• It's Here!

    Etf Pro

    Get the big financial market moves right, bullish or bearish with Hedgeye’s ETF Pro.

  • It's Coming...

    MARKET EDGES

    Identify global risks and opportunities with essential macro intel using Hedgeye’s Market Edges.

Despite the catastrophic collapse of the real estate bubble and housing prices, property tax revenue collected by states and localities is still on the rise - up 2.7% in 2009. This is a disconnect from the reality of the current state of the U.S. housing market, which is a direct result of most State and local governments marking their property tax collection schemes to model.

In the most recent economic downturn, receipts to State and local governments have largely gone south, declining (-10.9%), (-16.4%), and (-11.6%) in the last three quarters alone, according to the National Association of State Budget Officers.  As to be expected with a 9.7% unemployment rate, data from the Bureau of Economic Analysis shows that in 2009, income and sales tax receipts have posted the largest annual declines on record (-19% and -4.8%, respectively). In fact, of all the major State and local government tax categories, only receipts from corporate income and property taxes grew in 2009.

Government’s Marking to Model . . . - 1

Furthermore, BEA statistics show that property taxes have been a great source of income for struggling local governments, which collect over 96% of all property taxes. With property included, receipts to State and local governments declined  5.5% in 2009. Without property taxes, however, receipts declined 9.1% in 2009.

So with everything we know about depressed home prices, how can it be that property tax receipts are actually still on the rise?

The answer is easy - most State and local governments notoriously mark their property tax collection processes to model. That is, property taxes are often based on rather outdated appraisal values that consistently lag fair market values throughout most States. On average, as determined by Federal Reserve economist Byron Lutz, it takes three years for changes in the market value of homes to get reflected in an owner's property tax bill. So most State and local governments are raking in property tax receipts based on home values appraised in 2006 - the peak of the housing bubble.

So one would think that the consumer finally gets thrown a bone in the form a property taxes finally starting to roll over and catch up to the sunken home values across the country.

Not so fast, my friend.

In classic marked-to-model form, some State and local governments have raised property tax rates to offset declining home prices. Others have adjusted tax rates to keep property tax revenue stable, regardless of what happens to prices on the real estate market. Even more appalling, some State and local governments have actually raised property taxes to deal with budget shortfalls.  All told, the budget shortfall facing State and local governments in the next three fiscal years is $136.1 billion, according to NASBO.

In a twisted way, with property tax appeals well above historic means in most municipalities, it sounds insignificant to suggest that many State and local governments across the country have each planned to spend well over a hundred million dollars on property tax appeals in the next fiscal year. That's right - millions of Americans across the country are appealing their property taxes, citing home values well below the last State-appraised values the taxes are being based upon. Twenty to forty percent of appeals are granted. If the average holds, the lifeline that property taxes have been to flailing State and local government budgets will be eroded on the margin.

Perhaps that is why 41 states are behind their fiscal 2010 revenue projections (NASBO). Six were on target as of February 20th; a paltry three were ahead of schedule (NASBO). Moreover, NASBO studies suggest States are projecting a further decline of over 1.4% in tax collections for fiscal 2010. Thinned-out receipts have left States’ Rainy Day funds at 4.8% of expenditures - the lowest ratio since 2004 (NASBO). Back out the ultra-conservative Texas and Alaska, and that ratio is only 2.7% - the lowest since 1992 (NASBO)!

It neither sustainable for State and local governments to raise taxes based on marked-to-model housing prices, nor is it sustainable for homeowners to continue to a growing percentage of the tax burned.  Yet another reason to be concerned about the Domestic PIIGS, and the outlook for municipal bonds.

Darius Dale

Analyst