Land
Planning And The Property Tax
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Author's Note:
This is a revised version of a workshop paper presented
at the 1968 Conference of the American Institute of Planners in
Pittsburgh. It appeared in the Journal of the American Institute
of Planners, May, 1969, pp.178-83
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Land planners concern
themselves with the relations among the uses to which independent
private owners put their land. These private owners mostly seek
to maximize their individual net welfare after taxes. Since taxes
are a large fraction of all costs, after-tax welfare is quite different
from before-tax welfare. So public land planners seeking to influence
private landowners must perforce be tax planners.
Land planners generally have been
tax planners in at least a passive sense: their expectation of private
response to public initiative has been based on experience, which
in turn reflects landowners' tax avoidance. Some planners have grumbled
at individual tax avoidance, as though it were immoral and should
go away—not a very realistic approach. Others have sweepingly
condemned the entire market mechanism—a "rush to judgment"
that might be tempered when we consider to what extent the malfunction
of the market results from avoidance of ineptly imposed tax costs.
Still others have supported land underassessment to relieve the
pressure to develop suburban land—without, I believe, adequately
considering that unused land lies among used parcels and disrupts
their symbiotic interactions, which are the heart of public land
planning and the essence of urban civilization. Yet others have
foundered by expecting private landowners to respond to, and fill
in, the empty niches in grand plans much more rapidly than the Great
American Land Speculator is wont to do.
To be most effective, land planners
must become positive tax planners. Collectively, they need to support
national reform of the income tax as it bears on land development.
Our theme here is what they can do locally through property tax
laws and assessment procedures. Tax reform can help the market help
the planner. What is good for the market is generally good for planning.
Land planning amends and guides the market—it is not at war
with the market. On the contrary, effective public land planning
presupposes a well-oiled land market. Planners and the Land Market
The planner, through his influence on zoning, street layout and
other public constraints, presents each landowner with a sort of
environmental challenge: he hopes the landowner will respond constructively.
The planner provides avenues of linkage by which landowners may
relate to one another: he hopes they will use those avenues. The
market motivates them.
On the whole, the highest use of
a site is that which most relates to and complements uses on other
sites. This is what cities are all about. Planners are often preoccupied
with minimizing conflicts between neighbors, which calls for minor
departures from the most lucrative use; but conflicts must not blind
us to the overriding value of symbiosis among neighbors. This is
the first concern of land planning; it is also the first concern
of the self-helping landowner. The worst nuisance a central landowner
can commit is passive withdrawal of his land from the life of the
city—right where it gets in everyone's way. The market, if
he listens, tells him to participate instead. Taxation may be used
to nudge the market a little this way or that, but the first concern
of tax reform is to unleash the market to do its constructive work.
Capital and people compactly grouped,
and with good mutual access provided by quality planning, interact
synergistically to produce a large surplus above cost. The whole
is greater than the sum of its parts: that is "synergism."
Planning and the market work together to maximize synergism.
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Another function of the land market
is in the development of new areas, or redevelopment when new uses
succeed old, to synchronize interdependent private investments that
interact synergistically to produce a total community. Thus as a
city expands, high land values at the perimeter put simultaneous
pressure on all owners there to convert to urban use. Were this
mechanism in good working order, planners could extend city services
to compact increments of land, initially sizing utility lines and
streets for ultimate demand, secure in the knowledge that the ultimate
demand would be there in short order. Private builders could orient
their plans to a more certain future, minimizing transition costs
of, for example, shifting from wells and septic tanks to public
water and sewers. Every private improvement could be less self-sufficient
and more oriented to the prospect of a total community.
But the market is not in good working
order. Taxation intercedes in every land use decision. Every piece
of land is periodically mobile among uses—when there is some
"sacrament" in its life, such as demolition and construction,
sale, subdivision, or assembly. It is then in press among competing
buyers, uses, densities, timings, parcel sizes, and so on. In every
such press, taxation biases the choice in favor of the lighter taxed
use. The real estate tax on building thus always favors old over
new; gas stations over apartments; junk yards over factories; parking
lots over parking structures; high income residences over low (high
income residences are usually less intensive because of larger lots
in neighborhoods of higher land value); billboards over offices;
unused over improved land; waiting over acting. This bias has half-destroyed
the market as an arbiter among competing land uses, and an agency
promoting urban synergism. It has lowered the density, retarded
renewal, and broken up integral linkages of the central city, fostering
in their place random scattering of new buildings at the outskirts.
It has so far impaired the city's function of linking small independent
industrial firms as to bear large responsibility for today's galloping
merger movement in which a key word is—synergism! Firms seek
through merger and vertical integration the access to services,
labor, and supplies which in a well-ordered city they could get
from independent firms through the market. Tax Base Redefinition
I do not propose that we eliminate taxes. The public needs money.
I do submit that it is not necessary for real estate taxes to impair
the market. The method is to modify the definition of the tax base.
It is not new that we can foster
a particular thing by subsidizing it, or just leaving it alone when
other things are taxed. It is new to note there is a way to tax
something and not damage it. We can even tax something and, by taxing,
foster and promote it.
Tax capital and you drive it away;
tax land and you drive it into use. The technique is to redefine
the real estate tax base as land value alone. Value at any time
is what the land if bare would sell for. It is value in the best
alternative use, the economists' "opportunity cost." It
is independent of present use or ownership. It changes year by year,
usually gradually as demands and neighborhoods change, or as anticipated
public improvements, long since foreseen and discounted into values,
are completed. It is very dependent on the things that planners
plan and is in large part the product of good planning and implementation
of planning—Alfred Marshall called it "the public value
of land," in reference to its origin. A proper assessment of
land changes in step with the outside determinants, ignoring the
specific response that individual landowners make to the environmental
challenge. They are taxed not for improving their opportunities,
but for having and holding them; not for what they do themselves,
but for the good things that planners do for them. Private Renewal
Problems The real estate tax modified in this way would help planners
with many problems that now seem intractable and foreboding. I will
focus on one, the problem of slow urban renewal. Few would deny
that the market has failed to renew our cities fast enough. For
this the real estate tax, bearing differentially on new buildings,
must shoulder much of the blame.
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The economical time for an individual
to clear and renew land is when the current cash flow from existing
or "defender" use ceases to yield a fair return on the
"scrap value" of the site in the most eligible succeeding
use (the "challenger"). This scrap value is the present
value of future income less the present value of future costs.[1]
The land-based tax is neutral in
this decision, because it is unmoved by renewal: It is the same
on the defender as the challenger. The building-based tax is unneutral
because it rockets upward when new succeeds old. It weakens the
challenger vis-à-vis the defender, by the amount of tax increase.
Not only is the new building valued higher than the old: often assessors
seize this occasion to reassess the land upwards, adding to the
bias against renewal.
The general qualitative direction
of the bias is clear—I have said that before. Quantitatively,
the number of years during which building taxes retard site renewal
depends, among other things, on how the cash flow from old buildings
drops off. If it plummets steeply, then renewal dates are preordained
by nontax factors, and tax policy is unimportant. If it tails off
gradually, a substantial tax bias against new buildings retards
the renewal of each site regarded individually; and of neighborhoods
and school districts even more, as the nonrenewal of each site robs
neighboring sites of their renewability, and suppresses competition
from new buildings which would pull tenants from old defenders.
A number of time series showing
historical income experience of commercial buildings have been compiled
and published by Leo Grebler, Fred Case, and Louis Winnick.[2]
I have deflated them for price level changes.[3]
They are much affected by cycles of depression and war. The general
time pattern and period of dropoff is clear enough, however. Real
income from old buildings dwindles away slowly over many decades,
in spite of depreciation and obsolescence. There is no sharp cutoff,
no predestined date of demolition determined by technology or taste.
Even when an old building has gone vacant, it may come back. After
World War II, real income of many buildings rose sharply.
Another source of data is the Institute
of Real Estate Management "Experience Exchange" among
members of the N.A.R.E.B. In 1967, their 1,069 respondents reported
on operating ratios (total expenses including real estate taxes
divided by total actual collections) for apartment buildings classified
by age groups. For elevator apartments the ratio rose gently from
45 percent for 1961-66 birthdays to 59 percent for all buildings
over 47 years old, that is, pre-1920.[4] For low-rise apartments
it was from 41 percent to 58 percent; for garden apartments from
40 percent to 48 percent. In other words, almost half the gross
collections from old apartments represents net income to the owner.
A powerful factor helping hold down these operating ratios is that
real estate tax expenses keep falling as a building ages.
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Measured in years, therefore, the
fiscal deterrent to urban renewal—the threat of increased
taxes on new buildings—retards by decades renewal of the individual
urban site. I could give you a precise number of years, using Milwaukee's
present real tax rate of 4.0 percent; but it would be a false precision,
since it would be based on the individual site in isolation. Let
us look at the extended effects on neighborhoods. New Building Impacts
The renewal of one site speeds the renewal of nearby sites in at
least three ways. First, it raises the renewal or challenger value
of nearby land. One new building gives heart to potential builders
of others, who naturally prefer new buildings for neighbors. Slum
environs can virtually destroy the renewal value of land—a
problem often noted. One or a few sound new buildings as inspiration
can support supplementary and complementary renewal round about.
The new GM building on 5th Avenue is reported by Fortune to have
doubled floorspace rentals across the street. Once a new, neighborhood
or city or region gets well started, renewal snowballs because people
like to locate near their customers, contacts, suppliers, workers,
and friends.
This, of course, raises the negative
possibility that new buildings strengthen adjacent defender values
as well as challenger values. There are frequent complaints that
successful urban renewal projects, for example, raise the cost of
nearby land for the next project. However, these higher land "costs"
are merely asking prices and may be based on higher anticipated
challenger values, plus the knowledge that federal funds are on
tap to buy. They do not in general represent higher defender cash
flow nearly as much as challenger values.
The reason is that new buildings
pull tenants from old, in general weakening defenders. This is the
second way that renewal reinforces itself. It is especially true
when the new buildings are at higher density than what they replace—something
which building taxes also discourage—and represent net new
supply. Where tenants have a choice they move to newer quarters.
The oldest defender filters down to be demolished. Its successor
then pulls tenants from others, repeating the cycle. In the right
conditions the reverberations from one new structure resound through
several rounds of induced renewal.
Milwaukee's progress during the
last eight years represents the ramifying effects that may flow
from one new building. Through a series of historical accidents
and legal technicalities, Wisconsin had an assessment freeze law
that proved unconstitutional after being used essentially just once,
in 1960, for the Marine Plaza—a high rise office and bank
building. It was the first downtown building of consequence in thirty
years. It pulled tenants from other buildings, forcing a wave of
remodeling and renewal, still in progress, which has changed the
face of downtown Milwaukee. By general account, this one new competitor
set off the chain reaction. There is a multiplier the like of which
few other economic processes approach. Perhaps the time was unusually
ripe, but that is mere hypothesis. The facts are there, and they
speak volumes.
It is not that this one stroke alone
was enough. The ripples are dying out, long before the job is done,
but the point is if one original cause can ramify so far, even though
every induced new building was fully taxed, twenty original causes
would transform a city, if every induced new building were to be
tax free.
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A third way that renewal reinforces
itself is through the higher income that it brings. Renewal means
capital inflow, construction payrolls, material sales, new jobs,
and so on. This pushes up local income levels. Now new buildings
are "superior goods." The higher the local income, the
greater the premium paid for new over old floor space, and the stronger
are challengers relative to defenders.
So neighborhood and aggregate effects
multiply the good done by each new building; conversely, of course,
they multiply the damage from the present tax policy, which defers
renewal.
But neighborhood effects are not
the whole of the story of multiplied effects from taxing challengers
more than defenders. Consider that most building is done on borrowed
money. We live in a world of credit ratings, cash flows, front money,
cash squeezes, and leverage—matters basic in business school
but too often underweighed in economic analysis. A tax on new buildings,
coupled with low taxes on old, weakens the credit of challengers
and strengthens that of defenders. It adds to challengers' needs
for front money and reduces defenders' needs for any money at all.
A tax on new buildings is at its
maximum in the early years, the time of tightest cash squeeze. A
high property tax rate today may take 30 percent of gross income
from a new building. If other expenses take 30 percent, that is
three-sevenths of the net operating income. If the entrepreneur
is highly leveraged-and today, that is standard-most of the rest
of net operating income goes to debt service. The net cash remaining
for the entrepreneur then, especially during the early cash squeeze,
is doubly leveraged, so a small rise in building taxes can wipe
him out.
His credit rating in turn is leveraged
by the prospects for his equity position. It is a familiar fact
that a small rise of mortgage rates causes a large drop in building.
Loanable funds rush out of building, not just because borrowers
balk at higher rates, but because lenders lower everyone's credit
rating because of lower equity income. Real estate taxes on new
buildings add to costs in the same way as interest rates—that
is, they are a fixed percent of value. A 3 percent-of-true-value
property tax rate hits new building with the impact of a rise of
mortgage rates from 4 percent to 7 percent; except that the real
estate tax is worse because the tax rate applies to the whole value,
while mortgage rates apply only to the debt. The tax not only defers
renewal by its simple direct impact, but additionally by its leveraged
effect on entrepreneur net cash flow and thence on credit ratings.
So it is powerful medicine to convert
the real estate tax base to the site value basis. My current study
comparing challenger and defender values in Milwaukee County is
finding that a small rise of challenger values over defender values
would cause 20 percent of the central city area to be renewed forthwith;
and that the large change resulting from a full exemption of buildings
from real estate tax would cause some 50 percent to be renewed—if
the labor and money could be found to do it. Again, these results
would be magnified by consideration of the neighborhood effects
previously described.
They would be magnified again by
consideration of the positive effect of cash squeeze on defenders.
So far I have written only of exempting new buildings, but the land
basis of real estate taxation does more than that. It raises taxes
on defenders. The result is a potent cash squeeze effect. Today's
real estate tax puts the squeeze on buildings. The proposed land
tax puts it on defenders, holdouts, and preemptors of land.
So powerful is the medicine that,
once it is understood, opposition may be expected, not from those
who say it will not work, but from those who fear it will work too
well: destroy historical antiquities, flood the market, jeopardize
collateral values, lower rents, change the character of neighborhoods,
sacrifice tradition to progress, overstimulate the economy, encourage
immigration, spoil the labor, change voting patterns, weaken old
ethnic ties, and generally frighten those who dislike change and
abundance. There is also a concern for the welfare cases who inhabit
old buildings and may have relocation problems. This is not the
place to answer all those points; nor is this the place to answer
those who would not have us do any good thing locally without first
tracing its possible effects on the equilibrium of the whole world.
They should reread Candide. But I do have a few words of conciliation
and challenge for planners who might be concerned that the proposal
to unleash the full force of the free market is also a proposal
to substitute the market for planners. Challenges for Planners The
unleashed market can solve some problems that now divert planners.
It can bring urban renewal; group complementary land uses; promote
low income housing; contain sprawl; attract an economic base; and
weed out the worst generators of fiscal net deficits—old buildings.
But on the whole, the land tax proposal implies more need for planners.
Indeed, it gives planning so much more force and leadership as to
make one ask whether planners are prepared to meet the challenge.
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Let us enumerate the ways that land
value taxation supports and presupposes good public planning.
1. It gives planners a positive
tool for influencing private land use, where now they largely have
powers to say "Nay." When they designate an area for development,
direct routes and utilities in it, and zone it for new use—up
go land taxes, cash-squeezing the landowner into early attention
to his new opportunities. Further, since high-use zoning is exploited
quickly, there need be no great surplus scattered about, as it is
today. It remains tight and retains its power to shape land use.
This is also true for advantageous locations along public roads—which
incidentally cost much more to produce than zoning, and if they
are produced in surplus because half are unexploited (again as today),
they require the most egregious waste of public capital.
Some may even regard land taxation
as a form of tyranny by planners over landowners. But note the limits
to the planner's power. He does not direct a landowner to put his
land to a specific use. Nor is there usually just one "highest
and best" use of a given site, to which every landowner will
be forced. Thriving cities are not characterized by monoculture
and monotony, but by variety, constant change, and complementary
activity. Whatever is the highest use in a neighborhood, say elevator
apartments, is supplied in abundance until the need for another
one is no greater than the need for some complement like a grocery
store or parking structure. At any time an equilibrium generally
prevails and affords each landowner several options. Within limits
he may "do his own thing."
The land tax does not turn the planner
into an overcentralized administrator or petty tyrant dictating
specifics when he should be delegating authority. Rather, it sets
a generalized performance standard, cutting off options beyond a
certain degree of slothfulness and disregard for the public cost
of giving land its latent value, but leaving wide latitude for individual
discretion.
2. The land tax gives public investment
great leverage over private investment. Today it is the reverse.
Within limits, public roads, regulated utilities, the mailman, and
school bus will follow you wherever you choose to locate. The regional
planning commission uses traffic counts to plan bigger roads, following
the lead of private émigrés. These outreaching roads
often seem to follow wealth and power.
The land tax lets public planners
take the initiative if they will. The city extends roads and sewers
a reasonable way and then raises taxes on the land. The cash squeeze
says: "Bring me roofs to match my roadways."
We have seen that individual buildings
in new neighborhoods need synchronization because of synergistic
interdependence. When the community of small independent entrepreneurs
lacks synchronization, it is hard put to compete with giant developers
of integrated centers and whole towns, who centrally control entire
new communities. To compete, the public needs a community synchronizer.
This the land tax affords. The planner does not try to play every
instrument in the orchestra, but the land tax lets him set the tempo.
But how this puts the conductor on his mettle! The man with the
baton had better set the right beat, for everyone knows who he is.
From an objective view of administration, of course, that is very
good. It may give stage fright to a profession still a stranger
to the podium. Are planners ready?
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3. The land tax gives planners some
leverage over tax assessors. Now, assessors are preoccupied assessing
building values. Then, they would assess site potential, the thing
planners play such a role in determining.
4. Synchronized expansion lets planners
plan for open space. Today, open space is a transitory byproduct
of land speculation. In transition zones we undersize parks because
there is so much open land and so few people. The private open space
cannot be entered and supplies only visual amenities, and often
not even that. When the landowner is ready for cash, the space is
closed and a new load, often an overload, thrown on public land.
The land tax system lets transition
be quick and orderly. Knowing the ultimate density, the planner
can provide parks in optimal measured amounts and sizes so that
settlement is not crowded, but unsprawled. By using tax pressure
to assure early compact use of land between open spaces, he justifies
the investment in open land and relieves the pressure to invade
it. The public planner can work open space into an integrated pattern,
just as large private developers can (and sometimes do) now.
With such power in hand, planners
might even retain economists to measure the benefits and costs of
open space. It is high time we introduce rational management and
optimization into a topic now too freighted with hoarding, alarmism,
sentimentality, camouflaged race prejudice, opportunistic tax-dodging
and uncritical nature-worship.
5. The land tax system shortens
the period between site renewals. Every site renewal is another
occasion to plan, and to plan ambitiously, excitingly, not just
for rehabilitation but from the ground up. The public planner can
go further. He can synchronize demolitions and replot the ground
itself, something we had better get around to more often if our
older city layouts are to avoid utter obsolescence.
6. The land tax system helps free
planners from the constraint of "French equity." I allude
to the concept of equity, characteristically French, that every
man's share of land should be made equal, regardless of social cost,
that the object of the institution of property is not good land
use but distributive equity. In city planning that means what you
do for Jacques' land you must also do for Pierre's.
Efficiency, on the other hand, calls
for neighborhood specialization and differentiation, with high values
for some and low for others. The land tax uses the fiscal and monetary
mechanism to compensate the losers from the gains of the winners.
Those who get the high unit values also get the high tax bills—not
because of what they do for themselves, but for what the city planner
does for them. Thus liberated from the tyranny of pettiness, the
planners can relocate things and maximize net urban welfare on a
much grander scale than now.
Equally important, the land tax
gives city councils a better chance to be honest. Lincoln Steffens
once remarked that the troublemaker in the Garden of Eden was not
Eve, nor yet the serpent—but the apple! Taxing land values
serves to dehydrate the apples of unearned increment which city
councils dispense; and for which land developers vie when they contribute
to campaigns, lobby, and otherwise influence officials. Keying the
land tax to the provision of value-creating public works tempers
the landowner's appetite by having him pay for his apples. The planner
can now put priorities in the capital budget with a clearer conscience
and less fear of pressure.
7. Finally, the land tax system
leads to demand for a greater variety of community facilities because
it gives people better mutual access. It reduces the self-sufficiency
of individual landowners. It obviates vertical integration by individual
firms. It increases interdependence. It fosters more linkages of
all kinds: social, commercial, industrial, political, and cultural.
It puts more load on the linkage mechanism—the sector of the
city that planners plan.
To be sure, it greatly shortens
the linkage network because orderly, unsprawled settlement lets
people live closer, reducing the travel required for any given degree
of linkage. Furthermore, it untaxes elevators and utility cores
in private buildings and so lets private capital develop the third
dimension of the linkage network, reducing the need for public capital.
But the public capital released from lengthening the street grid
and the planning talent liberated from this single-minded preoccupation
have higher and varied uses. They can replan interior areas and
central lines; clean up air and water; perfect mass transit; sewer
septic-tank suburbs and enlarge inadequate central lines; relocate
buildings and lines to maximize synergistic gains from linkages;
build a community house, a central mall and plaza, a Tivoli Gardens,
a trade fair, an auditorium, stadium, art center, zoo, gymnasium,
pool, theatre, marina, museum, library, playgrounds, park facilities,
and so on without end.
Reviewing these seven challenges
for planners, I must plead innocent of plotting their obsolescence
and disemployment. Rather, I am moved to ask, with the Joseph Schlitz
Brewing Company, "How much boldness can you handle?"
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NOTES
[1] For more detail
on this see my "Property Taxes and the Frequency of Urban Renewal,"
Proceedings of the 57th National Tax Association, Pittsburgh, Pennsylvania,
September 14-17, 1967, pp. 272-85. Return to
text.
[2] Leo Grebter,
Experience in Urban Real Estate Investment (New York: Columbia University
Press, 1955); Fred Case, Los Angeles Real Estate; A Study of Investment
Experience (Los Angeles: Real Estate Research Program, Graduate
School of Business Administration, Division of Research, University
of California, 1960); and Louis Winnick, Rental Housing: Opportunities
for Private Investment (New York: McGraw-Hill, 1958). Return
to text.
[3] My study of
the detail and trend adjustments will be published next spring.
[4] Institute of Real Estate Management, Apartment Building Income
Expense Analysis (Chicago: IREM of the NAREB, 1967). Return
to text.
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