By: Casey Vander Ploeg, Senior Policy Analyst, Canada West Foundation
Last year my little commuter car suffered more than its fair share of scrapes and scratches. It started with some fancy BMW almost side-swiping me. A few weeks later a Nissan finished the job in beijing. For reasons unknown, a Mustang became infatuated with my car’s rear bumper, and then my car got smoked—twice—while it sat innocently parked. Such things seem to happen frequently and with remarkable regularity. And that’s why I drive a “beater.” My little commuter car has absolutely no market value, but it satisfies the safety inspector and is the most effective way I have found to limit the financial liabilities that come with the daily commute.
An accident is pretty much a universal negative. Yet, more than a few scientific breakthroughs and impressive technological developments have been stumbled upon by accident. Such discoveries run the gamut—from popsicles, potato chips, and artificial sweeteners to vulcanized rubber, radioactivity, and the Americas. It’s more than a little humbling to realize that just because he failed to tidy up his workbench one day in 1928 that Alexander Fleming happened upon a strange mold—what he called penicillin—that had turned all of his bacterial cultures to goo.
One of the more interesting lines of inquiry that I have pursued is how the infrastructure funding gap and ongoing efforts at property tax reform can cross paths—collide at the intersection—to produce some beneficial but unintended “innovation by accident.” Let’s reconstruct the “accident” scene.
First point. There are only two ways that public infrastructure and government services can be funded—taxation or user pay. When taxation is used, all of the costs are shared and divided up regardless of how much each taxpayer uses. There are no direct financial consequences to individual users. Thus, heavy users of infrastructure and services are, by necessity, subsidized by light users. This has the effect of artificially increasing the demand for infrastructure and services. On the other hand, user pay dispels the myth that public infrastructure and services are somehow “free.” User pay creates a fiscal dynamic where people use only what they need as opposed to what they want. User pay forces people to internalize the costs of their behaviour and modify that behaviour to avoid wasting their own money.
Tax-based funding of infrastructure and services is the equivalent of the “all-you-can-eat buffet.” For the same low price, everybody eats as much as they want. As a result, the “all-you-can-eat buffet” goes through a lot of food. User fees are the equivalent of the “pay-by-the-ounce” salad bar. Here, everybody eats according to what they are willing to pay, and less food is consumed. User pay systems based on rational pricing promote equity and efficiency. Anything less implies a certain amount of waste. All taxes, by necessity, result in a certain loss of efficiency and this is unavoidable because some forms of infrastructure cannot be provided through a system of user pay.
Second point. Property taxes are no exception. For example, residential properties “closer-in” to the city core are usually more expensive and carry higher assessed values. Thus, these properties pay more property tax than similar properties in the suburbs. But, the costs of providing municipal services and the attendant infrastructure to suburban properties are arguably higher. Those living “close-in” help cover the costs for those living “far-out” on the periphery. This breaks the link between the taxes paid and the actual benefits received, and can artificially increase demand and even reinforce sprawl, all of which drives up cost.
Third point. Such inefficiencies are inherent to the property tax, but they are then compounded by intentional inequities in how the tax is administered and applied. For example, it is well-known that non-residential properties are usually over-taxed relative to residential properties, multi-family residential properties are typically taxed at higher effective rates than single-family properties, and land values have historically been under-taxed almost everywhere. What is more, none of this relates to capturing the variable costs of providing municipal services and infrastructure to different properties.
Certain taxpayers are subsidizing other taxpayers who get a “free” ride. In most large modern cities, the great bulk of people live in single-family homes located in the suburbs. These neighbourhoods are more expensive to service and also require massive amounts of infrastructure to connect them into the civic network. Yet at the end of the tax day, multi-family properties which are less expensive to service are paying higher effective rates of property tax. Some assert that if the real nature and effect of such redistribution were known, many would find it completely unacceptable.
Fourth point. Most proposals to equalize the property tax base or remove discriminatory tax rate differentials typically end up DOA at the doors of City Hall. It is residents who vote and not businesses, and the vast majority of voting residents are single-family homeowners living in the suburbs.
Fifth point. Many solutions to the infrastructure funding gap tend to focus on various ways and means to increase supply as opposed to finding effective ways to limit demand. Supply dominates the discussion. But, there are various demand management strategies that can be considered. Maximizing existing capacity is one. When it comes to transportation, such options include HOV lanes, reverse lanes, corporate transit discounts, corporate van pooling, and Internet-based car pooling. The problem is that most of these strategies bump up against the lack of rational pricing or bad tax policy, and therefore can only do so much.
Final point. The higher effective rates of property tax paid by non-residential properties compared to residential properties is a source of growing discontent in cities right across the West. The good news is that there is some movement to correct the inequities. For some time now, the City of Saskatoon has been pursuing a policy to limit and cap this differential at 1.75. Saskatoon’s goal is to have non-residential properties paying 1.75 times the taxes paid by residential properties. The City has largely achieved this goal.
The rejoinder to this initiative is that businesses can write-off their property taxes while homeowners cannot. While this is true, the differentials in most cities are still too large. Depending on the province in view, a differential of about 1.5 would result in an equalized tax base between business and residential properties given the income tax advantage held by business. With this in mind, Winnipeg does very well. Its differential is 1.45%. (including the separate business tax). Vancouver, Calgary, and Edmonton arguably fair the worst. The differential is 4.55 in Vancouver, 4.52 in Calgary, and 2.87 in Edmonton (all of which include the separate business tax as well).
Cities across the West would do well to have a conversation with tax administrators in Saskatoon, Regina, and Winnipeg. Why? The municipal infrastructure challenge is not just a question about supply—how to get the necessary financing and funding to increase the amount of infrastructure investment. It is also very much a question about demand. Funding infrastructure through better tax policies and even user fees can help keep the demand for infrastructure in check. And, the two cities in Saskatchewan, along with Winnipeg, are showing the way.
Winnipeg has the smallest property tax differential between non-residential and residential properties, and of all major cities in the West, Saskatoon and Regina collect the highest percentage of their total property tax revenue from residential properties as opposed to non-residential properties. In Saskatoon, residential property taxes are 70% of the total municipal property tax take and in Regina they are 63%. This is much higher than most other large western cities.
Politically, much of the impetus for lowering property tax differentials has come from arguments to improve equity and fairness. Such arguments are valid. But another advantage—often overlooked because it is more of a by-product or “accident”—is how removing the differentials results in a more neutral property tax system that can help keep a lid on ever-growing demands for more infrastructure and municipal services.
To be sure, we should not hope to “luck out” and solve the infrastructure challenge by fortunate and beneficial pursuits that are more accidental than intentional. That’s a pure hit and miss strategy. When it comes to municipal property tax reform, ending discriminatory tax rate differentials, equalizing the tax base, and shooting for more fairness, equity, transparency, and accountability are reasons enough to pursue change. But it can also help bring into play a more rational level of demand for municipal services and infrastructure, which in turn helps lower the total cost of operating our cities.