CHICAGO — Local governments in Indiana should brace for larger-than-expected revenue losses next year under the state’s sweeping new property tax law, lawmakers and fiscal officials are warning.
Municipalities face a one-two punch next year, taking a hit from the new property tax caps as well as from collections and assessments that are expected to be down due to a weak economy.
The time lag built into property tax collection means local governments will face the same revenue declines next year that the state faced this year while crafting the 2010 budget, lawmakers said Monday at a commission hearing reviewing the impact of the new property tax law.
“I want the message to be clear to local units that the financial difficulties that the state has faced is imminent, and they need to be aware of that,” said state Sen. Brandt Hershman, chairman of the Commission on State Tax and Financing Policy.
The new property tax law is one of Gov. Mitch Daniels’ measures designed to make the triple-A rated state one of the lowest-taxing states in the Midwest in order to attract homeowners and businesses from neighboring Illinois and Michigan.
In a speech last week to an Illinois-based anti-tax policy group, the Republican governor said that those states that have kept their taxes low are now faring better in the weak economy.
“State government is going to have a whole lot less to deal with going forward,” Daniels said at a lunch in Chicago hosted by Illinois Public Policy group.
“It’s not going to jump back up — people are going to have to do fundamentally different things, especially at the state level where we don’t have printing presses or ways to borrow around [deficits],” he said.
Daniels began pushing for major property tax reform in mid-2007 amid protests from homeowners over rising property tax bills. The Indiana General Assembly closely followed his proposals when it crafted and enacted the new law in 2008.
At the heart of the overhaul is a so-called circuit-breaker, which caps property tax bills for homeowners at 1.5% of a home’s assessed value, with a 2.5% cap on rental property, and a 3.5% cap on commercial property. The caps will drop to 1%, 2%, and 3% respectively next year.
Also as part of the law, the state gave governments the authority to impose a local income tax to offset property tax revenue losses.
The state also agreed to take over several local levies under the new law, including local schools general and transportation funds, child welfare funds, and pre-1977 police and fire pensions. The state raised the sales tax to 7% from 6% to help cover its new costs.
The property tax caps are expected to cost local governments a total of $441 million in 2010 and $470 million in 2011, said Bob Sigalow, an analyst with the Legislative Services Agency, a nonpartisan research arm of the General Assembly.
The LSA’s figure is up from earlier projections that estimated losses would total $392 million next year and $443 million in 2011.
One big reason for the higher-than-expected losses is declining assessments, according to Sigalow.
“Assessed valuations came in lower than any of us had expected, and that drove up circuit-breaker losses,” he said.
On average counties lost 2% more revenue than officials had originally projected, and some counties reported losses nearly 10% higher than expected, Sigalow said.
As figures began to roll in this summer, fiscal experts compared data from 68 Indiana counties — out of a total of 92 — and reported that local units lost on average 1.3% of their gross levies to the property tax caps in 2009.
While counties suffered declines, towns and cities suffered larger losses because their tax rates are higher there, said LSA analyst Larry DeBoer.
The losses are expected to grow as additional counties submit data. Already-troubled entities like Lake County and St. Joseph County are expected to see large losses and push the average higher, DeBoer said.
“We will in the end see somewhat higher losses than the 1.3% on average that we’ve seen so far,” he said. “By this time next year, the tax caps will tighten up again, so we’ll see increases in the amount of tax relief delivered and increase in the circuit breaker losses to the local governments.”
The difference among counties’ losses depends on several factors, including the level of debt service and whether they adopted local option income taxes.
While some counties imposed the new tax, many were reluctant in the face of the bad economy, according to Andrew Berger, legislative director for the Association of Indiana Counties.
“You did see at the end of 2008 counties looking very seriously at the new [local option income tax] options, but the number one reason they hesitated to raise income tax was the bad economic times,” Berger said. “It’s whether or not the need to decrease the circuit-breakers laws equals the cost of raising the LOIT. It’s a political question.”
He said counties face more problems due to declines in local shares of state income tax amid lower collections.
“We’re trying to warn them about the upcoming drop in income-tax distribution,” Berger said. “We hear the LSA and the General Assembly warning about declining revenue and we’re trying to get that message out.”
For Daniels, Indiana’s low tax rate relative to other states remains one of its key strengths.
“I don’t believe in schadenfreude, but look at California and New York — the state governments that have been living high through taxing the willies out of its people have hit the wall the hardest,” the governor said in Chicago last week.
He urged Illinois, like Indiana, to implement lower tax rates to improve its outlook, saying states’ fortunes change quickly based on fiscal policies.
“We are a different state than we were four years ago,” said Daniels, who was elected to his second term last year.
“Don’t beat up on yourself until you’ve been to Michigan. They’re so broke they’re grinding asphalt roads back into gravel — going back 100 years — because they can’t afford to pay for it. But not so long ago, Michigan was a model.”
