The Anatomy of Municipal Finances:

Current and Future

Harry Kitchen & Melville McMillan

Professors Emeriti

Departments of Economics

Trent University & University of Alberta

WCGFOA Conference

Kelowna

September 22, 2016

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Outline

What Municipalities Do?: Expenditure Responsibilities

How Finance?

Property Taxes

Alternative Taxes & Some Pros and Cons

User Charges

The Role of Intergovernmental Grant

Wrap Up with Final Thoughts

Some References

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Expenditure responsibilities:

what are they?

Two ‘general’ types - an important distinction funding purposes.

Provide ‘collective benefits’: services to the entire community;

these are available for everyone even though not everyone uses them.

Examples include local roads, streets, neighbourhood parks, fire and

police, social services, social housing, land ambulance, etc.

Should be funded from a local tax.

Provide ‘private benefits’: that is, specific users can be identified

and non-users can be excluded. Examples include water, sewers, solid

waste collection and disposal, most recreational facilities and programs,

cultural facilities and activities.

Should be funded by user fees.

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Current revenue sources

Property taxes

User fees

Grants

Other property related charges – capital

cost/development charges, special assessments

Miscellaneous collection of fees, permits,

licences, etc.

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Current revenue sources: Illustrations

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Taxes on Property 34.5 40.9 45.2

Sales of Goods & Services 19.5 20.5 21.4

Transfers 21.5 21.7 22.5

Property/Investment Income 10.8 3.2 2.1

Fines & Penalties 1.7 1.3 1.1

Licences, Permits, Fees 1.8

Franchise Fees 4.1

Developer Contributions 6.0

Sources: City of Edmonton Annual Report, Provincial municipal data calculated from

CANSIM Table 3850037.

12.3 7.5

City of

Edmonton

Alberta

Municipalities

Ontario

Municipalities

Municipal Government Revenue Sources in 2011: Selected Municipalities

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Is the property tax a good local tax?

Yes, because:

Fair – relates to benefits received from ‘collective’ expenditures

- even relates to ability to pay (based on use of property)

In addition,

Tax base is largely immobile; important for small tax jurisdictions

Revenue is predictable & stable; important when cannot borrow for operations (only for capital projects)

Residential property tax is unlikely to be exported (i.e., shifted to non-residents)

Highly visible and transparent;

Direct link between taxes and expenditures.

Contributes to keeping decision makers accountable

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The don’ts of property taxation

Don’t:

over tax commercial/industrial properties.

Calgary and Edmonton:

Commercial/industrial:

25% of tax base, pay 50% of property taxes

Residential: 75% of tax base, pay 50% of taxes

The right balance? Interjurisdictional competition.

put a cap on property assessment or property tax rate increases

created problems in U.S.

undermines local authority and preferences

Is the property tax a sufficient

revenue source for municipalities?

Yes, it is for many (most, all?) municipalities but:

it may become less and less adequate as a funding

base for local governments that will be expected to

fund more complex and increasing demands in the

future.

it places a relatively high tax burden on those, such

as the elderly on fixed incomes, who are asset-rich

but income-poor and in danger of losing their home.

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Is there a role for new taxes?

Common arguments for:

Offset distortions that may be created by the property tax.

Could remove some of the property tax burden on those who are asset rich and income poor.

Increase flexibility of the local tax structure.

Increase the local revenue elasticity.

Provide a wider tax base for those using local services – residents, commuters & visitors.

Improve fiscal sustainability.

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But, are new taxes needed?

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Property and Related Taxes as a Percentage of Personal Income, Alberta, 1950-2011

Municipal

Total (prov& local)

Municipal Taxes: Relatively Stable Trend

Total Taxes (prov. & local) Declining, now at historic lows in AB

Which alternative tax or taxes? For general taxes:

Personal income tax

General sales tax

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U.S. use of (to supplement property tax)

General sales tax

36 states, generates 17% of municipal gov’t tax revenue

Personal income tax

16 states, used mostly by cities and by some school districts,

Generates 14% of municipal tax revenue

International Patterns:

PIT (Scandinavia), Sales taxes (southern Europe & Austria),

Property tax (British origin countries)

But, also remember: Those taxes have their own problems:

Local sales taxes & LIT create significant distortions

More effective ways to address the problems of those who are asset rich and income poor.

Increase tax flexibility/wider tax base – yes, but what benefit and at what cost?

Tax non-residents using local services – commuters & visitors.

But the property tax also taxes commuters &visitors via the non-residential taxes (where they work and shop)

What does improve fiscal sustainability mean? How measure?

Increase local revenue elasticity:

Yes, but more variable -- down as well as up (US in 2008-10)

Property tax base also grows with the economy. 12

The Property Tax Also Grows with the Economy

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Total Equalized Assessment Per Capita (75% Residential:25%

Non-Residential)

Personal Income per Person

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Per Capita Equalized Assessments and Per Person Personal Income ($000): Calgary, 1994-2012

The Property Tax Also Grows with the Economy (cont.)

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Equalized Assessment Per Capita

Personal Income Per Capita

Normalized (1994=1.0) Per Capita Equalized Assessments and Per Capita Personal Income, Calgary, 1994-2012

(75% residential, 25% non-residential)

Demands on Municipalities, Stable Municipal Expenditure Patterns Change Little but for

Declining Debt Service Costs

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0%

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Per

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Alberta Municipal Government Expenditures: Categories by Percentage, 1971-87)

Other

Debt Charges

Recreation

Social Welfare

Health

Sanitation & Waste

Transportation

Protection

General Government

What about a land transfer tax? (it is used in Toronto, some cities in N.S., Que., Man.)

It may generate revenue (e.g., about 4% of Toronto’s revenue & equivalent of 12% of property taxes)

but it is NOT A GOOD TAX:

bears no relationship to the benefits received

not related to ability to pay -- no direct relationship between homebuyers/sellers and their income or wealth

imposes a burden on those who buy/sell property while placing no direct burden on (indeed finance benefits to) those who remain in their existing property

is a tax on movement/mobility

is a disincentive for people to move, creates inflexibilities in the labour market and encourages people to stay in properties of a size and location that they might not have otherwise chosen

creates an incentive for those who remain in their homes to demand additional municipal services, knowing that homebuyers/sellers will disproportionately pay for city services

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User fees

a) for what services?

For those with mainly ‘private’ goods characteristics (individual users/beneficaries can be identified).

Examples include water, sewer, garbage collection and disposal, a portion of recreation, public transit and sometimes for arterial roads/bridges…

.

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b) How should user fees be structured? In principle,

so that they generate an efficient use of a service –

a signal to demander and supplier

achieved when the fee per unit of output equals the extra cost

of producing the last unit or price equals marginal cost.

As implemented,

setting P=MC not feasible for most services.

setting a price vs no price,

and then fees that vary with peak and non-peak demand; when

capacity constraints exist; when distance from source of supply

affects costs; and when externalities exist.

For most services, a multi-part pricing scheme is the most

efficient option (e.g., fixed charge plus a fee per unit used) 18

b) How should user fees be structured? (continued)

Current practice,

Sometimes used effectively;

BUT, often

not set fees when possible and reasonable

set charges unrelated to use

current charges are often designed to raise revenues rather than improve the provision of services by charging (generating revenue from) those that benefit.

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c) Further potential for user fees

Roads and highways:

Vehicle registration charge

Parking lot tax

Congestion/toll charges

High occupancy toll lanes

Fuel tax (earmarked or dedicated revenue)

Development charges (in some municipalities)

A share of infrastructure cost imposed on new developments

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A Vehicle Registration Fee Example: Edmonton

Almost one-quarter (23%) of Edmonton’s expenditure are roadway (vehicle) related but (essentially) no City revenues are related to vehicles or their use.

Each $100/vehicle charge could reduce per capita residential property taxes about 10% or by $60 per person

If 50% of the cost of roadways is logically charged to property for provision of access (and legitimately financed from property taxes) and the other 50% is charged to vehicle users for the benefits of roadway use.

Toronto tried: 2008-2011 at $60/vehicle

Logically a combination of a fixed annual licence fee and a variable charge based on actual use of the road system.

Potential for tax sharing of registration fees, fuel taxes (but lack local control).

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d) User fee pricing: A critical issue

Better pricing leads to:

more efficient provision of services

more appropriate investment in local infrastructure

But, distributional implications (of both costs and services) may arise

Are lower income households adversely affected? How protect if needed?

High income/rich may benefit more without pricing (and resist change)?

There may be unintended distributional consequences – not what was expected or desired. Be prepared to respond.

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Grants: Where Do They Fit In?

Why? a) Economic reasons

Spillovers/externalities -- expenditures benefits local residents and also non-residents (e.g., provincial/national). Avoid under provision if local decision and cost only (i.e., no compensation from non-residents).

There is a provincial/national interest as well as local

e.g., highways/throughways used by local residents and by non-residents, social housing, policing

An alternative to contracts:

Where federal/provincial programs (e.g., immigration) affect municipality’s needs and expenditures.

Grants (continued)

Macroeconomic stimulation – promote economic

recovery/growth (e.g., federal infrastructure initiative)

Address fiscal adequacy

Reduce inter-local fiscal disparities – “equalization” to some

When all localities lack fiscal capacity – e.g., school boards

b) Political reasons

Demand for “free” money

Senior gov’t seek political exposure

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Grants (continued)

Potential Problems with Grants

Inappropriately designed grants can Distort local decision-making (e.g., promote low value

undertakings, distort choices as if require PPPs)

Reduce incentives for proper pricing/taxation

Reduce accountability

Many grants are for infrastructure but not support operations.

What about infrastructure?

Some thoughts

Development Charges.

For neighbourhood infrastructure in new developments

(e.g., water & sewer, drainage, neighbourhood roads),

use to have costs recognized by developers and

ultimate beneficaries. Also, capture cost differences by

development/neighbourhood.

Various improvement charges, area ratings, value

capture levies and tax increment financing.

For rehabilitating and additions to infrastructure.

.

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Tax incremental financing – a digression

because it has been used sparingly

Useful for ‘brownfield’ remediation and city center revitalization and infilling.

Stimulates private investment in neglected urban areas.

Divides local tax revenue into two categories:

i) tax based on pre-assessed development value;

ii) a dedicated tax based on increased assessed value.

May assist in discouraging urban sprawl.

BUT

May diminish development elsewhere in city.

Tax advantage in TIF zone a cost elsewhere.

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Wrapping Up and Moving Forward

Here, overviewed current municipal finance and current

issues. Informative, we hope.

Expand the range of taxes (as a supplement to property taxes?

Evaluate carefully.

An alternative – provincial gov’ts abandon residential school

property taxes to leave (much more) room for municipal property

taxes. Improve both municipal and provincial fiscal systems.

Potential to expand the use of user charges

Notably, development fees, services providing private benefits,

linking roadway costs to vehicles and their use.

Possible use of TIFs to finance the infrastructure required to

develop brownfields and urban decayed areas. 28

Constructive Contemplations

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Some References Kitchen, Harry and Enid Slack, More Tax Sources for Canada’s Largest Cities”

Why, What, and How? IMFG Paper No. 27, Institute on Municipal Finance

&Governance, University of Toronto, 2016.

http://munkschool.utoronto.ca/imfg/uploads/348/imfgpaper_no27_taxrev

enues_slack_kitchen_june_27_2016_updated.pdf

Dahlby, Bev and Melville McMillan, Do Local Governments Need Alternative

Source of Tax Revenue? An Assessment of the Options for Alberta Cities,

SPP Research Paper Vol. 7 Issue 26, The School of Public Policy, University

of Calgary, September 2016. http://www.policyschool.ca/wp-

content/uploads/2016/03/mcmillan-dahlby.pdf and

http://www.policyschool.ca/wp-content/uploads/2016/03/mcmillan-

albmunicipfinance.pdf

Plan Canada, Special issue on Financing Cities, Vol. 56 No. 2, Summer 2016.

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