Jubak's Journal Recent articles: • 5 potential positive earnings surprises, 6/22/2005 • 3 ways to profit from Europe's turmoil, 6/21/2005 • Higher oil prices? It's worse than you think, 6/17/2005 More... | Jubak's Journal Coming soon: A tax revolt like no other Anger over property taxes and the AMT is about to boil over. And the wave of tax revolts thundering our way will have intended and unintended effects that ripple through the economy. By Jim Jubak The next tax revolt is coming, and it's going to be a doozy. Even bigger than the last one set off by Howard Jarvis and Proposition 13 in California in 1978. That one slashed California property taxes by 57% overnight and put in place a system that has given Californians the most unfair property tax bills in the country. This time around the tax revolt will have a big say in how much higher housing prices will go and whether or not the economy stalls, in how state governments will meet a pension shortfall of hundreds of billions of dollars, and in whether in 10 years the annual federal budget deficit will be large or monstrously, economy-swallowing huge. The California tax revolt of the 1970s was set off by rising home values -- and unresponsive local governments. As property values soared, local governments kept property tax rates steady. That resulted in a windfall of tax revenues to local governments, and in tax bills so high that they forced elderly or poor homeowners to the wall. Proposition 13 rode to passage on a wave of anger against high taxes and high government spending. Voters in other states followed California's lead and enacted their own tax limits. The anger returns You can find echoes of that anger across the country now in the wake of the real estate boom of 2005 (and counting). For example, New York City, where I live, is one of the most overheated local housing markets in the United States, according to the Federal Deposit Insurance Corp. Thanks to rising property values, my tax bill will go up about 18% this year.
I'm actually doing pretty well compared to what's going on in some other parts of the country. New York City reassesses property values every year, so my taxes have ratcheted upwards in uncomfortable but not shocking jumps. In many localities around the country, property values are assessed only every three or five years, so taxpayers now are getting blasted by the full impact of years of house-price appreciation in just one lump. New York City has cut the tax rate I pay on the assessed value of my property this year, which takes down the tax bite a bit. And last year, thanks to an unexpected city budget surplus, I got a real-estate tax rebate from the city. Other local governments, struggling to recover from years of budget deficits, are actually raising tax rates, adding to the pain. Related news and commentary on MSN Money How bad is it? Here are some numbers I've found from around the country. In Pierce County on Washington's Puget Sound, valuations sent to taxpayers are up 20% this year, on average. In Lexington, S.C., real-estate taxes have climbed 20% a year since 2000. In Northern Virginia, homeowners are paying as much as 70% more in real estate taxes than five years ago. In Incline Village, a Nevada community 35 miles south of Reno, the median price of a home has climbed to $270,000 from $200,000 in the last year. Of course, some houses have appreciated by much more. According to The Wall Street Journal, a house owned by Ted Harris, for example, assessed at $400,000 in 1989, was assessed at $1.2 million this year. Harris's property taxes have climbed to $12,000 from $2,200 in 1990. Would you be surprised to learn that Harris is the head of the local Incline Village tax revolt? You can see why there are active efforts to put caps on taxes and state spending in more than 20 states right now. Not just property taxes But this time, unlike the tax revolt of the 1970s and 1980s, it's not just property taxes. The AMT (alternative minimum tax), originally designed to make sure that rich taxpayers paid something in income tax, has started to devour the same middle-income taxpayers who are getting socked with the biggest increases in property tax bills. And the AMT is going to get worse, much worse, for the rest of this decade. The problem with the AMT is that when it was created 36 years ago, nobody bothered to index its tax brackets to inflation. That bracket creep is now biting really hard as inflation pushes middle-class incomes into brackets designed for the rich of 36 years ago. According to an analysis done for The New York Times, only 1% of taxpayers making $75,000 to $100,000 paid more in taxes in 2004 because of the AMT. That will rise to 52% of all taxpayers in this income group by 2010. The average taxpayer hit by the AMT at this income level will pay an extra $1,600 in taxes in 2010. The impact is even greater for taxpayers in the $100,000 to $200,000 range, where 80%, up from 6%, will pay AMT taxes by 2010. That will add $2,500 to the average tax bill of the 80% affected by the AMT. Not too worried about people making that much? (At $100,000 to $200,000 in income, you are in the top 10% of all taxpayers, after all.) Well, 16% of taxpayers making $50,000 to $75,000 will get dinged by the AMT by 2010 for an average $900 a year in extra taxes. You can see how soaring real-estate taxes and the increasing bite from the AMT might be enough to fuel a tax revolt or two. Fight for fairness But I'm not done. Something else has changed in the country since the 1970s and 1980s. At least, I think it has. First, thanks to the Reagan and Bush tax cuts, and to the supply-side economics used to justify them, there's much less fiscal restraint on cutting taxes. Running a budget deficit? Cut taxes anyway. Rising revenue, created by the tax cuts, will fix the problem in time. Second, runaway government spending has undermined the public's belief that it gets value for the taxes it pays. And third, I think there's less faith in the country as a whole that taxes are fair. Unfortunately, there's good evidence that they aren't. The latest data -- from 2001, I'm sorry to say -- shows that as much as $353 billion in income taxes, about 16% of the total owed, went unpaid. If all taxes owed were collected, the Economic Policy Institute calculates, it would be enough to eliminate most of the projected federal deficit over the next 10 years. However, given that the federal budget has starved the enforcement efforts of the Internal Revenue System for years, I'd say the odds of this happening are slim to none. In addition, the first property-tax revolt made property taxes, never particularly fair to begin with, even less fair. In California, the most notorious example, Proposition 13 froze the assessed value of your home at its value in 1975-76. That assessed value could only rise when the house is sold. The result is that owners of houses in the same neighborhood may pay wildly different taxes only because one was sold more recently than the other. But it gets worse. Business properties often change hands in a way that doesn't constitute a public sale and doesn't trigger a new assessment of the property. In the years since Proposition 13, homeowners have gradually assumed a larger share of the property tax burden from businesses. Big effects on the economy The current wave of tax revolts, if successful on anything like the scale of the earlier model -- and I think they will be, because our time provides more fuel for tax revolts than the 1970s and 1980s -- will have intended and unintended effects that ripple through the economy. Intended: If state tax revolts succeed in capping property-tax increases, they are likely to prolong the current real-estate boom. Lower taxes, after all, make it easier to carry a bigger mortgage. And lower taxes will act to delay the day of reckoning in the most-heated housing markets since, with lower property taxes, financially stretched home buyers will have a little more stretch left in them if times turn sour. Unintended: If state tax revolts cap state revenues in the current good times, it will make it that much harder for state governments to fix their current pension shortfalls. The deficits that many states have run -- often plugged by borrowing and gimmicks in cases where state constitutions require a balanced budget -- have left them with huge unfunded pension obligations. The gap is $30 billion in New Jersey, for example. Now the states should be running surpluses that can be used to fill those gaps. Capping state revenues now will make that harder. Intended: If a national tax revolt results in the repeal of the AMT, it would be equal to a huge tax cut for the middle class. How big? The Center on Budget and Policy Priorities calculates that revenue from the AMT at $1.2 trillion over the next ten years. Putting that money into consumer pockets would be a huge boost to consumer spending over the decade. Unintended: If the AMT is repealed without a successful effort to find additional revenue to make up that lost by repeal, the federal debt would more than double over the next 10 years. Federal debt -- the total the government owes as a result of all its accumulated annual deficits -- is projected by the Center on Budget and Policy Priorities at $4.7 trillion at the end of 2005. Add the extra $1.2 trillion from repeal of the AMT to the center's projection of $3.7 trillion in accumulated annual deficits over the period, and you more than double the federal debt to $9.6 trillion in 10 years. I do believe the globe is awash in cash -- which is why the yield on 10-year U.S. Treasury notes is at 4% -- but I do find it hard to believe that the United States could force another $4.9 trillion down the throats of overseas investors in just a decade without paying them higher rates of interest. Higher interest rates would work against the economic stimulus of an AMT cut. Unintended: Fortunately, President Bush has told the Advisory Panel on Federal Tax Reform, due to report later this summer, that it should include proposals for reforming the AMT but that these proposals must be revenue neutral. Unfortunately, you're guess is as good as mine where the committee might conjure up $1.2 trillion. If the proposed additional revenue is sleight of hand, we'll risk the higher interest-rate scenario above. If the proposed additional revenue is in the form of higher taxes, we lose the economic boost from doing away with the AMT. The greatest likelihood, for AMT reform and the property tax revolt too, is that we'll wake up in 10 years wondering why the tax revolt of 2005 didn't produce the outcome wed hoped for. Changes to Jubak's Picks Sell Companhia Vale Do Rio When a short-term trade doesn't work, there's no point in sticking around -- especially when I think there's a better place to put my cash. So I'm selling Companhia Vale Do Rio Buy Marathon Oil I'm adding Marathon Oil New developments on past columns 5 ways to play currency swings Danone Group 12 global growth stars you've never heard of Talisman Energy Editor's Note: A new Jubaks Journal is posted every Tuesday and Friday. E-mail Jim Jubak at jjmail@microsoft.com. At the time of publication, Jim Jubak owned or controlled shares in the following equities mentioned in this column: Talisman Energy. He does not own short positions in any stock mentioned in this column. | ||||||||||||||||
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