What Is The Formula To Back Out Sales Tax Understanding (and Fixing) Property Tax Assessment

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Understanding (and Fixing) Property Tax Assessment

Imagine, if you will, Tinyville, a neighborhood of only ten houses. All ten houses were the same size and style, built at the same time on the same size lots, using the same architectural drawings and materials, each with comparable views and amenities, and each sold to its original owner for the same price, $250,000. It is estimated that the fair market value of each of these houses was $250,000, (because after a reasonable period of time it is the price at which sellers and buyers had a meeting of minds, not under duress,) The Tinyville tax assessor valued each property at $250,000. , resulting in a total property value of less than $2.5M for all of Tinyville.

Like any municipality, Tinyville has expenses: police and fire departments, schools & libraries, water and sewer, sewer workers, judges and clerks, engineers and inspectors, tax assessors and collectors, officers, and secretaries. To keep the math simple, let’s assume that Tinyville’s annual budget is only $100,000, and it has no other sources of revenue (such as parking meters, local sales or income taxes, or hunting/fishing permits). To meet its annual costs, the Tinyville tax assessor divides $100,000 of estimated costs (known as the total tax rate) by the average share of each property’s 2.5M total assessed value of the community. Dividing $250,000 by $2.5M means that each household is responsible for 10% of Tinyville’s property tax rate. Each homeowner (or their mortgage bank) receives a tax credit of $10,000.

For years, everyone is happy in Tinyville. Every family has children in Tinyville schools, march in Tinyville parades, and compete in Tinyville pie eating contests. According to nature, two of those original families were more prosperous than others and moved to better mines in Mediumville, one retired in Southville, one was transferred to his company’s office in Westville, and one died in a terrible car accident, but. their heirs in Bigville did not want to return to their home. However, five homes went on the market and because the market was doing well in the past several years, four were sold for 300,000 dollars … except for the heirs of the deceased couple – they let the house fall. Frustrated, they stopped mowing the lawn, and eventually squatters moved in and started trashing the place. When they finally sold it as a “handyman’s specialty,” they made $150,000 for it.

Before any annual tax assessment becomes “final,” it is sent to each homeowner for review. Each homeowner has the opportunity to contest the assessment. The first five homeowners continued to be assessed on their property value of $250,000, and knowing that many of their neighbors were selling their comparable homes for $300,000, they quietly accepted the assessment. New owners who paid $300,000 each were assessed $250,000. Ironically, it is illegal for the municipality to conduct a “site assessment” of individual properties, so even though the “fair market value” of those four homes has increased by 20% since the assessment was completed, they continue to be assessed at $250,000 each. The tenth house, bought by a craftsman for $150,000, is reassessed at $250,000, but he disputes his assessment. He says the fair market value of his home should be based on his recent purchase price, and through various legal options, he has had the house appraised for $150,000.

Assuming the total tax rate is unchanged at $100,000, what happens to the property tax of each homeowner? Nine out of ten homes are still assessed at $250,000 each, but the last one is now assessed at only $150,000. One might quickly (and incorrectly) guess that houses with fixed values ​​will have no change in their $10,000 property tax bill, and the tenth house will only pay $6,000, but that doesn’t add up correctly; Tinyville needs to collect $100,000 in taxes to balance the budget, and this formula only adds up to $96,000. What happens is that the denominator changes, too. The total assessed value of Tinyville property has been recalculated based on the value of each individual property assessed, and now adds up to just $2.4M. That means each of those $250,000 households now accounts for just over 10.4% of the total, and is now responsible for that percentage of the $100,000 in taxes, raising each assessment to $10,417. The handyman’s $150,000 assessed value is calculated at 6.25% of the total, so he is responsible for $6,250 of Tinyville’s property tax.

Some (including a manual laborer) would argue that a manual laborer’s house is worth less, and as a result, he should pay less tax than his neighbors. Some (including his neighbors) may say that his house is the same size and shape, takes up a lot of land, and puts the same demand on Tinyville’s police, fire, schools, libraries, sewers, and other services, and he should pay. same size as other houses. Others (including the original five families) would argue that the houses sold should be assessed at their new, higher market value, and the new owners should pay proportionately more taxes. Others (including the four new owners) would argue that the fair market values ​​of their homes (as evidenced by their sale prices) reflect the actual market value of the five unsold homes, even though those homes recently changed hands. These are the types of issues that baffle homeowners and plague tax assessors, boards of assessment, and municipal courts all year after year.

In a perfect world, when a property owner files for a building permit to fix and restore the value of his home, the new value he creates for the work he does should bring his tax assessment back in line with other comparable homes, thereby lowering the percentage of his neighbors. of the total tax, accordingly. Unfortunately, not everyone applies for a building permit, and not all projects require a building permit. Upgrading your kitchen appliances improves the value of your home without requiring a building permit. Many municipalities do not require a building permit to add a new layer to your roof or renovate your bathrooms. Of course, there are homeowners who build bedrooms in attics or lofts over their garages without permits, and not every new home buyer is savvy enough to realize that they are paying for unauthorized improvements. If you complain to the tax assessor that your neighbor has a finished basement that is not permitted, the tax assessor does not have the same authority as a building inspector to knock and demand to see that basement in order to tax it properly… and not all of them do. The building inspector is willing to do an inspection on an anonymous tip, so you’ll have to write down like the guy who slapped his neighbor. As a result, many home improvements do not appear on the tax assessment list.

Since buying a home in a market update gives you the ability to hurt your tax assessment based on its new apparent market value, other homeowners may use your new “fair market value” to argue that their house is comparable to yours, and that their assessment should be lowered, too. This creates an additional burden on appraisers as they attempt to determine new values ​​for homes that have not recently sold based on evidence generated by comparable homes that have been sold. As more and more homeowners suffer in their assessment, it reduces the denominator in the municipality’s total assessed value, increasing the tax liability of unaffiliated households. Naturally, that reinforces the system, encouraging more and more homeowners to be sad about their taxes, creating more and more work for assessors. However, taken to extremes in an unimaginable way, in a place where home values ​​have fallen, it may take a few years for all the owners of the house to realize that they are being assessed unfairly (compared to their neighbors), but eventually, when the last. those who finally suffer his taxes, the rate everyone’s new denominator must be compared with their rate the first denominator, which means that all on average, eventually pay about as much tax as they did before. In the intervening years, those who get on board first and get the biggest and earliest reductions in their assessed home values ​​will reap the biggest short-term benefits. Some may go and say that this is fine, like many other situations in life when the early bird gets the worm.

The intervening chaos and differences, however, cause a lot of work, which costs municipalities a lot of money in tests, review boards, and hearing complaints. In the worst cases, when the appeals process fails and it is left to the courts to decide, the municipalities have to pay unexpected compensation to the insured homeowners, which reduces their immediate fund and increases the tax fees in the following years to recover those losses. For students of economic theory, Keynes can say that these tactics are necessary and produce part of the system, and hire lawyers who can get less money; these lawyers rent offices, hire workers, buy office supplies, and in fact, keep the economic wheel turning. Hayek would reply that these legal costs do not so much enrich the system, as they redirect capital worth employing elsewhere, such as tax savings that allow homeowners to buy new furniture, hire a gardener, or take a vacation. He would consider these inefficiencies in the tax assessment system to be an unnecessary cost that sub-optimally allocated resources… and I would tend to agree with him. I don’t know what the solution is, but I know we have to try to come up with a better solution.

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