Martinez-Vazquez (2008) provide empirical evidence of “reverse causation” in the sense that the demand for property taxation is in itself driven by the level of decentralization. This supports the notion that increased reliance on property taxation ideally should be part of a clearly formulated strategy for strengthened decentralization—an issue beyond the scope of this paper. But the fact that developing, emerging, and transitional countries broadly are less decentralized than industrialized countries may help explain the generally fairly modest reliance on property taxes in these countries.¹⁴

How much could the immovable property tax potentially yield? Absent accurate estimates of tax capacity and tax effort in this particular area,¹⁵ a benchmark for revenue collections—admittedly simplistic—reflects the average revenue ratios of the best performers in each income group:¹⁶ for high income countries, that would yield a collection potential of about 2.9 percent of GDP when based on the five best performers, while the similar target in middle income countries would be a much lower 0.9 percent of GDP. If these simple benchmarks are applied to other countries in each group, the potential average revenue increase among this group of 29 high income countries would be 2.1 percent of GDP, while 24 middle income countries on average could raise an additional 0.6 percent of GDP.¹⁷ This suggest a substantial untapped revenue potential from the property tax in many countries, although the net gain in some countries would be tempered by the need to scale-back the use of distortive property transfer taxes (discussed below).

Key determinants of the level of recurrent property taxes

Preliminary regression analyses suggest that the level of economic development (as measured by GDP per capita) and urbanization play a substantial role in determining the level of recurrent property taxes across countries and over time (Box 2). But countries’ level of ‘openness’ as measured by relative trade volumes as well as their legal origin may also play important roles in determining property tax revenue. It also appears that, as countries develop and grow richer, property tax-to-GDP ratios tend to increase.

A. Efficiency Considerations in Favor of Property Taxation

Considerations of economic efficiency strongly underpin the case for exploiting property taxes to their fullest potential. Their well-known efficiency enhancing properties derive mainly from the immobility of the tax base which, when underpinned by efficient and accurate valuation systems, entail clear benefits in different respects as outlined in this section. Property taxes in the form of recurrent taxes levied on land and buildings, are generally considered to be more efficient than other types of taxes in that their impact on the allocation of resources in the economy is less adverse—by not affecting decisions to supply labor and to invest (including in human capital) and innovate. The immobility argument must be qualified, though, in the sense that only land is truly immobile, while capital invested in structures (or “improvements”), and particularly nonresidential structures, is indeed mobile, and a higher property tax can conceivably drive capital to lower taxing jurisdictions.¹⁸ In particular, if a newly introduced (or an increase in an existing) property tax is fully capitalized in property prices, present property owners would suffer a one-off loss in wealth, while new property owners would not be affected: once introduced (or increased), property taxes do not affect the rate of return and are therefore considered neutral to investment behavior.¹⁹ This quality follows from the fact that the property tax, to the degree it is a tax on accumulated wealth, does not alter future behavior.

International evidence suggests that immovable property taxation may be more benign than other tax instruments with respect to its effect on long-term growth. In recent studies, in part based on a broad review of the literature, OECD (2008 and 2010) establishes a “tax and growth ranking” with recurrent taxes on immovable property (and residential property in particular) being the least distortive tax instrument in terms of reducing long-run GDP per capita, followed by consumption taxes (and other property taxes), personal income taxes, and finally corporate income taxes as the most harmful for growth. Hence, a revenue neutral growth-oriented tax reform would involve shifting part of the revenue base from income taxes to consumption and immovable property.

Property taxes are considered good local taxes but raise intergovernmental issues. In addition to its considerable revenue potential (as discussed above), the property tax is generally considered an ideal source for local governments by virtue of being borne mainly by residents with few spillovers. Also, property values to some degree reflect services supplied by local governments, strengthening the argument that it is reasonable for this base to be tapped to finance local activities. It is also considered to be a stable and predictable revenue source (see section C below for a discussion). Furthermore, the immovable nature of its base, which may be particularly appealing at a time when other tax bases become increasingly mobile, renders the property tax particularly useful as a benefit tax at the local level, with rate differentials across jurisdictions providing the “price” signals required to induce improved resource allocation and hence economic efficiency in a multi-level government setting. Allocative efficiency is, though, conditional on a number of supporting assumptions, including some degree of local autonomy over rate-setting on at least one key tax such as the property tax as well as efficient equalization of tax capacities across jurisdictions.²⁰ Also, through the political accountability that its transparency induces, the property tax may improve the quality of the overall public financial system. In short, the property tax fit very well the criteria for a good local tax (Bahl, 2009).

But the use of property taxes on business raises particular problems and requires attention. Taxing an important factor of production will—in case the benefit tax principle is not strictly adhered to—raise costs disproportionately on businesses that use relatively more property as factor input. This explains to some degree the fact that many countries apply special reliefs to agriculture, through full or partial exemptions, or lower tax rates.

Strengthening of property taxation could also help reduce the dependency of local governments on transfers thereby enhancing economic efficiency through strengthening of local accountability. It could be held, though, that strengthening local finances—for example, through a broadening of property taxation—would not necessarily improve the overall fiscal balance. However, in the majority of intergovernmental fiscal systems, with vertical fiscal imbalances covered through transfers to sub-national governments, a broad-based strengthening of (local) property taxation could be adjusted for through scaling-back of transfers (or of shared taxes), thereby securing an improvement in the overall fiscal balance with a simultaneous—and possibly efficiency enhancing—strengthening of local fiscal autonomy. Conversely, it has been held that large fiscal transfers to local governments have worked as a disincentive for local governments to devote resources to improve revenue-raising from property taxation. Reduced fiscal transfers could help address this disincentive.

Property taxes can promote efficient use of land thereby further stimulating development and growth. Imposing a “tax cost” on land ownership-or use that to some degree may be independent from the actual use of the land (particularly if market-price valuation is applied), property taxes are frequently considered as providing an important incentive for property owners to secure a more efficient use of land and buildings.²¹²² This is an important consideration in many countries, and lies behind the use of property taxes to promote development not least in the agricultural sector in many developing countries (the agricultural land tax in Namibia being one clear example). If better land use is the driving motive, it could be held that a pure site (land) tax on land value would offer the best tax design since—being independent from actual land use—this would maximize the incentive to apply the land to its optimal use, whereas a tax applied also to expensive structures would attract a higher tax.

Property taxes could conceivably reduce efficiency costs generated by other parts of the tax system. In many developed countries, owner-occupied housing receives a favorable tax treatment compared to other forms of investment. This tax bias is generated through exemptions for imputed rent and capital gains combined with (full or partial) deductibility for interest costs. This may—in addition to adding to mortgage debt levels and housing prices (and perhaps their volatility)—distort capital flows and lead to over-investment in housing (see OECD (2008), and IMF (2009)). In these circumstances, while not being first-best, raising taxes on immovable property could conceivably reduce the tax bias in favor of housing and improve efficiency and growth. This could induce an outflow of capital from residential property towards more profitable ones (OECD, 2010).

In a similar vein, increased property taxes may help reduce reliance on distorting property transfer taxes.²³²⁴ Capital transfer taxes, which as discussed above (Table 1) are popular in many countries as a buoyant tax handle, may reduce turnover of property and hence distort the allocation of this important component of capital. Furthermore, a key tenet of the optimal tax literature is that taxes of this nature impose efficiency costs through resource misallocations to the extent their incidence rests on business inputs. For these reasons, some countries have considered replacing transfer taxes—totally or partially—with recurrent immovable property taxes (such as, for example, Ireland and Portugal), and FAD tax policy advice has supported a move away from property transaction taxes.

Property taxes have also been considered as potentially effective in countering speculative housing price booms and house price volatility. Examples of countries using property taxation (including transaction taxes) in this respect include China and Singapore (Box 1). It remains, however, an open empirical question whether property taxes represent an efficient tool in this regard. To the extent that property taxes are predominantly capitalized in housing prices (driven by the net present value of future taxes), property taxes may at best have a one-off effect on price levels (and not on sustained house price inflation), and counter-cyclical use of property taxes to reduce house price volatility may not be efficient (and further complicated by its use mainly as a local government revenue source).²⁵ It also appears that factors other than tax were dominant in driving the pre-crisis house price bubble and subsequent bust, although tax biases may have accentuated the crisis (Keen et al, 2010); and non-tax policy instruments such as, for example, limits on loan-to-value and debt-to-income ratios may in some cases be more effective than tax measures.²⁶

Property taxation in small and highly open economies, particularly exposed to intensive tax competition, could be considered a means of rendering tax systems more “resilient” to external shocks. This would happen by exploiting the advantages of drawing on an immobile tax base in a period of globalization.²⁷

Finally, but not exclusively related to economic efficiency, a particular advantage of higher reliance on taxes on immovable property is the absence of any need to improve international tax coordination—as a prerequisite for their efficient use.

B. Equity Considerations: Are Property Taxes Fair?

Perhaps somewhat surprisingly for a tax as ancient as the property tax, its implications for fairness is a long-standing and contentious issue—and will probably remain so.²⁸ The equity case for broader use of property taxes rests on the notion that they are generally assumed to be progressive—an assumption that is still not underpinned by a clear consensus.²⁹ There appears, though, to be some support for the so-called “new view”—now about 40 years old—that property taxes are borne mainly by capital and landowners. Studies based on this view find generally that property taxes are progressive, because land and capital are owned predominantly by higher-income individuals.³⁰ The different views on the issue are summarized in Box 3.

Very limited work has been done to formally model property tax incidence under conditions compatible with those in developing and transition countries. It has been argued that key assumptions of the model underlying the new view such as full capital mobility and a fixed supply of land typically are not met in these countries, and that the predictions of the new view therefore do not hold there. Based on simulations with a CGE model tailored to more accurately represent the conditions in developing and transitional countries, Sennoga, Sjoquist, and Wallace (2008) find that the burden of property taxes imposed on capital and land is borne by the owners of capital and land and is not significantly influenced by the assumptions regarding the mobility of capital. Hence, the property tax is progressive with the burden borne predominantly by middle-and high-income earners. Since wealth and high-income individuals can be hard to tax in these countries, a property tax—appropriately administered—could offer the means of addressing vertical equity concerns in these countries.

Adoption of a specific incidence view is needed to interpret distributional data. Data on the distribution of the property tax burden are rare, but Table 3 provides an example for Denmark which demonstrates some of the problems involved. The table provides a decile-distribution of taxpayers with per capita averages of gross income, disposable income, and property taxes within deciles—as well as share of ownership and effective tax rates. The data reflects actual tax liabilities from tax returns, i.e., amounts to be paid by property owners within each decile. But the legal obligation to pay the tax does not necessarily provide an accurate reflection of its final, effective incidence, in the same manner as the obligation on traders to pay VAT is not an accurate reflection of who ultimately carry the burden of the VAT. When observed through the prism of the “new” view, the property tax in Denmark appears regressive over the first two deciles—presumably because the populations in these deciles typically are quite heterogeneous³¹—while the tax becomes progressive from the third decile and up. This in part is due to the fact that property ownership, as shown in the table, increases strongly over the deciles; and by applying the “new” view it is assumed that renters are not carrying any of the property tax-burden which may not be an accurate assumption.

Table 3.

Denmark: Distribution of Property Taxes as Share of Income

Source: Ministry for Economic Affairs and the Interior, Denmark.

Table 3.

Denmark: Distribution of Property Taxes as Share of Income

	Income	Class	Gross income per taxpayer	Average Disposable Income	Income tax	Property Taxes	Share of Ownership	Effective Tax Rate (As share of gross income)	Effective Tax Rate (As share of disposable income)
1	0	113428	89,565	69,048	20,517	1,626.30	24.1	1.82%	2.36%
2	113429	138115	164,905	126,443	38,462	1,442.20	35.6	0.87%	1.14%
3	138115	158776	197,779	148,168	49,611	1,297.30	35.6	0.66%	0.88%
4	158777	180075	232,593	169,020	63,572	1,653.00	50.5	0.71%	0.98%
5	180076	201048	268,323	190,154	78,169	2,096.50	63.6	0.78%	1.10%
6	201051	223192	303,807	211,524	92,283	2,481.00	72.2	0.82%	1.17%
7	223192	248191	342,851	234,962	107,889	3,012.50	78.6	0.88%	1.28%
8	248191	280693	390,598	263,325	127,273	3,600.30	83.1	0.92%	1.37%
9	280694	332653	460,238	303,837	156,401	4,619.80	88.1	1.00%	1.52%
10	332655	+	740,659	457,278	283,380	8,206.90	93	1.11%	1.79%
All			319,132	217,376	101,756	3,003.60	62.5	0.94%	1.38%

Source: Ministry for Economic Affairs and the Interior, Denmark.

View Table

Table 3.

Denmark: Distribution of Property Taxes as Share of Income

	Income	Class	Gross income per taxpayer	Average Disposable Income	Income tax	Property Taxes	Share of Ownership	Effective Tax Rate (As share of gross income)	Effective Tax Rate (As share of disposable income)
1	0	113428	89,565	69,048	20,517	1,626.30	24.1	1.82%	2.36%
2	113429	138115	164,905	126,443	38,462	1,442.20	35.6	0.87%	1.14%
3	138115	158776	197,779	148,168	49,611	1,297.30	35.6	0.66%	0.88%
4	158777	180075	232,593	169,020	63,572	1,653.00	50.5	0.71%	0.98%
5	180076	201048	268,323	190,154	78,169	2,096.50	63.6	0.78%	1.10%
6	201051	223192	303,807	211,524	92,283	2,481.00	72.2	0.82%	1.17%
7	223192	248191	342,851	234,962	107,889	3,012.50	78.6	0.88%	1.28%
8	248191	280693	390,598	263,325	127,273	3,600.30	83.1	0.92%	1.37%
9	280694	332653	460,238	303,837	156,401	4,619.80	88.1	1.00%	1.52%
10	332655	+	740,659	457,278	283,380	8,206.90	93	1.11%	1.79%
All			319,132	217,376	101,756	3,003.60	62.5	0.94%	1.38%

Source: Ministry for Economic Affairs and the Interior, Denmark.

Finally, it is frequently argued that the use of market values maximizes fairness of the property tax. This is particularly so to the extent that market values broadly reflect the capitalized benefits provided by local services that are financed by the tax. In contrast, alternative approaches such as area-based taxation (for example, specific square meter taxes) unrelated to actual property values (or related only imperfectly so) typically entail variations in effective tax rates across properties which may violate equity considerations.

C. The Cyclical Resilience of Property Tax Revenues

While the property tax may be an efficient and fair tax, high cyclical volatility could render it less appropriate as a local tax. The deep 2008–10 recession and the high-growth period that preceded it provide a unique background for studies of the cyclical sensitivity of the property tax—not least owing to the crucial role of the housing market in that recession. Inspection of Figure 1 for OECD countries—with basically a flat revenue ratio during the boom years leading into the recession—seems at the face of it to indicate a low cyclical sensitivity of property taxation. This low buoyancy of immovable property during the period of very rapid asset price appreciation from the early-to mid 2000s seems at first surprising.

But recent empirical research for the US has importantly cast more light on the issue of the cyclical volatility of property taxes.³² Like in many other countries, state and local government revenues in the US dropped steeply following the most severe housing market contraction since the Great Depression: for example, state and local tax revenues fell by almost 5.5 percent in 2009—making this only the second year (with 2002) since the Great Depression that state and local government tax revenues had fallen in nominal terms. However, the fall was driven by sharp declines in receipts from the personal income tax and the sales tax (of 17 percent and 7.5percent, respectively) while, in sharp contrast, property tax revenues held up remarkably well by growing more than 5 percent in both 2008 and 2009 thereby serving as a significant buffer for the decline in other tax sources (Figure 5), although property tax revenue stopped growing in subsequent years. The figure also illustrates that property taxes generally tend to be less volatile than other tax sources—long seen as one of the primary virtues of the property tax.³³

State and Local Tax Revenues, United States, 1990–2009

(Percent change)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

Source: Census Bureau, Quarterly Summary of State and Local Tax Revenue.

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State and Local Tax Revenues, United States, 1990–2009

(Percent change)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

Source: Census Bureau, Quarterly Summary of State and Local Tax Revenue.

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State and Local Tax Revenues, United States, 1990–2009

(Percent change)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

Source: Census Bureau, Quarterly Summary of State and Local Tax Revenue.

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The resilience of property tax revenue is, according to recent research, in part attributable to two factors. Using both time-series data and micro-level panel data from individual governments, Lutz (2008) estimates that the elasticity of property tax revenue with respect to home prices equals 0.4, indicating that policy makers tend to offset as much as 60 percent of house price changes by moving the effective tax rate in the opposite direction of the house price change (Figure 6). In other words, during the house price boom, local governments tended to spend part of the ‘rent’ on (popular) rate reductions, while during the recession budgetary pressures forced them to raise property tax rates (possibly reflecting the relative ease with which base and rates can be adjusted as compared to other taxes). Furthermore, house price changes have an effect on property taxes only after a lag of about three years, reflecting three basic features of the tax: (1) assessments take place in a backward-looking manner, as the current year’s taxes are based on the assessed property value in the previous year; (2) assessed values often lag market values, in some cases by design or legal mandate and, in others, due to “poor” administration (which may be intentional, particularly in jurisdictions which elect their assessor); and (3) most states have a cap or otherwise a limit on increases in revenues or taxable assessments (or even in rates). This would, during periods of rapid house price growth, prevent revenues from growing at the same pace as market values, and could create a ‘stock’ of untaxed appreciation.

Property Tax Revenues and House Values, United States, 1989–2009

(Percent Change)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

Source: Census Bureau, Quarterly Summary of State and Local Tax Revenue.

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Property Tax Revenues and House Values, United States, 1989–2009

(Percent Change)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

Source: Census Bureau, Quarterly Summary of State and Local Tax Revenue.

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Property Tax Revenues and House Values, United States, 1989–2009

(Percent Change)

Citation: IMF Working Papers 2013, 129; 10.5089/9781484369050.001.A001

Source: Census Bureau, Quarterly Summary of State and Local Tax Revenue.

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Policy and administrative issues

There are numerous ways of defining and measuring the property tax base (B). Approaches can be classified broadly along three basic dimensions. The first is the different methods that can be applied when assigning value to property, which can be grouped into market price based methods, encompassing valuation based on rental values or capital (market) values, and area based methods (see Box 4 for brief definitions; the practical issues are discussed under valuation (V) below). A second key dimension relates to the property components included in the base (land only, buildings (or other improvements) only, or combinations of the two); and a final key distinction relates to the use of the property, since different uses can be treated differently for tax purposes, such as in particular residential versus business property, or urban versus agricultural land.³⁴ The specific definition of the base adopted depends in part on the objective of the tax (such as financing local governments, securing better use of land, or financing urban development), and in part on the depth of local property markets and sophistication of administration in individual countries.

While ideally all property should be subject to property taxation, a particularly urgent issue in many developing countries is the need to better capture the strongly growing base of urban property to finance infrastructure. According to UN projections, Africa’s urban population will more than double between 2000 and 2030, creating an urgent need for local tax structures that can grow in tandem with the need for urban infrastructure.³⁵ Property taxes are considered a natural candidate since they are progressive, administratively feasible, and scale-up automatically with urban expansion. Similarly, global demographic forecasts indicate that the world’s urban population will double from 3 billion in 2000 to 6 billion in 2050, with nearly all growth occurring in developing countries. Most affected cities will see their populations grow several-fold over the next few decades, and will need to plan for future expansion and identify financing for needed arterial road networks and other basic infrastructure. One proposed strategy that may work well in developing countries with some large (and growing) cities but still heavily agrarian is to introduce a combination of capital value systems for urban places and an area-base system for more rural areas (Bahl, 2009, p. 12).

The diversity across regions in the methods used for measurement of the property tax base is evident from Table 4. The table illustrates the relatively widespread use of area-based approaches among African, Asian, and transition countries.

Table 4.

Alternative Property Tax Bases by Region

Source: Michael Bell (2011).

Table 4.

Alternative Property Tax Bases by Region

Region	Number of Countries	Land Value	Capital Improved Value	Land and Improvements	Improvement Only	Annual Rental Value	Area	Flat Rate
Africa	25	1	8	3	4	7	11	6
Caribbean	13	4	4	2	0	8	5	0
Asia	24	2	6	2	0	11	11	0
Oceania	7	6	2	0	0	4	0	0
Western Europe	13	0	9	0	0	6	0	0
Eastern Europe	20	1	6	0	0	0	15	0
Central and South America	16	2	14	1	0	1	0	0
North America	3	0	3	0	0	0	0	0
Total	121	16	52	8	4	37	42	6

Source: Michael Bell (2011).

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Table 4.

Alternative Property Tax Bases by Region

Region	Number of Countries	Land Value	Capital Improved Value	Land and Improvements	Improvement Only	Annual Rental Value	Area	Flat Rate
Africa	25	1	8	3	4	7	11	6
Caribbean	13	4	4	2	0	8	5	0
Asia	24	2	6	2	0	11	11	0
Oceania	7	6	2	0	0	4	0	0
Western Europe	13	0	9	0	0	6	0	0
Eastern Europe	20	1	6	0	0	0	15	0
Central and South America	16	2	14	1	0	1	0	0
North America	3	0	3	0	0	0	0	0
Total	121	16	52	8	4	37	42	6

Source: Michael Bell (2011).

Whichever method is adopted to measure it, the property tax base is often porous, corroded by multiple exemptions and reliefs. The list of exemptions or special treatments is often long and frequently very costly in terms of revenue forgone. Typical exemptions include government property (including roads, railroads, and pipelines, and central government property in local jurisdictions) as well as merit uses such as schools and religious establishments. Many countries also use the property tax for purposes of broader social policies, and—in addition to the use of basic property tax thresholds to protect the poor—a particularly costly (and regressive) exemption in that regard is that provided for owner occupied housing in many countries.³⁷ Property tax incentives for businesses have also escalated in some countries.³⁸ Some countries provide special reliefs depending on family structure: in Serbia, for example, owner-occupiers receive a 40 percent tax reduction, increased by 10 percent for each member of the household up to a ceiling of 70 percent—potentially rendering the tax regressive contrary to intentions. In Uganda, in addition to the standard exemptions for government-owned property as well as property used for religious purposes, civil servants (police, military), unemployed persons, peasants, and people living in poverty unable to earn the minimum income are also exempt.³⁹ And many countries provide tax preferences to pensioners (including tax deferrals as previously mentioned). Agriculture is another example of a segment that generally receives a very favorable property tax treatment, either by outright exemption (partly or fully, such as in Nicaragua, Guinea, and Tunisia⁴⁰) or by special treatment leading to a negligible liability (such as in Serbia). Perhaps an exception as regards taxation of agricultural land is Namibia where the newly introduced central government land tax is designed mainly to encourage better land use. And few countries, if any, undertake systematic tax expenditure budgeting pertaining to the property tax, to ascertain the true budgetary costs of the tax reliefs offered. The bottom line is that taxes frequently are paid on a base that bears little resemblance to the true level of property values, and yields could be substantially enhanced by scaling-back excessive exemptions and reliefs.⁴¹

Similarly, there are different ways of structuring the tax rate (t). If capital value is the base, a flat or progressive rate is normally applied (although as noted above progressivity in some countries is secured through a basic property deduction). A flat rate is typically applied if the base is rental value, while under area-based taxes the norm is a specific flat rate with given amount per unit of area (square meter or ha, of either land and/or buildings, such as in Vietnam). Tax rate levels and structures (including for different types of properties) also vary substantially across countries (and within countries across jurisdictions). Namibia applies a central government tax on agricultural land at a basic rate of 0.75 percent while urban municipalities apply very modest rates to local property.⁴² Serbia uses a progressive rate structure set by local governments starting at 0.4 percent up to a maximum of 3 percent, while Cambodia is considering a uniform 0.1 percent tax. In Kyrgyzstan, a dual rate system (0.35 and 1.0 percent) is applied depending on type of property. The authority to set rates is in many countries assigned to local governments, often within a fairly narrow band or below a ceiling set by law. In Uganda, for example, rates are determined by municipalities but with a maximum of 2 percent of rateable value prescribed by law. In other countries the rate is set by a higher level government.

A simple, transparent, and hence fairly uniform rate structure has critical advantages. It minimizes complexity in administration and the risk of tax avoidance or evasion through misclassification of properties. It also minimizes the risk of misallocation of capital by taxing different types of capital at different tax rates. The use of reduced tax rates for residential properties may be politically convenient, but it provides an incentive that could lead to overinvestment in this type of property, and it may reduce the accountability of elected local officials⁴³. It obviously also will have a detrimental impact on the revenue yield. If the main reason for low rates is to protect the poor, a better solution would be to use a basic threshold for the taxation of residential property. In practice, many countries tend to tax business property at higher rates (sometimes at much higher rates) than residential and agricultural property.

Any viable property tax administration must ensure that close to all land and improvements are included in the tax register with an efficient method in place to keep it up to date (C). A significant administrative problem particularly in developing and transition economies is the low coverage of parcels or properties in the tax register. In Kenyan municipalities, for example, coverage ranges from 30–70 percent, and in Chile a large share of new construction has not been included (Bahl, 2009, p. 17). In Serbia, according to some estimates, between 40 and 50 percent of real estate were previously not in the property register, although the situation seemed to improve quite significantly following the devolution of the administration of the property tax to local governments in 2007.⁴⁴ Possible reasons for these administrative weaknesses in Serbia include lack of effective office-and field control, lack of enforcement regarding sanctions for not filing, and possibly also the fact that a large number of properties fall below the threshold for the property tax. In Latvia, on the other hand, according to one measure, more than 98 percent of properties are included in the tax register although this measure could be somewhat distorted because of the privatization process.⁴⁵ Apart from the obvious direct revenue consequences, a low coverage may have a significant indirect impact by adversely affecting the perception of fairness and thereby property tax compliance.

Valuation is a major administrative problem particularly, but not only, in many developing countries and transition economies (V). There are a number of reasons for this: a lack of educated valuators,⁴⁶ a generally weak administration, and a “thin” or underdeveloped property tax market that generates insufficient transactions to provide a continuous flow of input to the valuation system (often combined with lack of reliable data on the sales values of properties that are exchanged).

A key issue in this regard is the relative merits of decentralized versus central valuation systems:⁴⁷ While there appears to be broad consensus that the legal framework for property taxation should be uniform and centrally determined, there are arguments for and against making the actual valuation a central or local task. A frequent argument emphasizes the usefulness of local knowledge regarding the nature of property markets and sales conditions, as well as the need to provide a strong incentive for local administrations to keep coverage and values up to date. In many countries (such as Vietnam), local councils are charged with keeping the valuation rolls, while in several Latin American countries where the property tax is a local revenue source (e.g., Guatemala and Mexico) there has been a gradual shift of these administrative responsibilities to local governments, and in Brazil responsibility for property tax administration rests solely with local governments (Bahl, 2009, p. 17). Against this, a lack of qualified local assessors and the fact that local valuation officers are often subject to political pressures to delay or minimize updates would favor a centralized valuation system based on a critical mass of technical expertise (such as those applied for example, in Denmark, Lithuania, Latvia, and Uruguay). In many countries there is a shared responsibility between local and central governments, and in others a payment system for valuation services across levels of government is considered. While there is no ‘correct’ way of organizing the valuation function it would seem that the case for local responsibility is the strongest where the property tax is an important local revenue source.

These valuation problems frequently lead to value assessments for tax purposes that are much lower than market values.⁴⁸ Low assessment ratios (i.e., assessed tax base relative to actual market value) seems to be typical under any of the standard valuation methods presented in Box 4. Bahl (2009) reports dramatic under-assessments in many developing countries, with assessment ratios in the range of 25 to 50 percent in selected Indian cities (rental value), and a wider range of 10 to 90 percent in selected Latin American cities (market value). Serbia provides another striking example⁴⁹: for taxpayers keeping business books, the tax base is the book value of the property which generally is well below market values; an analysis conducted in one municipality shows that for 83 percent of the properties, the book value is less than 50 percent of the market value (with 31 percent of properties lower than 10 percent of market values). Valuation problems are, however, not limited only to developing and transition countries, but pose significant challenges also in developed countries, such as for example, in the case of Germany,⁵⁰ although the valuation mechanisms in place in OECD countries generally are fairly advanced. Once a valuation system is in place, it is essential to update on a regular basis and keep doing so: if valuation updates fall behind, it may be hard politically to “catch up” as demonstrated in the case of Germany.

The use of property transfer taxes may importantly exacerbate other valuation problems, with adverse implications that go beyond their efficiency costs (discussed above). Transfer taxes, often in the form of stamp duties, are popular in many (including developing) countries, for a variety of reasons.⁵¹ But significant transactions taxes on property may lead to serious tax evasion by providing a strong incentive for collusion between buyers and sellers to undervalue properties when they are sold, thereby also automatically undermining property transactions as a key source of information on up-to-date market values for the cadastre; and by reducing the overall volume of property transactions, they reinforce valuation problems by ‘thinning’ the market.⁵² High transaction costs may also adversely affect economic performance by discouraging labor mobility. Significant transaction taxes are found in a number of countries, such as the 15 percent real estate transaction taxes in Senegal and Jamaica (recently reduced), the 15 percent Droits d’Enregistrement in the Central African Republic,⁵³ and the transfer duty rates of 8 percent for individuals with high value property and 12 percent for companies in Namibia. A stamp duty has long been in place in the UK, now with a maximum rate of 7 percent. The drawbacks referred to above explain why some countries have considered reducing transaction taxes as an integral component of property tax reform. Transfer taxes could, alternatively, be replaced by capital gains taxes on property whose inherent self-checking mechanism (with opposite interests for buyers and sellers in declaring high sales values) could reduce or eliminate the incentive for under-declaration.

Enforcement of the property tax is frequently very weak resulting in modest collection ratios (E). Various studies have reported dismal collection ratios (actual collections as a percent of liability or invoices) in a multitude of countries (for example, 50 percent in the Philippines, 60 percent in Kenya, 70 percent in Croatia, and 15 percent in Macedonia), while in Latin America the collection ratios at 75 percent or above generally are higher (Bahl, 2009, p.19). A low collection ratio may in some cases follow from the tax being collected by local authorities that may have a political interest in not pursuing effective collections, but also from expected penalties being too low. Furthermore, in cases where transfers from the center cover a large portion of local expenditures, these may create an adverse incentive effect for efficient local tax enforcement.⁵⁴

These administrative complexities (C, V, and E) must be addressed in any property tax reform if the immovable property tax is to produce a higher yield.⁵⁵ One underlying problem is that, in contrast to income taxes and the VAT, the property tax cannot—or only with significant difficulty—be self-assessed, with property owners placing an assessed value on their own property (the city of Bogota providing an interesting exception, see Box 5).⁵⁶ This entails relative high administrative (as opposed to compliance) costs because of demanding information and record keeping requirements, and the need for an efficient valuation system. As noted, a particular problem in virtually all developing countries is the shortage of qualified property assessors or valuators.

The administrative complexities, if not properly addressed, may also reinforce each other resulting in a high cost-to-revenue ratio of property taxes. It is readily evident from the revenue equation (1) above, that a combination of low coverage, valuation, and enforcement ratios will exacerbate each other thus reinforcing their adverse impact on the yield.⁵⁷ Also, upgrading the administrative infrastructure necessary for an effective property tax often requires an up-front investment (establishing registration procedures, a cadastre, introduction of IT systems, and training programs). The recent wave of reform initiatives (see Box 1) seem, however, to indicate that this is not a decisive obstacle to reform. Unfortunately, information on the cost of administering property taxes is generally extremely scarce.⁵⁸

While administrative obstacles may appear daunting it is important to realize that a rich arsenal of different ways to value and tax property is available, providing a flexible means of adapting the tax and its administration to widely differing country circumstances.⁵⁹ While an efficient and accurate cadastre is a ‘sine qua non’ of property taxation, there are also a variety of valuation techniques to measure the tax base, ranging—as discussed above—from simple unit land taxes (Vietnam, Nigeria) and taxation of estimated rental value to full-fledged market-value based systems. Many developing countries apply different property taxes to urban and rural property (Brazil, Namibia), taxing land and buildings in urban areas and only land in rural areas, while other countries exempt (partly or fully) agricultural land (Nicaragua, Guinea, Tunisia). To mitigate the impact of property taxes on low-income households and to substantially simplify tax administration by excluding low value property from the tax net, some countries only tax property over a certain threshold (measured in area or value, such as in Serbia).

Reformers can also draw on a richness of experience with the use of property taxes, in many developed countries (or their regions)⁶⁰ as well as in some developing countries, and software tools are widely available such as computer-assisted mass appraisal (CAMA) systems (Box 6) with a potential to be applied also in developing countries.⁶¹ Similarly, there is a richness of experience, and multiple options available, with respect to the allocation between central and local authorities of the range of different responsibilities in the administration of the property tax; Martinez-Vazquez and Rider, 2008, map the actual allocation of these responsibilities in a number of developed, emerging, and developing countries.

Political economy considerations

Political economy considerations have also played important roles for the working of the property tax in many countries. By virtue of being a very transparent tax on an immobile base—the very features that make it a good tax—could be held also to be its greatest weakness, since it as noted earlier has contributed in making it a politically very unpopular tax. Furthermore, the property tax may, when looked at in isolation, run counter to politically and socially motivated objectives of stimulating home ownership, realizing the beneficial externalities from owner-occupation.⁶² Opposition to the property tax has in a number of countries led to ‘capping’ of the year-to-year growth of individual property tax liabilities.⁶³ A problem with capping is that, by driving a wedge between tax liability and the market value, the tax may be transformed to something else than a real property tax, with the consequences that may have for economic efficiency, revenue raising, and fairness.⁶⁴

As discussed earlier, increased use of property taxes also raise complex issues of intergovernmental fiscal design, involving inter alia transfer systems. Particularly in many transition countries, democratization underpinned by decentralization programs has made the property tax an increasingly important instrument of local government financing.⁶⁵ As also discussed above, the use of taxes on business property raise particular issues that require attention inter alia to avoid that costs are raised disproportionately on businesses that use relatively more property as factor input.

By virtue of not being directly proportional to income, property taxes are also frequently considered to be unfair. This issue has been addressed in different manners, for example, by taxing property only above a certain threshold, or by exempting sectors characterized by a high frequency of low-income earners, such as agriculture in developing countries.

Common elements of a reform strategy would ideally involve the following:⁶⁷⁶⁸

• An in-depth diagnostic analysis that carefully maps present capabilities and identifies policy and administrative weaknesses, combined with policy decisions on the future role of property taxes, particularly as part of a broader decentralization strategy.

• Development of specific tax policy design, with particular focus on the definition of the base, the rate structure, and exemption policy; the key objective should be simplicity with a minimum of exemptions and other reliefs, for ease of administration and maximum fairness. Also, regular costing of reliefs in terms of revenue forgone is essential.

• Detailed planning of administrative reform, carefully adjusted to individual country circumstances, involving in particular: (1) improved coverage of cadastre or tax register; (2) better valuation, including procedures for regular updating; (3) improved record keeping based on close coordination between agencies involved; (4) improved collection rates though strong enforcement and low compliance costs; and (5) clear decisions on the allocation of responsibilities between the central and local governments with regard to how these core administrative tasks are carried out.

• Property transfer taxes should be reduced or phased-out, and possibly replaced by either the recurrent property tax under reform, or (where administratively feasible) a capital gains tax on property.

• Finally, to prevent property tax systems from falling back into disrepair, development of a monitoring device based on quantitative performance indicators is essential. These would ideally include regular assessments of coverage of the tax register, valuation performance, and collection efficiency.