Tax shifting in Maine is not tax relief

Property taxes are high in Maine. On this, there is no dispute. We would all prefer lower property taxes – if everything else were the same. But, of course, all else cannot remain the same if property taxes are reduced.

We certainly are not reminded of this in the recent advertising campaign promoting Question 1A in the upcoming state referendum, The School Finance and Tax Reform Act of 2003. The ads clearly present only one side of the coin. Intelligent debate about the issue, however, clearly require considering the full consequences of shifting the control of our more of our tax dollars from the State government to local governments.

The ads in favor of Question 1A promise a 15 percent reduction in property taxes. This claim is based on the premise that municipal governments would pass along all of their additional funding to residents through lower property taxes. But there is no provision in the referendum to require any property tax relief. In fact, the legal wording in the Act explicitly states that “the State’s school administrative units and municipalities are entitled to the appropriations.” There is also a long paragraph (the longest one in the Act) written to prevent the legislature from reducing any other type of State funding to municipal governments.

Needless to say, government institutions are not particularly well-known for voluntarily returning funding. Moreover, even the best-intentioned governments would find it difficult to immediately pass the additional revenues on to taxpayers. They would have to calculate their schools’ cut of the new funding, forego spending newly freed revenue on other town needs, and recalculate their mill rate. Any reductions in local property taxes would lag behind increases in our sales and income taxes. In the interim, municipal budgets will swell.

Although local governments might not pass on all of their new revenue to residents, some property taxes would certainly fall. But who would benefit? Property taxes are proportional to property value, thus large property owners would benefit the most. Those who own no property or inexpensive properties would see minimal benefits.

Municipal governments and wealthy property owners would enjoy the largest financial gains from passage of Question 1A. Who would fund these gains? The adverting in support of Question 1A suggests that “they,” meaning the legislature, would pay. Proponents of the referendum have repeatedly called on “them” to honor “their” obligation to pay a larger percentage of education costs. The real “them”, though, would be Maine taxpayers. Because of the recent cuts in State spending in response to the massive State budget gap, there is essentially no more room to cut State spending. The legislature would have to increase taxes to raise the estimated $246 million.

Which taxes would the legislature increase? The two primary sources of State revenue are income and sales taxes. Most likely, a sharp increase in the need for State revenue would be met through an increase in the sales tax. This happened when Maine faced a different fiscal crisis in 1991 – the sales tax was increased by a percentage point to 6 percent from 1991-1998, before being reduced first to 5.5 percent, and then back to 5 percent in 2001.

Replacing property tax revenue with revenue from sales and incomes taxes would significantly restructure Maine’s tax system. Sales taxes are regressive; low-income households spend a relatively larger proportion of their income on taxable items then high-income households. Maine’s income tax structure is not very progressive; relative to other states, Maine residents hit the top tax rate at a fairly low income level. Replacing a progressive property tax with a regressive sales tax and a less-progressive income tax would create a considerably less progressive overall tax structure. The less affluent would pay a larger share of state and local taxes.

Of course, it is possible that if the State government were forced to raise taxes it would simultaneously reform the structure of state income and sales taxes to make them more progressive. But, again, there is nothing in Question 1A to ensure that this would happen. We would have to simply rely on the wisdom and benevolence of “them” (the same ones who have repeatedly “broken their promises”).

Similarly, not all communities would share in this “tax relief”. Many of Maine’s wealthiest communities receive less than 5 percent state funding for education, while Maine’s poorest communities already receive over 55 percent state funding. The whole purpose for State funding of local public education is to help equalize school resources across poor and wealthy districts. But there is a limit to the proportion that the state should pay. As the state proportion grows, the incentive for efficient local government falls. Having the State foot more and more of the bill makes local government spending more and more like overeating at an all-you-can-eat buffet. Local control of public education is not compatible with near 100 percent state funding. As a result, the proportion of state funding in Maine’s poorest school districts is unlikely to rise nearly as much as in districts with less need.

Thus, Question 1A would shift taxes to low-income taxpayers, and Maine’s poorest schools would probably not see much additional funding. In two ways the proposal is probably going to stick it to those who are less able to pay. Moreover, any relief from property taxes is at the discretion of our local officials. The only guaranteed outcome from Question 1A is a massive windfall for our local governments.

The other very likely outcome is property tax relief primarily for the wealthy, paid for by increased sales and income taxes borne disproportionately by the least wealthy. Is this really the type of tax reform that we want in Maine?

There are certainly legitimate reasons to reform the structure of taxation in Maine. Moreover, there are legitimate reasons to make property tax reduction an important part of tax reform. But passing Question 1A is unlikely to achieve the sort of tax reform that most of us really want.

Philip Trostel is an associate professor of economics and public policy at the University of Maine. Catherine Reilly is a research assistant at the Margaret Chase Smith Center for Public Policy at the university.