Not such a big deal

Tom Ferrick wrote an insightful, useful but in some respects strange article about Philadelphia taxes in Metropolis the other day. There is a lot to be learned from him it and as much to be learned from understanding where it goes wrong.

(This is the second time in a few weeks I’ve disagreed with Ferrick so let me just say that he’s one of the few writers on Philadelphia politics who is truly indispensable. He make me think hard when I disagree with him. If you don’t read Metropolis, you should.)

The end of The Deal

Ferrick argues that in moving to AVI, Philadelphia is about to undo what he calls “The Deal.” The Deal is the implicit bargain that the city has made with homeowners: we will pay a stiff wage tax which people don’t pay in the suburbs as well as an extra 2% in sales taxes. But in return our property taxes will be substantially lower than those found in the burbs.  Moving to AVI, Ferrick says, means breaking the deal: “Without any commensurate decrease in other taxes, the average homeowner/wage earner in the city is about to be screwed vis a vis their suburban counterparts.”

Understanding what is really changing

I’m going to argue that the numbers Ferrick uses to support this claim are faulty. But, before getting to the numbers I need to clear up some preliminary matters.

The first is that there is nothing about AVI itself that changes The Deal on average. Leaving aside the Mayor’s proposed $90 million increase in tax revenues to pay for schools—which is an increase in overall tax revenues of only 7%— AVI by itself doesn’t increase average real estate taxes. But what it does do is make our taxes fairer. For years the city fathers who set assessments have systematically over assessed, poor and working people and under assessed upper middle class and rich Philadelphians (and commercial property as well). We’ll see in a moment that this disparity plays an important role in understanding the problems with Ferrick’s numbers.

AVI however, does make it likely that our real estate taxes will go up eventually—fair tax assessments are going to rise with rising property views. But if that happens, one should note that the city has in fact begun to reduce other taxes. The wage tax was once 4.96 percent. It is now 3.39. (Some of that reduction is due to state gambling money, some is due to decisions by the city. But since we are comparing city and suburban taxes, and suburban property tax increases have been limited by the same gambling revenues, I’m going to ignore that complication.) So the truth is not so much that the city has broken The Deal but is renegotiating it. We shall see that whether a renegotiated Deal is a good one or not depends on how expensive your home is.

The third point to note is that this renegotiation was central to the plan put forward by the Tax Reform Commission (TRC) a plan that Tom Ferrick (and Brett Mandel and others who are calling AVI into question now) supported. The tax reform commission claimed that The Deal was bad for city because people can move but property can’t. Relying on wage and business taxes rather than property taxes drives people and especially highly paid people from the city. The TRC said we should make Philadelphia a city like all other cities. We should reduce wage and business taxes would lead more people and businesses to move to Philly. This would then lead to an increase in property values and property taxes. And those new tax revenues would enable the city to maintain services despite the reductions in the wage and business tax.

It would have been nice to see Ferrick and Mandel and others recognize that they have long supported this new Deal and that the other side of the renegotiated deal, the decline in wage and business taxes has already begun.

Ferrick’s example

With these preliminaries out of the way, now we come to the bizarre aspect of Ferrick’s article. He proposes to demonstrate how breaking The Deal hurts Philadelphians by comparing a hypothetical family with an income 75,000 located in two properties.

The first is a single family home in Havertown with a market value of $165,000. The second is a town house in Philadelphia with a market value of $485,000. Ferrick calculates that in the Havertown house the family would pay $6272 in property taxes and a $175 trash fee for a total of $6447 or 8.6% of their gross income in taxes. In the Philadelphia house this year, the family would pay a property tax of $3289, a wage tax of $2925 and additional sales tax for a total of $6214 or 8.29% of gross income. Thus, before AVI, The Deal seems to work: taxes are about the same whether you live in Philly or Havertown.

After the implementation of AVI, however, Ferrick estimates that the real estate taxes on the Philadelphia house will go up to $5100 and the total tax goes up to $8025 or 10.7%. The end of The Deal does seems to screw someone.

Something strange is going one

Or does it? Look again at this example and you will see there is something bizarre about it. Why is Ferrick comparing a couple who own a 165,000 home in Havertown with a $485,000 home in Bella Vista? Well, the initial tax comparison comes out even before AVI, but why would one choose to compare two homes that must be different not just in cost but in their size and amenities? And, by the way, how would a family earning $75,000 possibly afford the mortgage on a $485,000 home? (Ferrick said they had a lot of help from “Mom and Dad” but while little addition explains the oddity of the example, it doesn’t justify using it.)

Comparing $180,000 homes in Philly and Havertown

So let’s look at a few other sets of examples. (I’m going to follow Ferrick in assuming that our tax rate under AVI is going to be about 1.25% of market value. We don’t know that for sure, but it’s a figure that a lot of politicos have been using.)

Let’s start by comparing two homes at about a price of $180,000.

The first is a twin with 1248 sq. ft. 19 Mill Road in Havertown on a .07 acre lot that is listed for 179,000. It has 3 baths and 1 bathroom. I don’t know the neighborhood it is in although the description says that it is in the heart of Havertown and within walking distance to a library, schools, restaurants and transportation. For our purposes, let’s also stipulate that the public schools are fine and that it one can get to all the other amenities typically found at those lovely suburban strip malls with a short drive.

http://www.weichert.com/42388467/?cityid=22509&ptypeid=32&minpr=150&maxpr=200&view=gallery

The second is a row house with 1194 sq. ft at 7125 Bryan Street in West Mt. Airy that is listed for $185,000. It’s also a 3 bedroom one bath home but on a .03 acre lot. I know this lovely residential street well. It is a block from the central business section of Mt. Airy on Germantown Avenue. You can find a few good restaurants on that block as well as a bar with one of the best beer lists in Philadelphia, McMenamin’s. Bryan Street is part of one of the best neighborhood associations in the city run by my friend Steve Stroiman. The house is about four blocks from the Houston School, which is considered a pretty good elementary school—it is certainly one that draws kids from outside its catchment area. There is also has a beautiful five or six year old community / school playground built with the support of West Mt. Airy Neighbors.

http://www.realtor.com/realestateandhomes-detail/7125-Bryan-St_Philadelphia_PA_19119_M48342-15664

I’ve calculated taxes for three years: 2005 and 2012 before AVI and 2013 after AVI., adjusting income according to the CPI. (I had to make a rough estimate of property taxes in Havertown for 2005 but I think it is reasonably accurate).

Tax calculation Philadelphia

income

wage tax rate

wage tax

property tax

city sales taxes

total taxes

tax as precent of wages

2005

63850

4.3%

$2,765

$1,454

$208

$4,219

6.61%

2012

73600

3.9%

$2,870

$1,717

$208

$4,587

6.23%

2013

75000

3.9%

$2,925

$2,188

$208

$5,113

6.82%

Tax calculation Havertown

the cost of living in Philadelphia instead of Havertown

income

wage tax rate

wage tax

property tax

trash fee

total taxes

tax as precent of wages

as a percent of income

dollars

2005

63850

$0

$4,150

$175

$4,000

6.26%

0.34%

$219

2012

73600

$0

$4,566

$175

$4,566

6.20%

0.03%

$21

2013

75000

$0

$4,566

$175

$4,566

6.09%

0.73%

$547

 

What does this show us? Total taxes were a little higher in Philly than Havertown in 2005. Because our wage tax has been going down, by this year the taxes are roughly the same. After the institution of AVI, however, the gap widens again. But it remains relatively small. Once the recession ends, and we are able to start reducing the wage tax again, the difference will drop again.

So for people living in comparable $180,000 homes, it doesn’t look like renegotiating The Deal is going to be such a big deal after all.

Comparing $450,000 homes in Philly and Havertown

Now let’s look at another comparison, at a higher economic bracket. We’ll compare the 485,000 house that Ferrick looked at in his piece with a $459,000 house in Havertown.

http://www.realtor.com/realestateandhomes-detail/28-Llandillo-Rd_Havertown_PA_19083_M32239-37321

To make this comparison sensible, I’ve assumed that the families have an income of 180,000 which would enable them to carry a mortgage on this property. (No Mom and Dads ex machina in this example.) And since people in income bracket typically itemize deductions, I’ve credited them with federal tax benefit of 25% of their wage and real estate tax.

income

wage tax rate

wage tax

property tax

trash fee / sales tax

Federal Tax Deduction

total taxes

tax as precent of wages

Philly 485,000 house 2012

180000

0.039

$7,020

3289

$208

$2,577.25

$7,732

4.30%

Philly 485,000 house 2013

180000

0.039

$7,020

5100

$208

$3,030.00

$9,090

5.05%

Havertown 459,000 house

180000

$0

$8,546

$176

$2,136.50

$6,410

3.56%

 

At upper incomes, folks in Philadelphia now pay about $1300 or .75% of their gross income more in combined taxes than similarly situated people in Havertown. So The Deal has never been as good for those with more expensive homes than those in the middle. After AVI that difference will increase to $2600 or 1.5% of income. The next round of wage tax cuts is likely to reduce the difference to where is now before AVI.

Is the difference between taxes in Havertown and Philadelphia at this higher economic level too great? Well, if you had an income of 180,000 would it be worth it for you to pay an additional $2600 to live in Bella Vista rather than Havertown? Note that we’re assuming you work in Havertown. If you commute to Philly, the commuting costs most likely eliminate the tax difference. (And I haven’t taken into account that most two-adult families in the burbs need two cars but that is not true in Bella Vista.)

Well, I don’t know about you for $2600 a year, I’d never have a second though about living in one of the great neighborhoods of our city instead of Havertown.

Looking downscale

And finally, let’s just take a quick look downscale. Keep in mind that the average selling price for homes in Philly this year is about $115,000. So, precisely because it makes assessments fairer, AVI will reduce taxes for those with homes valued at a little above the median and downward from there.

Here is one example, a 3 bedroom, 2 bath home in SW Philly on Belmar Terrace. It is listed for sale at 65,000. Its current taxes are now $889. If it sells for 65,000, its taxes under AVI will likely go down to $812 or $625 if you include the 15,000 homestead exemption the administration has proposed. (I haven’t taken into account the homestead exemption in the other examples since the impact of the exemption would be minimal and we don’t know how adoption of it will affect the overall tax rate.)

http://www.realtor.com/realestateandhomes-detail/5502-Belmar-Ter_Philadelphia_PA_19143_M33956-69300

What went wrong in Ferrick’s analysis?

Once we compare like properties, it becomes clear how and why Ferrick’s examples have gone wrong and mislead him. He wanted to compare people paying similar taxes now. But that led him to use as one point of comparison a $485,000 Philadelphia home, a prime example of a property that has benefitted from the upper class bias in assessment. (He could have found many others.) The property taxes there are only 64% what they would be under a fair assessment.

At a house valued at $185,000, however, the current property tax is 78% of what it would be under a fair assessment. And the current taxes of a home valued at $65 are 40% above what they should be.

So, yes, once we start talking about home worth $480,000 and above, AVI is going to do exactly what it is supposed to do. It’s going to correct for unreasonably low taxes. And thus the end of The Deal is going to cause some hardship for people with houses worth that much money. We can debate about whether such people are being “screwed” or not—I would suggest they have the resources not only to handle the higher taxes but to really take advantage of Bella Vista. Thus that they are not going to be rushing to move to Havertown after AVI comes on-line. But whether this counts as being screwed or not, I would insist they are not representative of the “average homeowner/wage earner in the city.”

Once we look down the income scale to middle class homes, the end of The Deal does not look like it’s going to harm people very much. And if we can keep bringing down the wage tax, the small city / suburb tax gap that emerges with AVI will close again. Thus the end of The Deal is not a deal breaker for middle class folks.

And when we look at less expensive houses, the kind lived in by a majority of homeowners in the city, the end of The Deal looks like a good deal. AVI is going to provide real benefits for working people in the city.

Two final notes

The one qualm I have about AVI is that it is going to make life difficult for two groups of people. The first is those who will see increases in their taxes they had no reason to expect until a few years ago. Some of those folks live in houses worth $400,000 and above. There is some unfairness in this. But the answer is not to end AVI but, rather, to phase it in a bit more slowly.

The second group is people with middle incomes who have managed to hang on in gentrifying neighborhoods. They are going to see sharp increases in property taxes that they may not be able to pay. The answer is to allow them to defer the tax increases, with interest, until they sell their house. Long term interest rates are very low now. The city could float bonds to cover the lost tax revenue and thus allow people to defer higher tax payments at a relatively low interest rate. Someone whose property values have jumped will be able to stay in their homes.  They’ll leave a smaller estate to their kids. But anyone who has seen their property values rise enough for this program to make sense to them will still be able to hand their children a nice capital gain—on which they will pay no federal taxes.

 


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