How does a tax increase affect property values?

 

The reason is quite simple.  Higher taxes means home buyers have less money available to pay their mortgage.  Fewer dollars chasing the same amount of property means prices fall.  How does this work?

Example: The Smith Family

Consider an example of a house on the market for $275,000.  The Smith family, looking to buy this home seeks a loan from various lenders.  They have $25,000 for a down payment, and are thus seeking a $250,000 loan under a conventional 30-year mortgage.

Bankers and other potential lenders review the financial situation of the Smiths.  Considering income, debts, and other financial factors, they believe the Smiths can afford a “Home Payment” of $2,210/mo and no more.  The bank calculates the “Home Payment” in the tables below:

Expenses	Before Tax Hike	After Tax Hike
Mortgage	$1,580.17	$1,580.17
PMI	$104.17	$104.17
Insurance	$50.00	$50.00
Prop. Tax	$469.44	$509.17
Total	$2,203.78	$2,243.51

Figure 1 - Total Home Payment before and after 55-cent ed-fund referendum. (6.5% loan)

In this example, the property tax increase raised the required monthly payment by almost $40.  The Smiths, who were able to afford a $275,000 house before the referendum, can no longer afford the house.

This example may seem a bit tight with the money, but it illustrates the basic effect of a property tax increase.  All potential buyers whose maximum “Home Payment” falls between $2,203.78 and $2,243.51 have been excluded as potential buyers for this $275,000 house simply because of the tax increase.

This effect does not even account for the buyer’s sense of value.  Even if the bank remains willing to extend a loan to the Smiths, the Smiths may be unwilling to incur the additional burden.  Both borrower and lender must consider the financial terms acceptable.  The “Home Payment” table only considers the lender’s point of view.

How much will this affect property values?

Like any market, there are many subjective factors that come into play in determining a home’s value.  Nevertheless, it is possible to get a good idea of the effect of reduced buying power by calculating the house price which would restore the same pool of potential buyers.

For example, if a tax increase raises the monthly payment by $40, we can subtract $40 from the mortgage payment so the total monthly payment remains unchanged.  This keeps the same group of buyers on the market for a price-reduced house.  The table below shows the target house prices after the 55-cent ed-fund referendum and both referenda.

	Tax	Mortgage	Value
Same	$469.44	$1,580.17	$275,000
+$0.55	$509.17	$1,540.45	$268,716
+$1.02	$543.11	$1,506.50	$263,345

Figure 2 - Reduced home values after ed-fund and ed-fund+building fund referenda

If both referenda pass, the owners of a $275,000 may have to reduce their asking price by over $11,000 to maintain the previous number of potential buyers.

“But more money means better schools!”

You’ll hear this myth from every corner of the education establishment, an establishment with every incentive to increase education spending.  Hardly an unbiased source.  So what do the experts think?