Money for schools

Two commonly used measures of personal prosperity are income and wealth. Income is annual earnings, for most people, from their job or business. Wealth is the value of assets owned by people, such as the value of property, stocks and other financial investments. People are generally happy when their income or wealth rises.

Taxes can be applied to either income or wealth. Most taxes are income-based, like the income tax, or applied to that part of income that is spent. An example of a wealth tax is the capital gains tax on investment gains.

A unique wealth tax is the property tax, particularly that part levied on real estate. In North Carolina, revenues from the property tax are a major source of local government financing.

For most, an owner's property taxes will be paid from that owner's annual income. So I pay the property taxes levied on my home from my work income earned during the year.

So far, so good. But what if, over time, property values and incomes don't change at the same pace?

In particular, what if property values rise substantially faster than incomes? On the one hand, property owners will be happy because their wealth has increased. But they'll have a more difficult time affording the tax on this wealth from their slower-growing income.

With the recent real estate boom, this is exactly what has happened. I calculated that in Wake County during the last seven years, average residential property values have increased twice as fast as per capita income (35 percent vs. 17 percent). This means that next year, with the first property revaluations since 2000, Wake property owners will need a larger share of their income for property tax payments, unless the tax rate is lowered.

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There's more to the story, however. What if some kinds of public expenditures are more directly tied to wealth (here, property values) than to income? Then you have a situation of owners being asked to pay a greater share of their income just to keep the public service running at current levels.

One type of expenditure that fits this pattern is school construction. The costs of land and material inputs in school construction are directly tied to local property values, instead of to local incomes. So as local property values have outstripped gains in local income, so too have costs of building schools.

Notice, however, this does imply that property tax revenues, if applied to current property values and using the current tax rate, should support school construction plans. Indeed, I've estimated that applying the current countywide property tax rate to a 35 percent increase in average property values in Wake County since 2000 would provide sufficient revenue for even the most expensive ($2 billion) of the current school bond proposals.

Yet we're still back at square one because many property owners will resist a tax increase that far exceeds their income growth. So what are the alternatives? There are several, which can be grouped on the cost side and the revenue side.

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Cost-side proposals include economizing on construction so as to reduce the total bond package and limit the increase in property tax payments. These include building more modest schools with fewer amenities, leasing existing space and using existing space more intensively with year-round or split session programs. Leasing is particularly interesting because rents have risen much slower than building costs. Of course, such options must always be evaluated for their impacts on student performance.

Three revenue options deserve attention. One is a local capital gains tax on property. Unlike a land transfer tax, the capital gains tax would be levied only on the increase in value between the owner's purchase and sale. In essence, it allows a property tax to be paid out of the change in wealth rather than from income.

Another option is to move property values up annually, rather than once every seven years, thereby allowing more of the increased value to be taxed earlier and be available for public purposes. An added benefit is that owners could more easily adjust budgets to more frequent, yet much smaller, increases in property tax bills.

A third option is to move away from wealth taxation to other forms of income taxation, such as higher local sales taxes for school construction. Yet this doesn't solve the potential problem of construction costs rising faster than incomes.

Wake County is not in a unique situation with school construction costs, but maybe we can find unique solutions. Step one, though, is understanding the issue.