Property Tax Base (ULDM6032)

3. Determining the Property Tax Base: Contents; Policy decisions in LPT Frequency of LPTs Classes of LPTs Determinants of LPT base Guiding principles of LPT policy 12/31/2024 1  Defining the...

3. Determining the Property Tax Base: Contents; Policy decisions in LPT Frequency of LPTs Classes of LPTs Determinants of LPT base Guiding principles of LPT policy 12/31/2024 1  Defining the LPT Base; Tax base is the value that will ultimately be used to allocate the tax burden to individuals, households & businesses. Defining the base for the LPT involves policy decisions like; What should be included in the base? land only, land and permanent improvements, just the improvements, or d/t combinations of land and improvements for d/t types of land use. How should value be determined? Based on the market value of properties, or Selected physical and locational property attributes. Who will owe the tax? Determining who will owe the LPT. owners of land or occupiers/users of land? 12/31/2024 2  Defining the LPT base cont’d… Should these decisions regarding general approach and incidence be uniform throughout a country or should they vary within a country depending on local conditions like; – the quality of real estate markets or – the nature of recognized property rights? Which types of property or ownership classes should be exempted from the LPT, and why? Which level of gov’t and agency should determine which properties are exempt? Therefore, defining LPT base depends on; – Condition of property rights definition and registration & – the maturity of real estate markets 12/31/2024 3  Defining the LPT base cont’d… 1. Will the base include land only improvements only or both? – Its administratively easier to tax land only. – If there is adequate administrative capacity to obtain and maintain the additional information required, both land and improvements can be taxed. Strong economic arguments for taxing land only, Taxing land only may be the most effective way to extend the tax to informal settlements. 12/31/2024 4  Cont’d… Land provides the most economically efficient tax base b/c’; – land is immovable in nature – Fixed in its supply Thus, taxing land enhances its economic use and minimizes its economic distortions, Discourages land hoarding and speculation and Make land more affordable Public investments & provision of d/t services enhances land value So, taxing land helps to recapture land value increments 12/31/2024 5  Cont’d… At the same time, taxing improvements may tend to discourage investment. Land owners who think their taxes will increase if they improve their property In many industrialized countries, both land and improvements are taxed (but not always at the same rate). 12/31/2024 6  Exemptions in LPT Exemption is exclusion of some properties from the tax base, such as Should be based on d/t factors like; – Ownership types; governmental or non gov’tal – Use types; charitable, religious… – Characteristics of the owners/occupiers; age, disability.. Can be granted by central, state or local gov’ts May vary spatially & temporally Should be based on clear criteria The value of exemption should be known Has its own criticism 12/31/2024 7  Defining the LPT base cont’d… 2. Will the value of the tax base will be linked to capital market value or property attributes? – If real estate markets are fairly mature, link taxable values to market values. – But if markets are not complete and well functioning, link taxable value to property attributes like size & location. – Linking taxable value to market value is administratively much more demanding. 12/31/2024 8  Defining the LPT base cont’d… 3.Will land owners/occupants be responsible for paying the LPT? – Property owners should obliged to pay LPTs when; Private ownership of land is recognized, Property ownership is well registered, Well established registration system exists, Owners can be easily be identified & taxed – Unless, LPT preferably fall on occupants of land when; Absence of strong property registration systems property registration is not complete or where other types of ownership are recognized, In some countries both owners & occupants are taxed like in France. 12/31/2024 9  Cont’d… The best LPT design should be based on; – the specific local context created by the combination of; current property rights, land registration systems, property markets and administrative capacities. 12/31/2024 10 Frequency & Classes of Taxable land & Property LPT may be on one time or continuous source basis, One-time Revenue Sources; – Applied once when land use or possession changes – Are rare to occur in nature due to low frequency of transaction – Become important sources of local revenue if frequently occur a) Change in possession; Inheritance or estate tax Capital gains tax Transfer or stamp taxes 12/31/2024  Severance taxes 11  Cont’d… a) Land use change: Betterment levies Development fees Continuous/ongoing source of revenue: – Are predictable sources – Such tax rates are less than one-time tax sources – Can be applied to a much broader base/all properties – e.g. Annual land and property tax 12/31/2024 12  Major issues in determining LPT base; Location: Rural vs. Urban – Rural: Mainly agricultural, no infrastructure and services But, require roads, water, electricity.. Since the rural property management is not matured, use property attributes to determine the tax base. – Urban: Multi-use/function, Matured real property market So, the base should be determined 12/31/2024 13 based on market value  Cont’d… Land Use: Land use differences should be considered in defining the LPT base. – Commercial: – Industrial: – Residential: – Agricultural: – Recreational: 12/31/2024 14  Inheritance Tax What is taxable? – All land and property included in estates What is the basis for determining the tax or fee? – Value of land and property transferred as part of an inheritance or estate When is the tax or fee collected? – Once, following the death of the estate owner 12/31/2024 15  Capital gains Taxes What is taxable? – Real property when sold What is the basis for determining the tax or fee? – Value of real property sold, less the original purchase price (including the cost of any subsequent improvements) When is the tax or fee collected? – Once, as part of the income tax system 12/31/2024 16  Transfer Taxes What is taxable? – Any transfer of registered land title to another party What is the basis for determining the tax or fee? – Market value of the real property transferred When is the tax or fee collected? – At the time registered title is formally transferred 12/31/2024 17  Development Levies What is taxable? – Increment in real property value due to public investment or approved change in land use What is the basis for determining the tax or fee? – Land and improvement value after the change, less land and improvement value prior to the change When is the tax or fee collected? – Once, at the time of investment or when permission to change land use is granted. 12/31/2024 18  Severance taxes What is taxable? – Natural resources extracted from land What is the basis for determining the tax or fee? – Number of resource units extracted When is the tax or fee collected? – Due once, when extraction takes place – Payable periodically 12/31/2024 19  Annual LPT What is taxable? – Privately owned or controlled land and permanent improvements What is the basis for determining the tax or fee? – Market value of land and property OR – Physical characteristics of land and property When is the tax or fee collected? – Due annually – Payable either annually, monthly or quarterly 12/31/2024 20  Guiding Principles of LPT Policy Generate adequate, reasonably stable revenues Minimize compliance costs – Easy to know how much is due – Easy to pay Administrative efficiency – Generally 4% of tax collected or less Administratively sustainable Allocative efficiency (minimize distortions) Horizontal equity Vertical equity Shared responsibility between local and central authorities 12/31/2024 21  4. Determining Property Tax Rate: Determining the LPT Rate; two policy decisions are central in setting LPT rate: Will tax rates be set locally or centrally? – Local tax rate setting; Ensures local autonomy & accountability. – Centralized tax rate setting; Ensures uniformity & tax harmonization The best strategy is a mix of the two i.e. – Central authority establish the range of acceptable rates & – Local government select the final rate within that range. 12/31/2024 22  Cont’d… Will there be a single/multiple tax rates for d/t types of property? – Single tax rate is: Administratively preferred. Require less information & fewer opportunities for error. – If multiple rates are used: the number should be kept to a minimum. 12/31/2024 23  Cont’d… To set municipal tax rates; – Municipality first determines its expenditure requirements. – then subtracts non-property tax sources of revenue like; intergovernmental transfers, user fees, and other revenues to determine how much it has to raise from property taxes. The property tax requirements are divided by the taxable assessment base to determine the property tax rate. 12/31/2024 24  Cont’d… A series of rates can be used for d/t property classes; Variable tax rates can be used for d/t classes of property like; – Residential, – commercial, – Industrial and – Agricultural This help local governments to manage; – the distribution of the tax burden across d/t properties & – the size of the overall tax burden on taxpayers. 12/31/2024 25  Cont’d… Variable tax rates may be justified on a number of grounds: – On the basis of fairness based on benefits- received, benefits from local public services differ for d/t properties, taxing commercial properties at a higher rate than residential, – On efficiency (neutrality) grounds; heavier tax on tax base that are least elastic in supply, business properties should be taxed more lightly than residential property. But in reality, lower rates are applied to residential properties. 12/31/2024 26  Cont’d… Variable tax rates achieve certain land use objectives. higher property taxes tend to slow development and lower taxes speed up development, a municipal policy to develop some neighborhoods instead of others apply differential taxes in d/t locations as well as for d/t property classes. Finally, variable tax rates smooth the transition to a market-value system, Municipalities determine the tax rate & sent to the owner, This should be defined in the tax law, 12/31/2024 27 Procedures to be used in determining the tax rate: 1) Determining the cost (expenditures) to provide services to the residents, 2) Subtracting the known revenues from other sources; – (licenses, grants, and permits) the amount of money the municipality needs to raise through property taxes. 3) Calculating the tax rate by dividing the money needed by the total value of all assessed properties in the current year. – Thus, tax rate is the percentage of assessed value at which each property is taxed in a municipality. Tax rate = Revenue Requirement(Demanded) Assessment base 12/31/2024 28  Cont’d… In Ethiopian, property tax rate & rent for leased land rights are fixed and largely area-based, It hinder the ability of municipalities to generate revenues by capturing land value increases, Should be shifted to a value-based system to determine the modern property tax rate based on the assessed ratable value of leasehold rights and private buildings and the fiscal needs of each municipality. The proposed formula is as follows: Estimated Annual Expenditures - (Intergov’tal Transfers + Other tax/nontax Revenues ) Property Tax Rate = Total Assessed Value of All Taxable Leasehold Rights & Buildings 12/31/2024 29  Cont’d… Using this formula, the property tax rate will be determined by the following factors: – the estimated annual expenditures for the municipality; – the amount of fund received from higher levels of government; – the amount of fund generated from other tax or nontax revenue sources; – the property tax base; and – The valuation of the tax base. 12/31/2024 30  Cont’d… to maintain a balanced budget and a fixed tax base, the municipality should; – Raise the property tax rate if intergovernmental transfers and other revenue sources are not expected to increase. – Request for an increase in intergovernmental transfers or other taxes if taxpayers may oppose a rise in property tax rate. – Adjust the valuation of the tax base upward if none of the other variables could be altered. – Do all of the above with only a small 12/31/2024 31  Cont’d… Choice of options will depend on their adjustments based on the specific; – economic, – social, and – political contexts in d/t cities and town administrations. To modernize property taxes in Ethiopia; – establish the array of tax rates for land use tax b/n 0.4 and 2.5% of the capital value of land and – building tax b/n 5-15% of the annual rental value of a building. 12/31/2024 32  Cont’d… Then, apply the tax rate to each individual property assessment using the following formula: Taxes payable = Property assessment * Tax rate. the assessed value of the property in Birr is multiplied by the tax rate set by law, tax rate set by the municipality/city administration also depends on; – the assessment base and – the amount of revenue it needs to generate using the property tax. If assessment base increases & the tax rate remains the same, more tax amount will be collected compared to the previous year. to collect the same amount revenue, the city administration can reduce its tax rate to reflect the 12/31/2024 33  Cont’d… A municipality may adjust its tax rate on a yearly basis on its revenue requirement. Example: Assume on February 2, 2007E.C. Mekelle City Administration Assessment Office determined that the total assessed property in the city amount to Birr 500,000,000 and net revenue required after deduction of revenues to be collected from grant is found Br 5,000,000. Therefore, the tax rate to be applied in the coming fiscal year is computed as follows: Tax rate = Revenue requirement = 5,000,000 = 0.01=1% Assessment Base 500,000,000 12/31/2024 34  Cont’d… Assume further that the property assessed in the city as shown in the assessment roll and sent to the owner is estimated at Br 450,000. Then the tax bill for the home assessed will be calculated as indicated here under: Taxes payable = Property assessment * tax rate = Br 450,000 x0.01=Br 4500 This implies that the owner of the home assessed at Br 450,000 in the city will receive a property tax bill of Br 4,500 to be paid in the year 2008 E.C. 12/31/2024 35  Cont’d… The revenue generated by the LPT will depend on; two policy variables & 3 administrative factors: 1. The value of LPT base as legally defined (Base) 2. LPT rate as set by law and policy (Rate) 3. proportion of all land that should legally appear on the tax rolls that actually included in the fiscal cadaster (Coverage) 4. proportion of taxable value that is identified by the valuation process (Valuation) 5. proportion of the tax levied that is actually collected (Collection)  Revenue = Base X Rate X Coverage X Valuation X Collection 12/31/2024 36  Cont’d… This relationship is known as the revenue identity because it identifies the amount of revenue that will actually be collected. Example; R =Base X 1% (rate) Percent of land included on tax rolls= 80% Valuation ratio = 90% Collection ratio = 85% Then the revenue collected will be 0.8 X 0.9 X 0.85 = 0.612 or 61% of what it should be. 12/31/2024 37  Cont’d… Defining the tax base and setting the tax rate are policy decisions. Managing the coverage, valuation and collection processes are administrative factors. Designing an effective LPT will require that careful attention for both the policy and administrative issues of the 5 elements of the revenue identity; – Defining the tax base – setting the tax rate – Managing the coverage, valuation and collection processes 12/31/2024 38  Revising the Property Tax Rate in Ethiopia Property assessment & tax rate must be revised as stated in the framework. But, difficult to make the revision annually, Its done once in 10 years as the works are wide in scope and require; – Conduction of market study, – Gathering of city wise information, – Identifying unique properties to set specific & separate tax rate. So, municipalities should have system of information related to new construction and any improvements to the existing construction. 12/31/2024 39  Adoption, Communication & Review of Tax Rating The framework also stated that, the annual schedule of tax rating of a local urban government should be adopted by its council, The annual tax rating schedule should consider; a) the annual/Rental market value of landed properties assessed in the valuation roll applicable to the concerned urban area; b) total amount of tax exemptions c) Component factors of Property tax calculation and other related matters specified the law. d) the categories of tax, urban area, and building, grade of land and land use specified the property tax proclamation to which the categorical tax assessment applies; e) minimum & maximum ranges of tax rating set by this proclamation; f) Other tax rating requirements set by regional legislation with a view to avoiding unfair competition among urban areas and facilitating macro-economic stability. 12/31/2024 40  Ethiopian Civil Service University Institute of Urban Development Studies End of Session Thank You !!! 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