Tax increase limitations (TILs)

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Tax increase limitations (TILs) are a type of fiscal limitation that restricts the level of revenues which governments can collect. Often, they are coupled with tax expenditure limitations (TELs) and are typically employed at the state/provincial and local level. Most TILs emerged in the United States during the tax revolt in the late 1970s and the recession in the early 1990s.[1] Frequently, they require supermajority votes within the state legislature and then the TILs are then implemented at the local level, although they can also be adopted through citizen-led initiatives or constitutional amendments. Although they are most frequently used in order to limit real property taxes, TILs can be applied to any taxable item such as income, general sales, excise sales (e.g., alcohol, cigarettes), and corporate and business income. While experts tend to advocate alternative approaches to constraining taxes and government spending, they continue to remain popular in the United States.

CONCEPT


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Goals
Example

Citizens in South Jersey are unhappy because their real property taxes keep on increasing every year without any material marginal benefit. They think that their local government, as well as the state, is wasting their money through excessive spending (e.g., additional government staff for programs of limited effectiveness). Aware of their constituents' displeasure, legislative representatives introduce a statute that will limit the rate of the real property tax each year to just one percent of the property value. The statute is passed by a supermajority, and in the following year, the overall cost-effectiveness of citizens' tax dollars is increased through more stringent and thoughtful allocation of collected revenue.

Tradeoffs

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Tradeoffs of implementing TILs may include:

  1. Decreased ability for governments to effectively conduct long-term planning due to increased revenue volatility particularly in times of economic recessions, as they are difficult to predict in terms of timing and severity
  2. Decreased ability to maintain consistent and sufficient levels of public services because of constrained ability to raise revenue, especially during periods of economic hardship when social service and insurance expenditures increase while tax revenues decrease due to lower employment and wages
  3. Increased expenditures due to increased cost of borrowing as unexpected deficits arise and external perception by credit rating agencies of government's ability to service its long-term debt worsens because governments have less ability to raise revenue to pay their debts and interest
  4. Increased inefficiencies due to additional administrative costs of implementing policy that can be very difficult to define (e.g., With respect to real property taxes, what does property value actually mean? Is it the assessed value? Is it the price at which it gets sold in the future?)
  5. Crowd out of policies (e.g., jurisdictional competition, where citizens "vote with their feet") that may be more effective in achieving TIL goals[2]
Compatibility Assessment

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If answered yes, the following questions indicate conditions under which the policy is more likely to be appropriate:

  1. Has the government consistently been running a surplus or close to a surplus?
  2. Has the government consistently had little to no problems meeting its debt and expenditure obligations?
  3. Is there a high probability for consistent, stable revenue collection in the foreseeable future?
  4. Will the overall population and demographics stay relatively stable in the foreseeable future?
  5. Is the rainy day fund sufficient enough to service its current expenditures and liabilities for at least two years should revenue levels drop by 20 percent? (State tax receipts dropped on average by nearly 20 percent during the Great Recession.[3])
  6. Does the government currently have a high credit rating? If yes, are there no other situations on the foreseeable horizon that may put its credit rating at risk?
  7. Compared to other alternative policies (e.g., TEL, jurisdictional competition), is a TIL the most effective and feasible method to achieving its goals?
Design

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The following questions should be considered when determining how to implement this policy:

  1. How will the taxable basis of the item be defined?
  2. Will the TIL be pegged to a specific rate limit and / or to the rate of inflation?
  3. Will the TIL be in effect indefinitely or for some limited period of time?
  4. Will the TIL apply equally across all taxpayer classes or will it be applied differentially (e.g., residential vs. business owners, lower income vs. higher income)?
  5. In what situations, if any, can the TIL can be rolled back? If so, to what point and what should that process look like?
  6. Are there any changes that need to be made to the budget process currently in order to ensure that public service provision is continued at sufficient levels, especially for the most economically vulnerable populations?
  7. What controls, conditions, and enforcement mechanisms are necessary in order to ensure that governments faithfully adhere to the TIL?

ADOPTION


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PolicyGraphics
  • Has adoption of: Common. 37 states have some kind of limitation on tax rate increases at either the state or local level.[4] There does not appear to be much evidence that TILs are as popular in other countries as they are in the United States.
  • Area type: Urban, Suburban, Rural
  • Governance level(s): Local, State or Provincial, National. While theoretically it can be applied to the national level (but only for items that are taxed at that level, e.g., income in the United States), TILs traditionally have been used to describe governmental action at the state-level and below.
  • Issue type(s): Democracy, Sustainability, and Finance. TILs have typically been driven by citizen action or a response to perceived opinions regarding tax increases and government size.
Adopters

Notable entities who have implemented or adopted this policy include:

  • State of Colorado: Adopted Taxpayer Bill of Rights (TABOR) in 1992 that requires all tax rate increases, new taxes, and new methods for property assessment to be approved by voters. In addition, it explicitly limits certain kinds of taxes. [5]
  • State of California: Adopted Proposition 13 in 1978, limiting the real property tax rate [6]
  • State of Massachusetts: Implemented Proposition 2 1/2 in 1982, limiting property tax assessments and automobile excise taxes [7]

STAKEHOLDERS


Supporters

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  • Upper middle to upper class individuals and families. Assumption: Higher income individuals and families would like to limit their taxes as much as possible and have the financial means to compensate should public services be reduced.
  • Constituent Groups - Homeowners. Assumption: Homeowners would like to limit their property taxes as much as possible.
  • Constituent Groups - Renters. Assumption: Renters would like to limit their monthly rent as much as possible. By implementing TILs on real property, passing tax costs onto tenants is limited which consequently keeps the cost of renting lower.[8]
  • Constituent Groups - Commercial Property Owners. Assumption: Commercial property owners would like to limit their property taxes as much as possible.
  • Constituent Groups - Local Businesses. Assumption: Taxes have a distortionary effect and deter individuals from their typical spending patterns. [9]
  • Constituent Groups - Small Businesses. Assumption: Same as above
  • Associations - Real Estate. Assumption: All else being equal, property values in areas with TILs on real property will be higher than those without, thereby benefiting real estate agents.[10]
Opponents

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  • Government Agencies - Departments of Budgets. Rationale: TILs create significant challenges for revenue systems and limits the tools available for government officials to react quickly and appropriately to such problems.[11]
  • Government Agencies - Departments of Finance and Treasury. Rationale: Same as above
  • Advocates - Anti-Poverty. Assumption: Anti-poverty advocates, along with those working in social services and special programs generally, may be fearful that their programs will be among the first to be cut/reduced should revenues fall significantly.
  • Advocates - Educational Equity. Assumption: Same as above
  • Advocates - Good Government. Rationale: Experts have deemed that there are more effective and appropriate ways to achieve TILs goals.[12]
  • Labor unions generally may be opposed to TILs as they would want to ensure that the state and local governments will be able to fund future increases to their salaries, benefits, and OPEB. Traditionally strong unions such as the police, fire, and teachers unions may be particularly vocal in their opposition against TILs.

REFERENCES


Research

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  • Gamage, D.S. & Shanske, D. (2013). The trouble with tax increase limitations, 6 Alb. Gov't L. Rev., 50, 51-82 - Discusses problems with TILs, specifically how they are difficult to enforce and frequently fail to achieve their intended goals
  • Public Policy Institute of California (2001). Fiscal rules and state budgeting costs: Evidence from California and other states, San Francisco, CA: J.M. Poterba and K.S. Rueben - Discusses the unintended consequences of attempting to constrain government
  • Mullins, D.R. & Wallin, B.A. (2004). Tax and expenditure limitations: Introduction and overview, Public Budgeting and Finance, 24, 2-15 - Provides a broad overview of tax increase limitations
Resources

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Footnotes
  1. Tax Policy Center. (2009, August 20).State and local tax policy: What are tax and expenditure limits?. Washington, DC: T. Gordon and K. Rueben.
  2. Gamage, D.S. & Shanske, D. (2013). The trouble with tax increase limitations, 6 Alb. Gov't L. Rev., 50, 81.
  3. Brookings. (2012). State and local budgets and the great recession. Washington, DC: T. Gordon.
  4. Brunori, D. et al. (2008). In Tax and expenditure limitations and their effects on local finances and urban areas (p.115). Washington, DC: Brookings Institution Press.
  5. Economic Policy Institute. (2006). The Colorado revenue limit: The economic effects of TABOR. Washington, DC: T. J. McGuire and K.S. Rueben.
  6. California Tax Data. What is proposition 13?. Irvine, CA.
  7. Massachusetts Department of Revenue. (2007, June). Levy limits: A primer on proposition 2 1/2. Boston, MA.
  8. Communities United. (2015, October 28). The city that works...for who? How Mayor Emanuel's plan will devastate Chicago's affordable rental housing market. Chicago, IL.
  9. Center on Budget and Policy Priorities. (2011, February 9). An update on state budget cuts: At least 46 states have imposed cuts that hurt vulnerable residents and the economy. Washington, DC: N. Johnson, P. Oliff, and E. Williams.
  10. Yinger, J. et al. (1988). In Property taxes and house values: The theory and estimation of intrajurisdictional property tax capitalization (p.4). New York, NY: Harcourt Brace Jovanovich.
  11. Gamage, D.S. & Shanske, D. (2013). The trouble with tax increase limitations, 6 Alb. Gov't L. Rev., 50, 51.
  12. Ibid.
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