Property Taxes in Arkansas
December 5, 2017
This week Arkansas’s Tax Reform and Relief Task Force continues its work of investigating how to improve the tax system in Arkansas. In addition to hearing from legislators from Indiana, North Carolina, Kansas, and Oklahoma on their tax reform experience on Tuesday, the task force will discuss property taxes on Wednesday.
As we did for last month’s discussion of sales taxes in Arkansas, we offer a few suggestions for how Arkansas can improve its property tax. In Chapter 6 of our book Arkansas: The Road Map to Tax Reform we overviewed Arkansas’s property taxes and gave a few suggestions for reform. But since property taxes are mostly a local issue, and our focus was on the state-level tax system, we limited our reform suggestions.
Arkansas’s first property tax reform should be to eliminate the state’s franchise tax, a tax on the net worth of businesses. The franchise tax doesn’t raise much revenue, disproportionately falls on certain industries (primarily capital-intensive ones), and is rare across U.S. states. Only 16 states currently have taxes like Arkansas’s franchise tax, commonly known as a capital stock tax. This is a literal tax on capital accumulation, stunting economic growth in Arkansas.
And states have been phasing them out recently. While all of our neighboring states recently had capital stock taxes, Missouri recently phased its out, and Mississippi’s will be phased out fully in 2028. This is a common trend across states, and one Arkansas should consider following. Removing the franchise tax is a fair and efficient way to attract businesses to the state and encourage home-grown business development.
Second, the state should work to eliminate its inventory taxes. Only 12 states fully tax business inventory as personal property. In Arkansas, the inventory tax is not a separate tax, but rather is included as a part of local property taxes. Estimating revenue impacts is therefore challenging, as local governments typically do not report a separate line for inventory tax revenue specifically. Taxing business inventory imposes a significant burden on a select group of businesses and industries, while most businesses do not have to worry about the tax very much.
Arkansas has very low property taxes by almost any measure. In our background research for the book, we learned that many Arkansans know about our low property taxes, and they like it. Keeping tax burdens low is an admirable feature of any tax system, but in this case it is a double-edged sword. By keeping property taxes much lower than other states, while still having similar spending levels, other taxes (primarily sales and income taxes) must be higher. In other words, part of the reason that Arkansas has such low property taxes is because we have very high sales and income taxes (we discussed how high these taxes are in our previous blog post).
Low Property Taxes
Given that the task force is going to discuss property taxes, we also decided to take a deeper look at property taxes in Arkansas. When making comparisons of tax systems across states (as the task force is charged with doing), it is crucial to consider the state’s tax system as a whole. This means not just the mix of tax types, but also the mix of state and local taxes. Arkansas has a very centralized system of state finance, with 79.8 percent of taxes collected at the state level, the third highest in the nation (the average for states is 61.5 percent), in part driven by the fact that property taxes (primarily a local tax) are so low.
By almost any measure, Arkansas has low property taxes. Of all taxes collected in Arkansas (state and local combined), 18.1 percent comes from property taxes. That’s the fifth lowest in the nation, where the average is 31 percent, and lower than all our neighbors (roughly equal to Oklahoma’s). Our two neighbors without income taxes, Tennessee and Texas, rely much more on property taxes (Tennessee at 26.4 percent and Texas at 42 percent of overall tax revenue).
Per capita property tax collections tell a similar story, at only $699 per capita in Arkansas, the third lowest in the nation, where the average is $1,506 (Tennessee collects $863, and Texas $1,734 per person in property taxes). And the effective tax rate (as percentage of owner-occupied housing value) is 0.59 percent, 42nd in the nation, with only Louisiana lower among neighbors at 0.48 percent (Tennessee at 0.72 percent, Texas at 1.63 percent).
While property taxes in Arkansas are primarily a local function, there are good reasons to think of some real property taxes as state-level taxes, even though legally they are local taxes. Specifically, Amendment 74 to the Arkansas Constitution (narrowly approved by voters in 1996) requires all school districts to set a minimum 25 mills property tax. (Because Arkansas taxes based on 20 percent of assessed value, 25 mills is essentially equivalent to 0.5 percent of property’s value.) The proceeds of this minimum property tax for school districts are then redistributed from the state to local school districts. Since local governments (school districts) are required by state law to collect this tax, it makes sense to think of it as a state-level tax.
Amendment 74 was proposed by the legislature in an attempt to satisfy the state’s constitutional requirement to provide an adequate education to all students in Arkansas, a requirement that has been the subject of numerous legal challenges by school districts. School districts are also allowed to tax above the minimum 25 mills, and the extra amount stays in the district for its own budget (there is no maximum). While all school districts in Arkansas currently have additional property taxes, some only add a small amount: fewer than 4 additional mills are added by the districts of DeQueen, Lee County, Barton-Lexa, Mountain View, and West Memphis. On the other hand, school districts in Fouke (49 mills), North Little Rock (48.3 mills), and Genoa Central (47 mills) almost double the minimum 25 mills.
On the other side, the Arkansas Constitution also sets maximum property tax rates for cities and counties. Cities can levy up to 20 mills, while counties can levy up to 21 mills, and there are maximum amounts for specific functions (e.g., 5 mills for library maintenance, 3 mills for roads at the county level, and 1 mill each for police and firefighter pensions). While many cities and counties have maxed out specific function limits, no city or county is at the 20 or 21 mills maximum, indicating these state constitutional limits are not the binding constraint leading to low property taxes in Arkansas.
Another constitutional change, Amendment 79, plays an important part in Arkansas’s property tax system (approved by 62 percent of voters in 2000). Two features are important to note. First, annual increases in property assessments for tax purposes are limited by this amendment. Generally, primary residences (“homesteads”) are limited to 5 percent annual increases, and other property is limited to 10 percent. Another part of the amendment creates a property tax relief credit from the state against any local taxes paid of $350 (the minimum is $300, but the legislature can and did increase it), which is funded by a 0.5 percent general sales tax.
In effect, this property tax relief fund has replaced the most efficient tax (property taxes) with a slightly less efficient tax (the sales tax), going against the advice of economic research. But again, this makes sense given that citizens view the property tax as bad, while the sales tax is viewed more favorably. The aggregate amount of the credit is about $230 million per year.
Property taxes are generally not popular, and this was confirmed during our numerous interviews across the Natural State, but these constitute an area where Arkansas is a low-tax state. As the state considers tax reforms, expanding or increasing the state’s property tax, if used to finance other tax changes, would be a worthwhile consideration. At the same time, the state should move to eliminate its franchise and inventory taxes. These taxes on capital hurt the state’s economic prospects.