Prop 13 in California, 35 Years Later

On June 6, 1978, thirty-five years ago today, California voters passed Proposition 13, which cut property taxes down to 1 percent (for both homestead and commercial property) and limited the growth rate of future assessments to 2 percent. Once properties are sold, though, new assessments are conducted to value the properties at their market value. In addition, Prop 13 “requires taxes raised by local governments for a designated or special purpose to be approved by two-thirds of the voters,” and all taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. increases to be passed by two-thirds of both houses of the California legislature.

Some Californians worried that capping property taxA property tax is primarily levied on immovable property like land and buildings, as well as on tangible personal property that is movable, like vehicles and equipment. Property taxes are the single largest source of state and local revenue in the U.S. and help fund schools, roads, police, and other services. rates at such a low level would result in devastating cuts to government spending. According to Bruce Bartlett, UCLA economists predicted at the time that Prop 13 would cause California’s unemployment rate to increase by .8 percent, from 5.9 percent to 6.7 percent.

On the other hand, many prominent free-market thinkers, including Milton Friedman, William F. Buckley Jr., and Jack Kemp, advocated for Prop 13’s passage. Donald Hagman, writing in the September, 1978 issue of the Tax Foundation’s Tax Review, warned that these thinkers were mistaken. The property tax, Hagman argued, is one of the best types of taxes, since it’s efficient, equitable, and taxpayers come face to face with their tax burden. Hagman asserted that the lost revenue would be “replaced by revenue generated primarily by sales and income taxes.”

This prediction has proven correct. While California’s property taxes are lower than New Jersey, New York, and even Texas, it remains a high tax state. It has the third worst business climate in the country, the highest top marginal income tax rate in the country at 13.3 percent, a corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. of 8.84 percent, and the highest statewide sales tax in the country at 7.5 percent. But in 1978, California had the fourth highest overall tax burden, and today the state still has the fourth highest burden. Although one cannot say for certain that Prop 13 caused the other taxes to increase, Prop 13 at the very least failed to prevent high taxes and an expansive public sector.

The property tax cap portion of Prop 13 is what is known as a tax and expenditure limit, sometimes abbreviated TEL. Since 1978, many other states have enacted tax and expenditure limits, with Colorado’s “Taxpayer’s Bill of Rights” being the most famous (or infamous, depending on whom you ask). Although these limits come in many different shapes and sizes, they all basically try to rein in government spending or tax collection.

Some new empirical evidence suggests that tax and expenditure limits do not work. Benjamin Zycher, a visiting scholar at the American Enterprise Institute, recently produced a study that finds that the provisions are ineffective. As Zycher explains:

The ineffectiveness of TELs is unambiguous in terms of summary statistics, case-study examination of the records of several individual states, and estimation of an econometric model. . . . In part, it is likely that the limits themselves are the products of the same political pressures and election dynamics that yield fiscal outcomes. Moreover, the competition among political interests that results in budget outcomes also is likely to weaken or circumvent limits that otherwise would be effective.

Matthew Mitchell of the Mercatus Center found somewhat contradictory evidence, however. The results of his study show tax and expenditure limits have at least a small effect on reducing state expenditures as a share of income.

Specific tax and expenditure limits have been successful in limiting government revenue. In a 2010 report for the Manhattan Institute, Josh Barro analyzed the effects of Massachusetts’ 2.5 percent cap on municipal property tax revenues. Barro found that this tax and expenditure limit “succeeded in restraining growth of property-tax collections, total tax collections, and per-pupil education spending in Massachusetts.”

But the fact remains that Prop 13 has failed to rein in California’s public sector. Moreover, as Hagman rightly observed at the time, property taxes fit many of the characteristics of a good tax: they are relatively simple, transparent, neutral, stable, and have a broad base. So while there are some good elements of Prop 13 (especially the prohibition of split roll), we’d rather see caps on other taxes.

More on California.

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