Chapter 5 Taxation Issues

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Chapter 5 Taxation Issues
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Competition for Education Dollars

• Taxpayers want lower taxes
• Agencies agendas
• Parental choice
• Tuition tax credits
• School vouchers

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Public Public Scrutiny

• Most people believe that the correct taxation
  level is somewhat less than what they currently
  pay, the level of service they want is somewhat
  higher than currently exists.

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The More You Understand About School Finance

• The better you can explain to your parents
  community WHY they need to support public
  education with their tax dollars.

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Schools Finance

• Schools do not operate as a for-profit company
  designed to generate dividends increase stock
  prices for shareholders, such as IBM

• They are not a professional fee for service
  organization like a dentists practice

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Schools Are a Public Service

• Schools are a public service on a scope
  scale unlike anything else in our society.

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Paying for Education

• Public schools are no longer
• funded by user fees or tuition
• In fact, the United States Supreme Court has
  repeatedly indicated that public education must
  be free of tuition
• Education services are not sold to consumers
  based on price points derived by economists
• .

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A Tax Primer

• The purpose of a tax is to pay for a government
  function
• A tax should be equalized
• The government should have a formal mechanism to
  calculate a lower cost to those who can least
  afford the service have a higher cost to those
  who can most afford the service.

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Taxes Operating Revenue

• In a public service company like education,
  taxes are the operating revenue.

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School Finance Issues

• Understanding school finance vocabulary
  concepts is the first step in understanding
  school finance issues.

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Understanding Tax Terms That Underlie School
Funding Issues

• Tax Equalization
• Floor of Services
• Property Taxes Historical View

• Tax Categories
• Stock of Wealth
• Flow of Production
• Capacity Effort
• Equity v. Equality

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Understanding Tax Terms That Underlie School
Funding Issues, cont.
TAXES ON
Stock of Wealth
Flow of Production
In Personam Ad Valorum
In Rem Ad Valorum
Tax Structures Proportional
Regressive Progressive
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Understanding Tax Terms That Underlie School
Funding Issues, cont.

• Tax Revenue Sources
• Property
• Income
• Sales
• Lotteries
• Severance
• Corporate
• Sumptuary

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Tax Equalization

• Tax equalization tends to make the most needed
  services more affordable to those who are least
  able to pay
• Taxes have the effect of redistributing wealth
  at the local, state, or federal levels.

• This equalization tends to level the playing
  field as we invest in human capital

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Taxes Should be Spread Out As Much As Possible

• A federal service -- defense -- should be spread
  out over the entire country
• A state service-- education -- should be extended
  over the entire state
• A local service -- a city or county park --
  should be distributed over the entire locality

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Legal Moral Reasons Require Equalization of
Funds

• Dispersing educations tax bill over the
  entire state allows smaller, remote, or
  economically-disadvantaged localities with little
  local wealth to provide a quality education for
  its citizens.

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People Dont Want to Give Away, but

• Our country holds a moral legislative
  imperative that wealth must be redistributed, in
  part, to promote equity of educational
  opportunity and democratic citizenship.

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Without this Resource

• Reallocation, poverty ignorance would spiral
  downward, reaching a critical mass that would
  ultimately restructure our society to a lower
  standard of living general well-being, increase
  deprivation, foment civil unrest.

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Taxation Supports U.S. Freedoms Lifestyles

• Taxation perpetuates our democratic
  government, permits our comfortable lifestyles to
  continue, allows all educated individuals
  regardless of race, ethnicity, gender, age, or
  creed to participate in
• the good life.

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Paying for the Floor of Services

• The tax burden must be spread over as large a
  group as possible
• Each state has established a minimum floor of
  educational services that localities must
  provide
• With the No Child Left Behind Legislation of
  2001, the federal government is ratcheting up
  the floor level of services

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Equalizing Wealth Lets All Meet the Standard

• Wealthy localities may have no problem meeting
  these standards
• Poor localities may be unable to meet the
  required levels of increasing progress

• The state, therefore, has a legal responsibility
  to help redistribute monies or equalize funding
  to help less wealthy localities meet these
  educational benchmarks

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Property Taxes

• In the U.S., states
• rely primarily on
• property tax
• revenues for the
• majority of their
• income to operate
• schools.

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Brief History of Property Taxes Funding Public
Schools

• Massachusetts Law of 1647, Ye Olde Deluder,
  Satan Act
• Property owners taxes were used to hire a
  teacher in towns of 100
• The communitys sons servants could be educated
  

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Property was Taxed Because It was How Most People
Earned Their Living

• A farmer made his living from the land
• A merchant earned money from goods sold on his
  property
• A carpenter sold furniture made in a workshop on
  his property

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Not All These Transactions Were Cash Sales

• Many items were
• bartered or traded
• as a money
• substitute.

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Property Taxes Were a Realistic Proxy for
Measuring Income

• It was logical, then, for government to tax
  property because that property was the basis for
  making ones income.

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Todays Property is NOT a Source of Wealth

• Today, for many of us, our homes represent more
  of a revenue drain than a revenue source
• a stock rather than a flow of accumulated
  wealth.
•  

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Two Tax Categories

• Taxes levied on the flow of production or
  services, i.e.
• Personal income taxes
• Corporate income taxes
• Retail sales taxes

• Taxes levied on the stock of wealth
• This wealth has ceased to move in the flow of
  production
• It has become an asset of the individual or the
  company

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Taxes Levied on the Stock of Wealth

• Property, as measured in our home valuation,
  is therefore a stock of wealth.
• Taxing property is taxing an individuals or
  companys portion of wealth.

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Ad Valorum Tax

• Ad Valorum means a portion of the value.

• Property taxes are known today as an ad valorum
  tax because a portion of the assessed value of
  the home is taxed to support a service.
•  

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In Rem Taxes

• In rem taxes include those that are imposed on
  things such as machinery, cars, and houses
• These taxes are based on the value of the thing
  being assessed

• In rem taxes do not consider whether an
  individual owns the thing free clear or
  whether the thing is bought entirely on credit

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In Rem Taxes - DISadvantage

• Individuals may pay taxes on items they do not
  really own cannot claim as an asset
• While they have the taxable item, the item may
  not actually be theirs the bank may hold the
  title

• .

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In Personam Taxes are Imposed on People

• If you have 100,000 salary, you are WORTH
  100,000 of tangible value ---

• The best example of in personam taxes are those
  imposed on peoples earned income
• Personal income determines the amount of tax to
  be paid

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In Rem vs. In Personam Taxes

• In Rem Taxes
• 100,000 house
• 0 (zero) assets
• 100,000 liability
• 0 (zero) net worth
• This is NOT a realistic indicators of your wealth

• In Personam Taxes
• 100,000 income
• 100,000 net worth
• This is a better indicator of your wealth

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Funding Education

• Each of these types of taxes is used to generate
  funding for public services such as education.
• It is important for educators to know what types
  of taxes support their funding what taxes are
  more generally favored by the public.
• The different types of taxes can have different
  effects on taxpayers.

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Tax Structures

• Under the proportional taxes, each income group
  has the same percentage rate of tax to pay 10
• In the regressive tax structure, the lower income
  individuals pay a greater percentage of their
  income in taxes than do the upper income
  individuals

• In the progressive scenario, the lower income
  individuals pay a lower percentage of their
  income than do the upper income. As income
  increases, so does the percentage of taxes paid

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Proportional Taxes

• A proportional tax requires the same percentage
  from each persons income
• A sales tax is an example

• This tax affects the less wealthy persons more
  heavily than it does the richer ones
• The amount taxed on any item is the same dollar
  amount for each, but it represents a larger share
  of the less well-off persons financial resources

4.5 Sales Tax
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Proportional Sales Taxes can be Regressive on
Individuals

• Poorer people tend to spend a greater age of
  their income on basic living cost items
• Food, Clothing
• Shelter, Transportation
• in contrast to those at the higher income
  levels.

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Proportional Sales Taxes, cont.

• The spending habits of two families with incomes
  of 50,000 and 75,000 may differ significantly.
• The basic necessities of life bread, milk, and
  butter, for example differ little in quantity
  purchased by a family of four at these income
  levels.

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Example Proportional Tax -- Regressive Effect

• Groceries for a family of 4
• (2 teenagers) might cost 200/week
• A sales tax of 4.5 would be 9/wk
• Over 1 year, the sales tax on groceries would
  total 468
• For a family with an income of 100,000/yr.
  .468 of income
• For the same family (same eating habits) earning
  50,000/yr., sales tax on groceries .936 of
  income

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Proportional Sales Taxes Tax the Wealthier, Less

• The family with the higher income level spends a
  lower percentage on the sales tax related to
  these items.

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But Proportional Sales Taxes Tax The Less
Wealthy, More

• The family with the lower income level spends a
  higher percentage on the sales tax related to
  these items.

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Regressive Taxes

• A regressive tax requires those with higher
  incomes pay lower percentages of their income.

• Social security taxation system
• At the beginning income levels all individuals
  pay 7.65 of their income in FICA tax
• FICA taxes are not collected after ones income
  reaches 68,400

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Regressive Taxes, cont.

• FICA is a regressive tax.

• An individual earning 68,400 would pay 5,232.60
  each year in FICA taxes.
• An individual earning twice that rate, or
  136,800, would pay the same FICA tax amount or
  3.825 -
• 1/2 the of income that the 68,400 earner
  would pay!!

FICA - Federal Insurance Contributions Act
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Progressive Taxes

• Progressive taxes are those that increase as a
  percentage along with income
• Federal income taxes are designed to be
  progressive

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Tax Brackets 2002 Taxable Income
Joint Return
Rate
Single Taxpayer
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Examples of the 3 Tax Classifications

• Individual Taxes Paid
  Taxes as a
• Income of Income
• Proportional Taxes
• 1 10,000 1,000 10
• 2 50,000 5,000 10
• 3 100,000 10,000 10
• Regressive Taxes
• 1 10,000 500 5
• 2 50,000 2,000 4
• 3 100,000 3,000 3
• Progressive Taxes
• 1 10,000 300 3
• 2 50,000 2,000 4
• 3 100,000 5,000 5

Illustration Proportional, Regressive,
Progressive Taxes
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• Good taxes
• are generally considered to be
• progressive
• while Bad taxes
• are considered to be
• regressive.

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Property Taxes

• Property taxes are the primary source of revenue
  for financing education
• This tax would be referred to as an ad valorum
  tax because it taxes a portion or a percentage of
  the propertys value
• Mills are the tax rate on a certain portion of
  the assessed value of a home

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Property Taxes, cont.

• Property taxes are supposed to be
• proportional
• but have the effect
• of being regressive

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Property is Taxed in Mills

• Property taxes are frequently expressed in terms
  of mills
• A mill is a unit of monetary value equal to 0.001
  of a dollar or one tenth of one cent
• The method for determining the tax rate is as
  follows

• Rate
• Amount of Tax
• Revenue to be
• Raised
• Tax Base or
• Property Value

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Taxing in Mills

•   According to this formula, if there is a total
  value of 500,000,000 of real estate in a
  locality and 5,000,000 in taxes needed to be
  raised for services, the formula would look like
  this
• 5,000,000
• 500,000,000 1.0 or 10 mills

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Mills Are the Tax Rate on a Portion of a Homes
Value

• Most frequently, the tax rate is expressed as a
  dollar figure based on 100 of the assessed
  homes value
• For example, the tax rate may be 1.50 per each
  100 of homes assessed value

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Property Taxes Have a Down Side

1. Taxing a homes value is taxing unrealized
   profits the owner would have to sell the home
   to get the assessed monetary value versus the
   price that was paid. It is a paper profit
   until the home is sold

1. Property taxes are seen as a threat to the
   American Dream of home ownership

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Property Taxes are Costly to Administer

• 1st, locality needs a system to inventory all the
  localitys property
• 2nd, personnel must make periodic physical
  assessments of the property
• 3rd, locality needs a system of appeals for
  contesting valuation
• 4th, tax bills must be sent out collected
• 5th, locality needs a system to collect
  delinquent taxes

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Fair Market Value is Difficult to Calculate

• Realtors use a comprehensive market analysis to
  determine a homes correct selling price
• A 3 bedroom, 2 bath brick rancher on a 1/2 acre
  lot on one side of town may have a greater value
  than the same house on another side of town or in
  another neighborhood
• Comparing assessments generally brings confusion
  anger

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Property Taxes Per Capita, 2002, Selected States

• State Property Tax Rank
• Per Capita
• Alabama 273 50
• California 767 31
• Virginia 838 24
• Illinois 1,163 10
• New York 1,361 4
• New Jersey 1,761 1

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Property Taxes Incite Public Interest

• Since the majority of property taxes support
  schools, it is logical for the taxpayers to voice
  their frustration over tax bills with the schools

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Tax Capacity - Introduction

• Capacity is the ability to pay for
• goods and services
• There are approximately 15,000
• school systems in the United States
• The variance in each
• communitys wealth is great
• The wealth or tax base behind each of these
  school systems to finance the educational program
  is known as fiscal capacity

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Personal Income is a Better Measure of Wealth

• For example, an income of 100,000 per year is a
  better measure of wealth than a home of the same
  value
• The home may or may not have a mortgage. In some
  cases, individuals finance 100 of their home
  through a mortgage
• They have accumulated no net worth in their home
  it is an unrealized asset a paper profit not
  to be realized until it is sold

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Capacity Contributors to an Areas Wealth

• Personal income
• Real estate taxes
• Sales taxes
• Corporate income taxes
• Lotteries other
• gambling
• Other revenues

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Capacity Contributors to an Areas Wealth,
cont.

• Capacity cost of living vary from locality to
  locality, state to state, region to region
  nation to nation.

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Fiscal Effort Introduction

• Fiscal effort means putting your money where
  you say your priorities are

• A state or locality can have a great deal of
  capacity to fund education and may elect not to
  do so
• On the other hand, a state or locality can have
  limited capacity and apportion a great deal of
  effort into funding education

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Factors Influencing Effort

• History of effort, attitudes toward taxes
• The overall taxation structure
• The percentage of students attending public
  versus private schools in the area
• The percentage of the population with school-aged
  children or grandchildren in the area

• Many factors determine the level of fiscal
  effort the public is willing to provide for
  education

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Effort

• Effort may be defined as the level to which a
  governmental entity uses its capacity to support
  public education.
• A simple formula for determining fiscal effort is

• Fiscal Effort
• Revenue Collected
• for Education

Overall Tax Base (Capacity)
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Effort Equalizes for Capacity When Comparing
Expenses

• It would be unfair to compare a locality,
• state, or nation with others by education
• expenditures, alone draw conclusions
• except how wealthy a locality, state or nation
  is
• Effort is a vehicle to determine how much of
• a priority education is within some
• jurisdiction

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Equity An Introduction

• Equity has been at the core of school finance
  reform efforts court decisions since 1976s
  Serrano v. Priest decision from the California
  Supreme Court

• Basically, the court found that while
  Californias system for financing education did
  tend to equalize funding among the school
  districts, the system also generated revenue
  proportional to the wealth of the school and the
  school district. Such funding violated the idea
  of equity.

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Equity v. Equality

• Equity can be defined as a fairness issue both
  for students and for taxpayers
• Equity should not be confused with equality
• Equity is providing for what students need while
  equality is providing the same for all students

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An Equity Scenario
School System A

• Two relatively similar school systems have
  roughly the same level of capacity to fund
  education the same number of students, about
  10,000
• Both receive about the same funding from the
  locality and the state
• Both school systems draw from upper middle class
  neighborhoods

School System B
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An Equity Scenario, cont.
School System B
School System A
20 of its students eligible to receive special
education services .
10 of its students identified as eligible to
receive special education services.
Equality OK financing to meet needs of these 2
schools systems Equity NOT OK. School System
Bs students needs are greater than School
System As. School System B must spend more
funds to meet the identified special education
populations needs than does School System A.
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Income Taxes 2nd Major Source of State Income

• State Per Capita Rank
• Personal Income, 2000
• Mississippi 20,856 50
• S.Carolina 23,952 40
• Vermont 26,904 30
• Illinois 31,842 10
• California 32,225 8
• New York 34,502 4
• Connecticut 40,870 1

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U.S. Income Taxes Single Taxpayer

• If Taxpayer Income is Tax Rate is
• Between But Not More Than
• 0. 6000. 10
• 6000. 26,250. 15
• 26,250. 63,550. 27
• 63,550. 132,600. 30
• 132,600. 288,350. 35
• 288,350. ------ 38.6

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U.S. Income Taxes Joint/Married Taxpayer

• If Taxpayer Income is Tax Rate is
• Between But Not More Than
• 0. 12,000. 10
• 12,000. 43,850. 15
• 43,850. 105,950. 27
• 105,950. 161,450. 30
• 161,450. 288,350. 35
• 288,350. ------ 38.6

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Sales Taxes

• Sales tax revenues (from all sources, not just
  retail sales) generated approximately
  290,993,000,000 in the United States in 1999
• Gasoline
• Utilities
• Telephone
• 911 services
• Other

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Lotteries Legal Gambling

• Government-sponsored lotteries are a legal form
  of gambling
• Sells chances to win a prize
• When a government sponsors a lottery, it may be
  considered a voluntary tax

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Lotteries Gambling Revenue Sources for
Education

• When a lottery winner claims the prize, the state
  and federal governments collect income taxes

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Lotteries Legal Gambling

• Legal gambling in the United States grossed more
  than 50 billion in 2000
• That amounts to 180 for every man, woman,
  child in the country

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Legal Gambling Revenue by State, 2000

• State Gross Revenue Per Capita Rank
• (in millions) Revenue
• Oklahoma 62 18 40
• Rhode Island 298 285 30
• California 2,629 78 6
• Illinois 2,680 216 5
• New York 2,739 144 3
• New Jersey 5,451 648 2
• Nevada 9,632 4820 1

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Severance Taxes

• The Department of Commerce defines it as taxes
  imposed distinctively on removal of natural
  products e.g. oil, gas, other minerals, timber,
  fish, etc. from land or water and measured by
  value or quantity of products removed or sold.

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Severance Taxes, cont.

• This tax is quite lucrative for some states, but
  overall, accounts for less than 1 of all states
  revenue
• Some states collect no revenue from severance
  sources while others collect a substantial amount
  of taxes

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Per Capita Severance Tax Revenue for Selected
States

• State Per Capita Revenue Rank
• Alaska 856.33 1
• Wyoming 604.76 2
• New Mexico 244.71 3
• Indiana .09 48
• Illinois .02 49
• Missouri .01 50

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Corporate Taxes

• The corporate income tax began at the federal
  level in 1909
• Congress levied it as an excise tax for the
  privilege of doing corporate business
• Corporate income taxes once generated
  approximately 1/4th of all federal revenue.
  Today, it accounts for less than 10 of federal
  revenue

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Corporate Taxes, cont.

• Corporate income taxes are calculated on

• Sales revenue less production costs, interest or
  rent payments
• Depreciation on capital equipment and facilities
• Any state or local taxes paid

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Corporate TaxesA Double Taxation?

• This tax has an impact
• on the price of many
• stocks and pension plans
• The higher the corporate taxes, the lower the
  stock dividends or stock appreciation to
  investors or the higher the retail price of their
  goods and services to end consumers

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Corporate Taxes Education Funding

• Where there are thriving businesses
• People are employed paying income taxes
• More purchasing and maintaining homes that
  generate property taxes
• More buying goods and services that generate
  sales taxes
• This is a healthy cycle for a local economy that
  will have greater capacity to fund public
  education

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Sumptuary Taxes

• Sumptuary taxes are those imposed by a government
  to help regulate or control activities that are
  seen not to be in the best interest of the public
  
• They are sometimes referred to as sin taxes

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Sumptuary Taxes, cont.

• Smoking and drinking are deemed not to be in the
  public interest
• Governments then regulate their activity by
  taxing them at varying rates above and beyond the
  sales tax

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A Conundrum for Educators

• We receive some of our school operating revenue
  from the sale of substances that we teach our
  students are harmful to them
• Without this revenue, however, our funding
  (already too low) would be further reduced

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Measuring Tax Impact

• Funding for education should be a national
  priority
• The tax impact to fund education needs to be
  equitable
• In a climate of high stakes testing high levels
  of accountability for educators students,
  resources are sorely needed in our classrooms

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Urgent Need for More Resources

• Making AYP for all students will require
  additional funding for professional development,
  supplies, remediation for students especially
  in poor urban schools

• The No Child Left Behind (NCLB) legislation with
  required Adequate Yearly Progress (AYP) goes into
  full effect in 2014

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Securing More Taxes to Support Public Schools

• Results include
• Higher student achievement levels
• Increased public satisfaction with their school
  system
• Customer friendly schools for students the
  community

• Taxpayers must see their extra tax dollars
  impact with positive results in the schools
• Educators must will be held accountable for
  results

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Diminishing Marginal Utility

• Utility means satisfaction
• Consumers try to maximize their satisfaction when
  using their income to buy goods services
• Buying ONE unit of a novel desired item brings
  HIGH satisfaction
• Buying MORE units brings LESS satisfaction

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Diminishing Marginal Utility, cont.

• Buying ONE unit of a novel desired item brings
  HIGH satisfaction
• Buying MORE units brings increasingly LESS
  satisfaction

100
Diminishing Marginal Utility, cont.
U2 U1 1 2 3
4 5
U5
U4 U3
Utility
Quantity
101
Marginal Utility Taxes

• Citizens are proud of the new roads, new schools,
  accomplishments of the school district

• As taxes rise, however, and consume a larger age
  of income, the utility or satisfaction with
  paying taxes tends to decrease unless citizens
  see that the cost brings utility for them in some
  way

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Marginal Utility Taxes, cont.

• People will only be willing to pay taxes for
  schools as long as they see it has utility for
  them
• It is the job of all educators to make certain
  that the tax-paying public sees educational
  utility in a personal way that makes sense to
  them

103
Indicators of a GOOD Tax

• Good taxes have utility make sense.
• Fairness of the Tax System
• Everyone pays something
• Economic Neutrality
• Adequacy of Yield
• Administration Costs
• Convenience of Payment
• Visibility of Benefit

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Fairness of the Tax System

• A fair tax structure has a greater burden on the
  rich than on the poor
• Virtually all agree that a regressive tax system
  is unfair

• Fairness is often in the eye of the beholder

105
Everyone Pays Something

• All citizens enjoy the benefits of government
• Police protect
• Teachers teach
• Fire fighters fight fires
• Soldiers defend
• Roads transport
• All citizens contribute something to the common
  good

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Economic Neutrality

• Ideally, taxes should leave individuals in the
  same relative position after taxes as before
  paying taxes
• Everyones relative position is maintained in
  spite of taxes

• As taxes are diversified through income,
  property, sales, lottery, sumptuary, the like,
  we lessen the non-neutral impact of any one tax

107
Adequacy of Yield

• The cost of administering a tax should not exceed
  the revenue generated by that tax

• If a bridge were built and a toll placed on the
  bridge to pay for the construction, the toll
  should pay for the bridge the means of toll
  collection

108
Administration Costs

• The cost of administering collecting the tax
  should be low
• The income tax is collected with much greater
  efficiency than is the property tax
• Your company deducts your income tax sends it
  to the proper state authority. Minimum personnel
  are involved.
• Property taxes, on the other hand, require a much
  more personnel-intensive collection operation

109
Convenience of Payment

• A good tax is one that is convenient for the
  citizen to pay
• If the public must stand in line for hours,
  shuffle from one office to another, face
  arrogant, rude government workers, tax utility is
  lost

110
Visibility of Benefit

• People need to SEE the obvious value their tax
  dollars bring.

YOUR TAX s At Work