A Blueprint for Property Tax Aids and Credits Reform
Minnesota Taxpayers Association
As the third-largest area of General Fund spending (approximately $3 billion dollars in the FY 2010-11
biennium), property tax aids and credits deserve both close scrutiny and new thinking. Our blueprint for
reform, recently presented before the House Property and Local Tax Division, relies heavily on ideas for which
the MTA has long advocated combined with new features relevant to the unique circumstances now facing
The primary challenge for aids and credits reform is that it requires much more than just another technical
readjustment of aid formulas; rather, it depends on a new mindset and conceptualization of the issue itself.
The left column in accompanying exhibit -- taken from a 1992 MTA publication on property tax reform –
captures the conventional thinking which framed property tax aids and credits policy at that time. Twenty
years later nothing has substantively changed.
The goal of aids and credits spending should be to ensure important local services at affordable tax prices for
all Minnesotans regardless of where they live. (The goal is not to equalize tax bases – that confuses tactics
with public purpose.) Moreover, especially in these budgetary circumstances, it’s critical to achieve this goal
using the most cost-efficient and effective methods.
Direct, targeted taxpayer relief through refunds and circuit breaker programs should remain the cornerstone
of the aids and credits programs. Allowing local governments the freedom to levy based on needs and desires
of their citizens with the state stepping in to address ability to pay problems that result is the most cost
effective and efficient way to deliver on the public policy goal.
Such direct payments are also a preferable alternative to unreliable and poorly targeted market value credit
programs. As the exhibit states, we need to get away from the conventional thinking that owners of lower
valued homes are automatically deserving of assistance. Household income is the appropriate proxy for
ability-to-pay, not home value. Owners of lower value homes need no more protection than owners of higher
value homes -- except to the extent that they also have low incomes.
The Problems of Current Equalization Aids
The quality of the aid distribution formula is the primary factor in determining whether aid programs are a
judicious, defensible use of taxpayer dollars or a waste of money. General purpose aids are currently
distributed – appropriately so – based on a measure of fiscal need defined as the difference between local
revenue-raising capacity and spending requirements based on cost factors outside of local control. The
fundamental problem is that the state does not measure this fiscal need well and has never measured this
fiscal need well. In fact, when the state tried to measure it well, the proposed aid distribution was so different
from the status quo that the formula was considered “nonsensical” and rejected out of hand.1
As Point 5 in the exhibit argues, a formula that does a good job of equalizing fiscal capacity may create winners
and losers but is still a good formula. History says it’s also a dead formula. Politically, it would take a
remarkably selfless local official or legislator to accept the idea that his or her community is going to lose aid
because some city down the highway is now more deserving based on some unintelligible mathematical
analysis that can’t possibly be explained to voters.
This, of course, refers to the 1991 Ladd Study which concluded that the same amount of equalization could be achieved
at half of the contemporary LGA spending levels. The resulting recommended aid distribution plan was so different from
the actual distribution at that time, it caused Dr. John Brandl to remark that the state might as well drop money from a
Needed Changes in Thinking About Aids and Credits Reform
Stop Thinking Like This: Start Thinking Like This:
The state and local system is just that, a system. A change
1. Each piece of the state and local
A change in any one component cannot be debated
system can be debated in isolation
without knowledge of what's happening to the rest of the system.
without regard to the rest of the system.
Example: A cut in an aid program may be acceptable if other
Example: A cut in any aid program
offsetting changes are being made in the system. Judge
will cause an increase in property
reform proposals on the basis of their combined effects on
taxes. Therefore it must not occur.
taxpayers' effective rates.
2. Local government jurisdictions Only taxpayers matter. Jurisdictions are the agents of reform,
are interest groups whose welfare its primary focus. The combined effect on taxpayer effective
must be advanced. rates should be the primary focus.
Example: When it comes to helping taxpayers, a dollar of aid paid
Example: Legislators must show their
one jurisdiction is just as good as a dollar paid to another.
support for cities by supporting aid
There are many paths to the taxpayer, including a direct one using
the circuit-breaker program.
3. The ultimate goal of general purpose The goal of general purpose aid should be that of equalizing only
aid is to equalize tax rates across the fiscal capacity of communities, considering both their expenditure
communities. needs and their ability to raise revenue. Once equalized, communities
should be free to spend and levy property taxes in accordance with
local preferences so long as they pay the full costs.
4. People who own lower-value homes
People who own low-value homes may be needy. If they are, they can
are needy and should be given assistance
be helped with the income-sensitive circuit breaker without imposing
through classification rates.
a heavier burden on other property owners.
Example: Owners of low-value homes need no more protection than
Example: The taxes on low-value
homes must be shifted to other
of high-value homes except to the extent that they have low incomes. If
properties to protect their needy owners
their property tax exceeds some percentage of their income they should
from the burden of local spending.
be given direct property tax assistance payments.
5. Property tax reform requires striking The regional distribution of state aid dollars is an outcome of a set of
an acceptable balance in the distribution rational policy instruments designed to address specific, stated goals.
of state aids among various regions of If the individual aid programs are properly designed relative to their
the state. objectives, the resulting regional pattern of aid should not be rejected.
Example: Non-metro Minnesota must Example: If the goal of aid to cities is equalization of fiscal capacities,
receive X% of state aid to local a formula that does that well may create winners and losers relative to
governments. current law, but it is still a good formula.
Strong circumstantial evidence from the Department of Revenue’s Residential Homestead Property Tax Burden
Report suggests that discrepancies in affordability are likely exacerbated by current aid distribution. According
to the recently-released report for taxes payable 2008, metro-area homeowners had an 89% higher median
net property tax than homeowners in greater Minnesota ($2,387 vs. $1,259). Homeowners in the metro area
devoted 3.19% of their income to property taxes – a 39% higher share than their Greater Minnesota
counterparts who devoted 2.30% of their income for such purposes. And in seven of the ten Greater
Minnesota regions, net property taxes for all levels of government, including schools, were less than $1,000 for
over 40% of all homesteads. In two regions the total net property tax bill was less than $500 for over a quarter
Distribution issues aside, general purpose aids still entail the omnipresent risk of distorting tax prices and
triggering levels of spending that local citizens might not wish to support with their own tax dollars. The
provision of local aids has undoubtedly influenced the cost structures of local government over time and
continues to do so. As local responses to proposed aid cuts demonstrate, such cost structures can be very
difficult to unwind.
A Capital Idea
Can we continue to provide local aids, ensure better outcomes from this spending, and better deliver on the
intended public purpose? Yes, but it requires a transition that phases out aid support for current operating
budgets and phases in support for essential capital spending. We argue that this reform is necessary for three
First, capital budgets appear to be where the greatest need is. According the State Auditor, real city
expenditures on current operations actually grew robustly over the last decade, regardless of which inflation
metric is used to discount the spending. But at the same time city capital spending on fixed assets and
infrastructure fell by 33%. Reports by the Federal Reserve Bank of Minneapolis and the League of Minnesota
Cities have documented the need and looming price tags associated with replacement and maintenance of
essential infrastructure. These are big ticket items that can break the back of local tax capacity.
Second, it allows the state to extricate itself from having to accurately measure the “neediness” of cities.
Under an approach that focuses on capital spending, need is defined by the project itself and the eligibility for
state assistance can be based solely on a per capita tax capacity basis.
Finally, such assistance dramatically reduces the likelihood of creating costly new spending tails or obligations
going forward. Discrete capital projects, heavily oriented toward the maintenance, replacement, and
upgrading of existing infrastructure, are much less likely to create higher local cost structures in the future – in
fact local governments may realize significant operational savings.
Because state assistance is fungible, implementation of a capital equalization program would require a new
oversight process to evaluate and approve project proposals from eligible local governments to ensure the
money is used for a capital need. Program design would also have to factor in all the alternative sources of
capital support the state already provides to local governments. But the basic parameters of the program’s
design would still be based on a political determination of how many cities are to be eligible for aid combined
with a determination of how much equalization the state wants to provide.
Incentivize, Not Subsidize
A final element of aids and credits reform would be to use a portion of the aids and credits appropriation to
incentivize local government redesign and innovation. Service sharing, consolidation, and other collaborative
efforts do not occur without real costs. Direct costs may include significant investments in IT infrastructure
and coordination to implement changes. Indirect costs may include the very real implementation barriers of
job transition or loss. Creating a pool of resources to pay for these changes – including early retirement
incentives to take advantage of current demographics – would help transform state assistance from its current
role of providing life support to local spending that may be simply unsustainable in the long term.
Reform of this nature, especially in the context of a large budget crisis and potential budget cuts, is a very
difficult task. But as the debate over aids and credits generally -- and LGA specifically -- continues, it would be
unfortunate to lose the opportunity to pursue government redesign that delivers on an important public policy
goal in a more cost–efficient and effective manner.