Maximization of nonresidential property tax revenue by a local government

Abstract

The article presents a model of the market for commercial or industrial real estate at the local level that is used to derive an equation for the property tax rate that maximizes tax revenue – given that demand for real estate at the local level is highly elastic and capital is mobile in the long-run.

Notes

¹ Most authors in this literature pursue the goal of maximizing the welfare of the representative resident, while Brueckner (1983) advocated the maximization of total property value in the jurisdiction and Sonstelie and Portney (1978) and Wooders (1978) studied the profit-maximizing local government.

² The second-order condition is that 1/t ² (a very large number on the order of 1000) is greater than [−e(b + 1)]/(b − e)(r∗ + t)2, a condition that holds for reasonable parameter values. The result in Equation 6(6) is an elaboration of the standard result that the change in revenue collected Rev with respect to a change in the tax rate t is dRev/dt = B(1 + Є), where B is the tax base and Є is the elasticity of the tax base with respect to the tax rate. Write lnRev = ln t + ln B, and note that dln Rev/dt = (1/t)(1 + Є). Since B = Rev/t, the logarithmic version can be converted into the standard result.

³ A result very similar to Equation 7(7) holds for a sales tax. In a basic model of demand and supply, the sales tax that maximizes revenue is (e − b)/(eb + b).

⁴ Empirical results obtained by McDonald and Yurova (2006) show that the property tax differential between Cook County and its neighbour DuPage County of 2.6% (4.37 – 1.67) was fully capitalized into property values. The hypothesis of perfectly elastic demand for industrial real estate could not be rejected in the data on industrial properties from these two counties.