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HomeMy WebLinkAboutItem 14 - COUNCIL READING FILE_c_Analysis of 1996 Tax Sharing AgreementCrawford Multari & Starr planning • economics public policy · June IO, 1996 Mayors ofthe Cities of San Luis Obispo County c/o Allen Settle, Mayor City ofSan Luis Obispo P.O. Box 8100 San Luis Obispo, CA 93403-8100 Dear Mayors, Earlier this year! prepared an analysis ofthe fiscal effects on the county related to annexations. Thisanalysis was eventually used in the negotiation ofa tax sharing agreement between at least some ofthe cities andthe county. It seems that there is some confusion about the purpose ofmy analysis and about the results. Perhaps this letter will help clarify the situation. Our role in the tax sharing discussions. When representatives ofthe cities first engaged the county's representatives regarding a standard tax sharing agreement forannexations, thecoun · 's ii:uti suggestion was that they s . ou retam · 1 property tax and should also receive a portion of the sales tax, and perhaps even some of the TOT, aswell. They argued tha:tWith the reductions in property tax revenues going to counties and mcreases inobligations, the county \vould probably need that additional revenue just tQ "break even." I was contacted by Ken Hampian, Bob Hunt and Rich Ramirez to analyze the actual effects ofannexation on the county, to test whether or not this assertion was valid. The county representatives agreed that some kind of analysis ofprobable fiscal impacts would be valuable. Our firm had recently developed a fiscal impact model forthe county so that they could evaluate different development proposals. \Ve modified that model so that we could look at the fiscal effects on the county ifthe development occurred in an annexation area (rather than in the unincorporated tenitory). The advantage ofbasing the analysis on the county's model was that we could use many ofthe assumptions the county had already foundreasonable. In this kind 9f analysis, consensus on assumptions is an important starting point. Please keep in mind that I wasnot part of the negotiation team, but I did have the interesting experience ofsitting in on several ofthe discussions that took place among representatives ofthe cities andthe county. Our assignment was to determine how much property tax the county would need in order to break even", that is, so that the revenues coming to the county equaled the costs of providing county services. We refered to that as "fiscal neutrality", that service costs would be just offset by revenues. \Ve were asked to determine fiscal neutrality forthe county, not forthe cities. 641 Higuera St .. Suite 202 •· San Luis Obispo. CA 93401 . (805) 541-38.48 Fax .(805).fa;)Bi.1 9· Packet Page 142 Item 12 ATTACHMENT? Mayors Annexation and tax sharing r page 2 Statewide perspective. The League of California Cities retained our firm earlier this year to survey cities throughout the state regarding issues related to annexations. We received responses from 154 cities; 78 (51%)reported that they had encountered problems with tax sharing agreements. In many cases, the county position is situp y that 100%of all property tax must go to a counries after annexation. Examples where this is the case include San Joaquin, Sacramento and Shasta counties. Forty-four(29%) of our respondents stated that their county's position was not only that 100% of the property tax should be passe .to the county but that a share of sales tax, as well. We interviewed representatives of many of these cities to learn more about what kinds of tax sharing agreements had been worked out. An example of how extreme these negotiations can go is the City of Sonora. In a recent annexation there, the tax s wring agreement called for 10 percent of the property tax increment, 8 percent of the sales tax; 72 percent o_the TOT, and development impact fees averaging about S 1,000 per unit to go to the County of Tuolumne! The results of our analysis of San Luis Obispo County. We found that in order for the county to" break even,"they would need to continue to get all the property tax for non-residential annexations (commercial and industrial) and about 2/3 of the tax for residential annexations. Here's another way of looking at this. On average, in the unincorporated area, the county receives only about 22%of the property tax. Our analysis found that for the county to break even, they would need to get 22% after-annexation for commercial and industrial annexations and about 14%for residential annexations.. (More precisely, the actual percentage was 13.5% -- a bit less than 2/3 of 22%.) This also means that after annexation, the city would receive no property tax for commercial and industrial annexations and about 7.4%of the property tax for residential annexations. The commercial situation. At first blush, it may seem imbalanced that the county receives all the property tax in the case of commercial annexations. However,the city has kept all the sales tax. The sales tax income simply overwhelms the property tax. Consider a hypothetical case of a 100,000 square foot shopping center.. In the analysis we assumed an assessed value of$80 per . square foot. This is probably high for most modern tilt-up construction,but let's use it for our example. If the county received its fu1122% of the property tax,that equals about$17,600 in property tax. The projected sales tax from a retail center of that size is about$175,000 per year, almost exactly 10 times as much. Let's consider how much property tax the city actually"gives away"in this hypothetical case. First of all, it is important to keep in mm at since ERAF and other property tax"grabs"by the Crawford Multari&Starr planning economics._ public policy_ B3-10PacketPage143 Item 12 Mayors Annexation and tax sharing r page 3 state, the county's position in terms of property tax has significantly eroded. Within the cities, the county receives on average about 18%of the property tax and cities, on average,receive about 16%. Thus, a city and the county share about 34% of the property tax. In unincorporated areas, as noted above, the county gets only about 22%of the property tax. Thus, the amount that the city and county can share after annexation, the amount they can actually negotiate over, is only 22%. Thus, it is entirely unrealistic for cities to expect to continue to receive as much as 16% of the property tax after annexation. But let's assume that the current ratio of county to city shares is maintained in splitting up that 22%. That would work out to about 10.3% for the city and about 11.7% for the county(16:18 10.3:11.7, approximately). If we assumed this was the baseline,how much did.the city lose by giving the county all the property tax? It works out to about$8,000. Again,the sales tax.is estimated at $175,000-- almost 22 times as much. Thus, from the perspective of an overall fiscal strategy, the trade-off of a small amount of property tax for much greater sales tax not to mention business license taxes and other revenues like TOT) seems reasonable. Another interesting point about property tax is that Proposition 13 limits re-assessments to only 2%per year. If inflation is above 2%, then the property tax income, in constant dollars, actually declines each year. Sales tax,however, generally keeps pace with inflation as prices for goods rise. For example, if inflation runs at 4%,that$8,000 that the city gave up will be worth less than$6;500 ten years later even with.the annual maximum increases allowed by Proposition 13. Thus, given the two income sources,the sales tax is by far the larger and more likely to keep up with inflation. The industrial picture. Here again, the city position was to give up the entire property tax to the county. While the sales tax benefit from the commercial case was easy to illustrate, what income accrues to the city in the case of industrial? While not as generous as in the case of a retail center, industrial areas still produce significant sales tax. The examination of virtually any industrial area reveals that there is considerable retailing going on. For example,we were recently retained to assist with the annexation of an already developed area in the city of Patterson. The subject properties were considered to be"industrial." The total property tax that the city and county could negotiate over amounted to about$2,400. However, e sales tax generated among the various uses was over$30,000. Clearly,the city was not so concerned with property tax as with getting the sales tax. Other examples may help illustrate the point that"industrial" areas actually contain activities that generate substantial sales tax-- not nearly so significant as a retail center,but generally much more than property tax. Crawford Multari&Starr _ planning__economics public.,policy B3-11-°Packet Page 144 Item 12 AT IACHMENT 3 Mayors Annexation and tax sharing r page 4 Consider the"Airport Area"south of San Luis Obispo. This has been zoned"industrial"for decades. A study performed by Angus McDonald found that the area generated approximately 370,000 per year in sales tax. Keep in mind that this is an"industrial"district. Furthermore, McDonald's report estimated that this area would generate a net revenue to the city(today, without further development) of$570,000 per year without any property tax going to the city. Another area presently in the City of San Luis Obispo is probably representative of the mix of uses one might find in"industrial"districts. The area east of lower Higuera Street between Tank Farm and Prado Roads includes Hind Performance, San Luis Sourdough,The Spice Hunter,JBL Scientific and several other light industrial and"heavy"commercial land uses. In 1994-95 this area generated over$160,000 in sales tax to San Luis Obispo. Interestingly,the amount of sales tax produced by this area has been climbing throughout this decade, averaging an increase of almost 15%per year, despite the recession. The case of residential annexations. While one can easily demonstrate that commercial annexations will be net revenue generators.for cities, and that this is also likely true for industrial annexations --at least the way industrial areas actually are built out--one can not be so sanguine about residential projects. The fiscal impacts of new residential growth is quite idiosyncratic from place to place,varying with the amount and type of services provided by the city, household size, the valuation of the units, local sales tax capture and other factors. . However,with regard to the property tax, it should be kept in mind that the amount of money in absolute dollars is quite small. Consider a hypothetical case of a single family house. Fust of all, there is the question of the"base"before annexation. Tax sharing agreements generally require that the existing base,that is, the amount the county presently receives in property tax,continues to go to the county. It is just the increase, or increment, that is shared after annexation. We assumed that to be true in our analysis. However, we also assumed that for raw land, outside the city limits,with neither annexation nor entitlements,the value for property tax purposes is generally quitelow. Discussions with some local developers suggested that the assessed value of this land for tax purposes (again,prior to annexation or any entitlement)would probably by less than$20,000 per acre. Let's double that for argument's sake to $40,000 per acre. Thus, at a post-annexation density of four units per acre,the"base" for property tax purposes for each unit would be$10,000. The county receives about$22 in property tax on that. Now,after annexation the land is subdivided and approved. A house is built and sold for 150,000. The increment is$140,000. The total property tax from the increment is I%of that or 1400. The city and county get to split 22% of that, or about$308. If we assume the current average ratio of county-city shares (see above),the city would get$144 and the county$164. Crawford Multari&Starr planning economics public policy B3-12-Packet Page 145 Item 12 ATTACHMENT 3- - Mayors Annexation and tax sharing page 5 The newly proposed tax sharing agreement would change these amounts to$103 for the city and 205 for the county. Thus,the city has given up $41 per house to the county. In these difficult fiscal times, giving up any revenue is a problem. But one should keep in mind e magnitu e of the issue at hand. Conclusion. It is not my role to say whether the proposed agreement meets the needs of individual cities. However, it appears to me that for any commercial annexation, and for most industrial annexations that can be imagined,the loss of property tax is recompensed many times over by sales tax(and perhaps other revenues as well). In the case of residential,there is a shift of some property tax to the county from, at least, a theoretical baseline. However,the amount of money involved is quite small; it seems other variables besides these small sums would be much more important in a community's decision as to whether or not a particular annexation makes sense. I hope this is helpful. I would be pleased to attend one of your"Mayors' Group" meetings to help answer questions and to discuss this interesting and difficult topic -- one that I can assure you is being debated in many cities and counties throughout the state. Thank you. Sincerely, 6uzCCG 7 Michael Multari cc: Councilmembers and City Managers Crawford Multari&Starr planning economics public policy B3-13PacketPage146 Item 12