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District Tax Comparisons

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District Tax Comparisons

A key question facing the District is, how much revenue can the government raise to support its expenditure needs. In theory, it can raise whatever amount it needs by simply increasing tax rates, but in practice there is a point beyond which raising tax rates is impossible for political and economic reasons. How do we determine where that point is and whether the right mix of taxes is being used? One possibility is to compare the District's taxes to those in neighboring jurisdictions, other major cities, or other states. Such comparisons have been made in a variety of ways as described below.

Revenue Mix

The District relies on revenues from taxes, charges and miscellaneous revenues, and federal aid. To consider whether the District relies unduly on some types of revenue sources it is helpful to compare the District's use of revenue sources to those used by other governments. Because the District uses both state and local revenue sources, the District's revenue mix must be compared to combined state and local revenues.

The most significant difference in the District's revenue mix is its heavy reliance on federal payments and grants. The District receives about 39 percent of its total general revenues from the federal government, or almost double the national average of 20 percent (see Table 1). This difference is the result of the federal payment received because of the unique District status, and because of the high expenditures for federal matching grant entitlement programs, such as Medicaid.

When only tax mix is examined, the District's mix is similar to the national average, but with a somewhat greater proportion of revenue received from property taxes and a smaller percent from the sales tax. On a regional basis, the District's sales taxes are much more similar to Maryland and Virginia than to the national average. However, Maryland relies on the personal income tax to a much greater extent than does the District.

When percent of revenues from charges and miscellaneous sources are compared, the District is very low, both nationally and in comparison to neighboring states. The District gets only 11 percent of its revenues from own-source non-tax revenues compared to 24 percent nationally for all state and local governments. Non-tax local revenues primarily consist of charges, fees, rents, interest, and fines.

Overall, the District revenue mix shows a reasonably balanced use of the major taxes, a high dependence on federal aid, and a low utilization of charges and other non-tax revenues. The Commission will receive a study outlining the reasons for the low use of non-tax local revenues at its September meeting, together with options for increasing them.

Relative Size of Tax Bases

Property taxes are used primarily by local governments. Therefore, it is appropriate to compare the District's taxable property values to those of other local governments. In making such comparisons differences in assessed values to actual values must be adjusted, so that the values compared are on the same basis. Adjusting assessment differences between jurisdictions cannot be done with complete accuracy and there is no national compilation of taxable values, but reasonably accurate estimates can be made for selected local governments.

When the District is compared to other central cities, its taxable assessed value per capita is well in excess of Baltimore, Philadelphia, Chicago, and Detroit (see Table 2). It is not possible from available data to determine whether the higher values are in the residential or the commercial sectors. When compared to neighboring suburban jurisdictions, the District's values are slightly less or about comparable to the others, except for Prince George's County which it exceeds by a wide margin.

Sales tax base comparisons are difficult because there is no information that directly measures the base to which sales tax rates apply. Each government has its own unique coverage and exemptions that make each base different. In the Washington area, for example, Virginia taxes all food, while the District and Maryland exempt food purchased for home consumption. A recent national comparison of sales tax bases uses the yield from a 1 percent sales tax applied to the state's tax base as the state defines it. On this basis, the District has the third highest yield compared to all states and was exceeded only by Hawaii with its high sales to tourists and New Mexico with a very broad and inclusive base (see Table 3). This high District yield is undoubtedly the result of a base that is heavily weighted by parking, hotel, and restaurant sales, and by tourist purchases.

Personal income tax bases can be compared in either the aggregate or by income classes. The aggregate federal adjusted gross income, as reported on District, Maryland, and Virginia tax returns, was almost identical for the 1994 tax year when compared on either a per capita or per filer basis (see Table 4). However, when the adjusted gross income is compared by the income classes of the tax filers, differences in the bases are apparent. The percentage of all taxpayers filing returns with adjusted gross income over $100,000 is an almost identical 5 percent in the District, Maryland, and Virginia, but the amount of income reported by these taxpayers is 31 percent in the District compared to about 25 percent in Maryland and Virginia (see Table 5). In contrast, the District has far fewer filers and income reported in the $50,000 to $100,000 class, but more filers and income in the under $25,000 income class.

Comparisons using reported income for tax purposes do not necessarily reflect the true income bases of the jurisdictions because they include only those residents who file tax returns and do not include income that is excluded from federal adjusted gross income, such as interest on tax-exempt bonds. Because per capita personal income is unrelated to tax filings, it provides a better measure of the underlying personal income base in jurisdictions. The District's per capita personal income of $33,452 in 1995 was much higher than the national average of $23,208 and that of Maryland ($26,333) and Virginia ($23,974) or any state (Connecticut was the highest state at $31,776).

Why there is such a wide difference between personal income and adjusted gross income comparisons will be examined in the personal income tax study to be reported at the Commission meeting in September.

Tax Rates

Individual and business tax liabilities are calculated by applying statutory tax rates to tax bases and deducting any credits that are applicable. As a result, apparently similar tax rates may be very different in their effects on taxpayers when differences in the way the tax bases are defined and credits are given are taken into account. Therefore, tax rate comparisons between jurisdictions must adjust the stated or nominal rates to effective rates to provide meaningful comparisons of how the rates actually affect taxpayers' liabilities.

Property tax rate comparisons must take into account differences in assessment ratios as well as tax credits, such as homestead exemptions, to provide an accurate measure of the differences. Because there is no routinely reported national data that provides information on assessment ratios and credits, good comparisons of rates are done infrequently. The most recent and best study available is a 1996 Minnesota study. It provides a comprehensive national comparison of rates that are adjusted for both assessments and credits. The report compares tax rates calculated as a percent of actual property value for the District and a large central city in each state. The rates are compared for owner occupied homes valued at $70,000 and $150,000, and for commercial, industrial, and apartment properties.

This study reported that the District's residential owner occupied rate was 48th lowest in the country at .46 percent and .56 percent on the two different valued house sizes. The commercial rate at 2.315 percent was 26th highest and the apartment rate at 1.593 percent was 28th highest (see Appendix Table 1). [Appendix Tables are not available on-line]

The Minnesota study also identified states where the property tax rate for residential homesteads is lower than for commercial properties. Of the 34 states where this occurs, the District has the 4th largest difference, with its commercial rate estimated at 3.989 times its commercial rate (see Table 6).

These comparisons suggest that, while the commercial and apartment rates are not excessively high on a national basis, they are quite high in comparison to residential rates in the city.

Income tax rate comparisons often compare only the top marginal rates. The District's maximum rate of 9.5 percent on net taxable income in excess of $20,000 compares to a combined state and local Maryland maximum rate of 8 percent on taxable income over $3,000 and Virginia's top rate of 5.75 percent on taxable income over $17,000. Because of the different taxable income thresholds and because of other differences in standard deductions and personal exemptions, the effective rates will vary in their application to different income levels. In Maryland for example, the effective rate for lower income taxpayers is higher than the rate for District taxpayers. Because of these problems comparisons of income tax rates will be discussed in more detail when the study of the personal income tax is presented to the Commission.

Sales tax rate comparisons are also complex because of differences in the tax base. For example, Virginia taxes all food purchases, while the District and Maryland do not tax food for home consumption. This means that although the general sales tax rate in Virginia is a maximum of 4.5 percent, the effective tax rate paid by some residents may be higher than the 5.75 district rate and the 5 percent Maryland rate, depending on how much food a family buys. Sales tax rate comparisons will be examined in greater detail at the time the sales tax study is presented to the Commission.

Comparisons of Tax Burdens on Typical Families or Businesses

Tax burden comparisons calculate the tax paid by a "typical" resident or business. In the resident comparisons, assumptions are made about the levels and relationships of various income, family, and wealth characteristics. Similar appropriate assumptions are made about businesses. The taxes that the resident or business would pay in different jurisdictions can then be calculated based on those characteristics.

The District government annually compares its tax burdens on typical taxpayers in four different income groups to tax burdens in the suburbs and to the largest city in each state. In the 1996 national comparison, the District ranked 18th highest for a family of four with a $25,000 income, 15th at the $50,000 level, 14th at the $75,000 level, and 12th at the $100,000 level. For each income level, Baltimore had a higher burden, but the Virginia city of Virginia Beach was higher only for the $25,000 family.

The comparison of the District to the six major local governments in the Washington area, placed it 6th highest at the $25,000 level, 4th at the $50,000 level, 3rd at the $75,000 level, and 1st for the $100,000 level. However, the local burden study reflects relatively competitive burdens across the area with only small differences between the highest and lowest burdens at each income level. The differences are $303 at $25,000, $681 at $50,000, $571 at $75,000, and $993 at the $100,000 level. At the $100,000 level the District is $451 higher than the second highest jurisdiction (Prince George's County).

Coopers and Lybrand analyzed 1996 tax effects on five hypothetical business firms in different types of businesses and compared the District results to those of selected other governments. The state and local taxes used in the calculations were: corporate income and income-based franchise, sales, business personal property, real property, and other major taxes. The analysis did not consider the effects of these taxes on the federal tax liability.

This study found that the District had the highest liabilities of any of the 19 jurisdictions compared in the Washington area. The principal cause was the District's property tax rate on businesses. The same study also compares the District with 12 major jurisdictions outside the Washington area. This comparison placed the District's liability 6th highest for each type of firm, except for a biotechnology firm where the District was 4th highest.

Representative Tax Capacity and Tax Effort

The U.S. Advisory Commission on Intergovernmental Relations developed the Representative Tax System in 1962. This system provides a yardstick for comparing the relative tax capacity of states and determines how much tax effort is expended by each state relative to its capacity. The analysis combines all state and local revenues in the state for the calculations. In this system, fiscal capacity is defined as the relative per capita amounts of revenue states would raise if they used national average tax rates applied to 27 commonly used tax bases. The tax rates are applied to the base in each state regardless of whether that tax is actually used, so that the capacity reflects the potential tax raising ability. Capacities, using this system, will vary solely because of differing tax base levels, such as property values or retail sales. Effort is defined as the ratio of actual revenues received by a state relative to its estimated capacity.

To make comparisons easier, the capacity results are indexed to a national average capacity. The effort measure is indexed to each state's capacity. The most recent report of capacity and effort was based on 1991 tax data. Similar analyses made in selected prior years permit a view of how capacity and effort have changed over time.

The District's capacity index was 123 in 1991, or 23 percent above the national average of states (see Appendix Table 2). It was seventh highest among states and exceeded Maryland's index of 106 and Virginia's 103. The District's capacity has shown little change since 1984 when it was 120.

The District's effort index was 157 in 1991, the highest of any state and slightly ahead of New York's 156 (see Appendix Table 3). Maryland's effort was slightly above average at 103, while Virginia's was below average at 91. In 1984, the District's effort index was 139.

Per Capita Comparisons

A national comparison of per capita state and local taxes was done by the Federation of Tax Administrators using 1993 data. Although these comparisons are somewhat out-of-date, the relative stability of most state tax systems probably make them reasonably accurate at present. The District ranked 2nd in all tax revenue per capita at $4,392, compared to Maryland at $2,565, and Virginia at $2,073 (see Appendix Table 4).

These comparisons show the District with very high taxes using this measure. However, there are several problems in interpreting the results of per capita comparisons.

First, it may mean that taxes on residents and businesses in the District are more burdensome than those imposed by other governments, but the comparison may also mean that tax bases in the District are more productive than other jurisdictions. As a result, the same comparison may be interpreted as either favorable or unfavorable. If the rate and the base to which the rate is applied are identical, then the additional per capita revenue may come from a richer tax base or from exporting the tax to nonresidents. In the case of sales tax, for example, it may mean that tourists are paying the extra tax on their purchases. On the other hand, if the rate is higher or the base is broader in the District, the additional yield may merely reflect higher taxes on residents.

Second, the nature of populations are different between jurisdictions. States with larger families containing non-taxpaying children would show lower taxes per capita than the District with its large proportion of singles and childless couples.

Third, per capita comparisons assume only the resident population is paying the tax. This is clearly not the case in terms of taxes which are paid by businesses and nonresidents. Therefore, per capita taxes may not accurately describe the tax burden on District resident taxpayers.

Fourth, the population of jurisdictions is accurately determined only in the decennial censuses. However, acknowledged undercounts in census years in central cities, such as the District, make the total population numbers questionable. Even relatively small population differences can make substantial changes in per capita comparisons.

Personal Income Comparisons

Jurisdictions can also be compared by calculating the percent of personal income needed to pay state and local taxes. The concept is that because taxes are ultimately paid from income, this is a good measure of tax burden. The 1993 national comparisons by this measure shows the District taxes taking 15.5 percent of personal income, second highest among states. The 15.5 percent compares with Maryland at 11.1 percent, and Virginia at 10.0 percent (see Appendix Table 4).

While using personal income as a measure overcomes the problems of population size and composition found in per capita comparisons, it presents other problems. Comparisons to personal income do not reflect taxes paid by businesses and tourists. Although all taxes are ultimately paid from somebody's income, most business and tourist taxes are not paid from the income of District residents.

Also, there are three principal components of personal income: wages and other earnings; unearned income, such as interest and dividends; and transfer payments, such as Social Security, welfare, and retirement payments. The composition of personal income and the relation of taxes to it varies between jurisdictions. A tax taking the same percent of personal income in a jurisdiction with a high proportion of unearned income may be much less of a burden than the same tax in a jurisdiction with personal income received primarily from transfer payments.

Interrelationships With Federal Taxes

The effects of the interaction of the federal tax system with state and local taxes needs to be considered when making tax comparisons. State and local property and income taxes can be deducted from taxable income on federal returns when taxpayers itemize deductions. State and local sales taxes cannot be deducted and no taxes are deductible from federal taxable income when a standard deduction is used.

This federal deduction can mean very different results for comparisons of tax burdens on different taxpayers. A taxpayer in the 31 percent marginal rate bracket can effectively reduce property and income tax burdens by 31 percent by itemizing. In contrast, a taxpayer in the 15 percent bracket would get only a 15 percent reduction or no reduction if not itemizing.

Total tax burden comparisons between jurisdictions can also be altered. A jurisdiction that relies heavily on sales taxes that are not deductible will impose a higher burden on its residents than a government with apparently comparable tax burdens that relies more heavily on income and property taxes.

A profitable business will have the burden of state and local taxes reduced because these taxes are a deductible expense that reduces the federal corporate profits tax. In contrast, an unprofitable business will not receive any reduction in federal taxes.

Conclusions

It is apparent that no matter how hard we try to compare taxes between jurisdictions, they are not going to give any final answers about how District tax levels affect the city's economy. At best, they provide a view of the tax differences between jurisdictions from several different perspectives, and permit the following somewhat conflicting possible conclusions.

The District has:

  • Taxes that are second highest in the country among states on a per capita or percent of income comparison.
  • A high tax capacity and an above average tax effort compared to states.
  • Tax burdens on residents that are among the top third of states, but are generally comparable to those of other Washington area jurisdictions.
  • Commercial property tax burdens about in the middle in national comparisons, but higher than all Washington area jurisdictions.
  • An owner occupied residential property tax rate among the lowest in the country.
  • Commercial and apartment property tax rates about average nationally, but with a very large difference between the residential and commercial rates.
  • A large property tax base compared to other large cities, but about comparable to area jurisdictions.
  • A high sales tax base compared to other states, using each states' definition of its base.
  • An income tax base almost identical to Maryland and Virginia in aggregate, but a per capita personal income that is the highest among states and much higher than the national average.
  • A tax mix typical of states, but relying more heavily on federal aid and less heavily on non-tax local revenues.

Additional statistical analysis based on econometric research will explore how taxes affect location decisions of residents and firms in the Washington area. This work is a part of the economic study now underway. The resulting information about the effects of taxes on the economy, together with the tax comparisons contained in this report, should help the Commission in its formulation of final recommendations about the District's tax structure and tax rates.


Table 1
1993 Mix of District Revenues
Compared to the U.S., Maryland, and Virginia

U.S. District Maryland Virginia
Taxes 56.2% 50.4% 63.7% 58.8%
Non-Tax Revenues 24.3 10.9 20.2 26.9
Federal Aid 19.6 38.6 16.1 14.3




100.0 100.0 100.0 100.0

1993 Mix of District Taxes and Non-Tax Revenues
Compared to the U.S., Maryland, and Virginia

Taxes: U.S. District Maryland Virginia
Property 33.3% 40.7% 29.3% 32.9%
General Sales 24.3 16.5 13.9 17.0
Special Sales 12.4 10.2 12.7 14.6
Income 21.6 23.7 37.5 27.7
Corporate 4.6 5.7 2.1 2.8
Other 3.7 3.3 4.6 5.0

Non-Tax Revenues:
Charges 18.1% 8.3% 13.9% 20.1%
Miscellaneous 4.7 3.9 3.5 3.8
Interest 6.2 3.4 4.5 5.4
Lottery 1.3 2.2 2.3 2.0




100.0 100.0 100.0 100.0

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Table 2
Comparative Tax Base
Per Capita Real Property Tax, 1996
Adjusted for Assessment Ratios to Full Value

District $80,986
Chicago 1993 33,847
Philadelphia 1995 19,344
Baltimore 27,894
Detroit 12,426
Fairfax County 77,464
Montgomery County 83,111
Alexandria 96,246
Arlington 104,077
Prince George's 46,364
Source: Annual Financial Reports.

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Table 3
An Interstate Comparison of Sales Tax Bases, 1994
Per Capita Per Capita
Sales Tax Sales Tax
Revenue per Revenue per
State 1% Tax Rate ($) State 1% Tax Rate ($)

Hawaii 269.12 Wisconsin 95.55
New Mexico 153.25 Virginia 95.00
District of Columbia 144.23 North Dakota 92.97
South Dakota 128.70 South Carolina 92.01
Nevada 125.11 Nebraska 91.59
Arizona 120.90 North Carolina 91.04
Washington 120.06 Indiana 90.45
Florida 119.96 California 89.47
Georgia 119.45 Maryland 88.72
Michigan 113.78 Mississippi 84.94
Connecticut 111.14 New York 84.17
Arkansas 109.79 Maine 82.92
Louisiana 109.43 Kentucky 80.81
Wyoming 107.44 Ohio 80.70
Minnesota 103.96 New Jersey 79.68
Kansas 103.65 Illinois 79.60
Utah 103.18 Alabama 79.42
Colorado 102.60 Massachusetts 76.25
Texas 101.94 Vermont 76.10
Tennessee 99.23 Oklahoma 74.79
Missouri 98.48 Pennsylvania 71.00
Iowa 98.17 West Virginia 69.21
Idaho 96.05 Rhode Island 59.17
Source: John Mikesell in National Tax Journal, Volume L No. 1, March 1997, p. 153.

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Table 4
Summary of Comparative Income Tax Bases
in the Washington Area
1994 Tax Year

Tax Filers

District Maryland Virginia
Average AGI Per Capita $16,095 $15,921 $15,058
Average AGI Per Taxpayer 35,607 35,999 35,703

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Table 5
Summary of Comparative Income Tax Bases
Washington Area, 1994 Tax Year
Percent by Adjusted Gross Income Class

Tax Filers AGI


District Maryland Virginia District Maryland Virginia
25,000 or Less 57.9% 51.1% 52.8% 19.6% 15.1% 16.6%
25,000 to 50,000 25.6 25.8 25.4 26.1 25.8 25.6
50,000 to 100,000 11.5 18.2 16.9 22.8 34.5 32.2
Over 100,000 5.0 4.9 4.9 31.4 24.6 25.6

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Table 6
A Measure of Property Classification
Ratio of Commercial Effective Tax Rate
Divided by Owner Occupied Residential
Effective Tax Rate, 1995

State Ratio Rank
Louisiana 21.505 1
New York 5.719 2
Hawaii 5.430 3
Minnesota 4.661 4
District of Columbia 3.989 5
Arizona 3.829 6
Illinois 3.279 7
Massachusetts 3.078 8
Colorado 2.777 9
Alabama 2.678 10
Kansas 2.379 11
West Virginia 2.171 12
Missouri 2.132 13
Utah 2.058 14
New Jersey 2.011 15
Mississippi 1.909 16
Rhode Island 1.808 17
Iowa 1.636 18
Tennessee 1.600 19
Idaho 1.592 20
Florida 1.585 21
Pennsylvania 1.559 22
South Carolina 1.478 23
Michigan 1.331 24
Indiana 1.325 25
New Mexico 1.204 26
Vermont 1.200 27
Ohio 1.192 28
Oklahoma 1.150 29
North Dakota 1.136 30
Georgia 1.081 31
Texas 1.038 32
Nebraska 1.020 33
Virginia 1.004 34
The states that are not shown do not tax commercial property at a higher rate than homesteads.
Source: Minnesota Taxpayers Association, 50-State Property Tax Comparison Study, June 1996.

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