American cities are in dire financial trouble. In fact, they are taxing themselves out of existence. Their tax bases are shrinking, their obligations are increasing, and every time they raise taxes, they alienate business owners or individuals, many of whom stop producing (and stop paying taxes altogether). Many of the political leaders of those cities believe they are approaching the point where, if they raise tax rates, so many taxpayers will leave that the cities will actually receive less revenue.
Every city has, within its borders, sufficient values to finance its municipal operations — without driving away businesses and well-to-do citizens. Instead of imposing tax penalties on productive economic activities, cities need only collect the land rent that is currently enriching land holders.
The value of urban land is a precise measure of the success of local government in providing the services that attract people and business to that city. Taxes on sales and on wages indirectly lower the rents on urban land — by making businesses flee to lower-tax areas. By requiring urban landowners to pay the full rental value of the land they hold, cities can eliminate land speculation. Getting rid of land speculation would increase employment and production while simultaneously increasing the tax base. No other revenue source has this effect.
When the rental value of land is the tax base, revenue is based on the value of opportunities and services rendered to each site. Because it makes each parcel of land profitable only when put to productive use, the land tax delivers a compelling incentive for the redevelopment of cities.
Many cities have sought to resolve their urban tax dilemma by implementing various kinds of “enterprise zones” — attempting to bring development into depressed areas by temporarily abating some of the taxes on business within those areas. The proposals recognize the burdensome nature of taxation in cities today, but do little to solve our urban problems. If an enterprise zone plan succeeds, the main beneficiaries are the collectors of vastly appreciated land values within the zones. Because land values are not sufficiently taxed, enterprise zones tend to become public subsidies for real estate speculators — and create few new jobs. In addition, enterprise zones have seldom stimulated any significant new construction outside of the specific tax-abated areas. Cities that have utilized a higher tax on land values, on the other hand, have experienced city-wide surges in building.
Let’s say that we can purchase this townhouse for $150,000 — $120K for the building and $30K for the lot beneath it. Or, we could buy five vacant lots at $30K apiece. Which would be the better investment?
We’ll use the following ground rules: The building’s replacement cost increases annually at the general rate of inflation, which is 3%. The building’s rental income is $1,000 per month. Property taxes amount to 2.5% of the total real estate value, and maintenance/management costs another 5% per year. And land values? Ah, land values: they have been increasing by 10% per year. (Click on the chart for a better look.)
Readers of Henry George’s “Story of the Savannah” will note George’s observation that cities are, by their very nature, enterprise zones — and only our backwards taxation policies rob them of their potential. More on the urban dilemma.