Governor Pillen’s Property Tax Plans: Options and Tradeoffs
Governor Pillen has pitched a sequel to his historic 2023 income tax cuts. The 2023 reforms slashed top income tax rates by a third, and for his 2024 follow-up, Pillen has proposed cutting property taxes by 40% across Nebraska.
When lawmakers convened in Lincoln in the spring of 2023, they had surpluses on hand for income tax cuts. The post-pandemic economic rebound produced a gusher of state revenues. Lawmakers used this revenue to cut income taxes and largely eliminate the community college property tax.
Nebraska has an analogous opportunity for its 2024 tax-cutting sequel, but this time the target to cut is the property tax.
Any reduction in local property taxes will involve a “tax swap,” where local revenues are replaced by state revenues. And in contrast with 2023, Nebraska’s state government does not have all the money it needs to effectuate a 40% reduction in property taxes.
Therefore, lawmakers should steer clear of hiking tax rates and be cautious about unintended consequences in a state-for-local tax swap.
Nonetheless, lawmakers should boldly pursue a massive property tax cut. Indeed, it would be a tremendous success if they can match their one-third cut in income tax rates by doing the same with property taxes. And this can be achieved without raising other tax rates.
All the pieces are in place for tremendous property tax reforms. As we laid out last week in our blog on The Future of Tax Reform, lawmakers are ambitiously advancing legislation to:
- cap property tax levies, forcing rates to fall when valuations rise; and
- redeploy state income tax credits (for school property taxes paid) to directly lower school property taxes.
These two items alone would constitute major policy victories for Nebraska. Yet there is more that can be done. At the same time, some options currently under consideration would impair Nebraska’s competitiveness.
Property tax caps, referenda, and bond levies
When it comes to capping property taxes, lawmakers should treat all tax jurisdictions equally. Schools, cities, counties, and other jurisdictions should all face the same revenue levy cap, and they should all have the same opportunity to override the levy cap through a voter referendum. In other words, the state should treat all local governments equally when it comes to capping property taxes.
The ultimate version of local control occurs when local taxpayers decide whether their property taxes go up to fund specific programs. However, lawmakers are considering a softer property tax cap for schools. Lawmakers should avoid this unequal treatment and instead impose the same hard cap on all jurisdictions.
Tax referenda to allow property tax increases above a cap should be held on November ballots to ensure maximum voter participation in decisions that impact their real estate taxes. In addition, local bond elections should be held on November ballots for the same reason. Senator Lou Ann Linehan’s LB 988 prohibits special elections for bonding and allows bonding and tax cap levy votes for all political subdivisions to occur on primary and general elections ballots. Furthermore, Senator Holdcroft’s LB 878 only allows school bond referenda to be considered on general election ballots.
Who pays? And two funding options for state-local tax swaps
A tax swap occurs when state revenues are used to directly lower a local tax. Tax swaps make political if not policy sense when a local tax becomes painfully high, like Nebraska’s property tax, or if local governments collect tax revenues through an inefficient tax that the state wants to eliminate. For example, some states have used state revenues to eliminate local tangible personal property taxes.
However, on the margins, tax swaps change who pays the tax burden. Different people pay different amounts of property taxes and sales taxes depending on their property value and their consumption patterns. Thus, providing a property tax reduction funded by a sales (or income) tax increase fundamentally changes how much each Nebraskan pays in total taxes. This tax burden change occurs in a non-transparent way. For some people it will be a small change in total tax liability, but for others it will be a large change. Most Nebraskans will have no idea whether a sales-property tax swap increases or decreases their total tax burden.
Thus, Nebraska lawmakers should approve a tax swap that reallocates state income tax credits for property taxes paid to directly reduce school district property taxes. In effect, this tax swap has already been allocated and approved, and sending the funds directly to the local districts will result in more effective property tax relief.
The credits should be allocated in order to give all taxpayers the exact same tax relief they would have if they took the school property tax credit on their income tax return. And the swap should be done in such a way so as to assure there is a dollar-for-dollar reduction in the property tax for each dollar of reallocated tax credit. School property tax levies should be forced down in equal dollar terms to the reallocated credits.
But lawmakers should reject using a sales tax increase to pay for a property tax decrease.
Avoid compounding a sales tax bias
Nebraska’s 5.5% sales tax falls largely upon the purchase of goods. Counties and cities can adopt as much as 2% in additional sales tax. LB 1315 would increase the state sales tax rate from 5.5% to 6.5%, giving Nebraska one of the highest state sales tax rates in the country. The new state ales tax revenues would be used to reduce property taxes.
Raising a tax rate makes the tax code less competitive. Economic decision-making occurs on the margin and is impacted by the marginal (top) tax rate. Thus, raising the top rate impacts decision-making and makes the tax code less efficient. Furthermore, Nebraska has significant population along its borders, and those residents could shift some purchases out of state.
More importantly, raising the sales tax on the current sales tax base exacerbates a legacy problem, particularly when it comes to “tax pyramiding.”
Nebraska’s sales tax is levied primarily upon goods. This often includes goods purchased by businesses. As a result, goods-intensive industries like manufacturers can have several layers of sales tax imposed upon its production cycle, which increases the cost of the final product in a non-transparent way. Thus, raising the sales tax rate on the current sales tax base simply worsens a legacy problem and further biases the tax code in favor of service-consumption over goods-consumption. Nebraska should champion its strong goods-production sector.
If Nebraska wishes to raise new sales tax revenue, it should be done by extending the sales tax as broadly as possible upon final retail consumption, including retail services. Taxing retail services would heal a bias in the tax code, whereas raising the tax rate on goods would worsen the bias in the tax code.
Tax swaps for schools make sense, but not for cities and counties
Tax swaps for education make more sense than tax swaps for general local government funding. Education is traditionally a joint state and local project, and both K-12 and community colleges were funded by both state and local revenues. That’s why it made sense to eliminate the community college property tax altogether. The state was already funding community colleges and had the resources to pay for more.
Similarly, Nebraska state government funds K-12 schools in partnership with local government. In addition, the state government has already allocated hundreds of millions of dollars per year to offset the cost of high school property taxes via an income tax credit. “Front-loading” these tax credits directly to the districts will cut out the tax relief middleman (the state income tax return) and directly deliver lower property taxes.
On the other hand, county and city services are ideally funded by local property taxes, which collects tax revenue based upon where people live and need services. While education is traditionally a joint state-local effort, general local services are not. Lawmakers should avoid using state funds to offset county and city property taxes and should instead cap all tax levies and deliver direct property tax relief for school property taxes.
Nebraska lawmakers have another tremendous tax reform opportunity in 2024. They can deliver massive property tax relief and cap property taxes going forward without raising any other taxes. If they achieve this accomplishment, Nebraska will likely again sit atop the rankings for best tax reform in 2024.