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Reform of Local Public Finance in Virginia – Part II

In 2002, JLARC recommended an “adjustment” to the Composite Index (‘CI’) for (High) Population Density. The rational is that localities with a high population density face mandatory expenditures, for example public safety, not present in other areas. In effect, less revenue capacity is available for public education, and the CI should be adjusted accordingly. I find this observation compelling, but incomplete.

JLARC’s finding has importance beyond the specific recommendation. It is a recognition that the ‘one size fits all’ paradigm of the existing CI does not account for the rich diversity of Virginia’s localities. It introduces an element of qualitative distinction into a locality’s ability to pay (or collect). It is a step away from the myopic quantitative reductionism of the CI. This recognition of the diverse nature of Virginia’s should be extended beyond high population density areas.

Low population density localities cannot raise their real property tax rates without imperiling their remaining open space land. But the CI forces them to do so. Because the CI includes open space land at ‘market value’, it routinely results in decreased Commonwealth aid to localities with large per capita open space valuations. The CI is biased against open space and quickens its destruction by encouraging conversion and development. The current CI formula only makes sense if open space is viewed as a wasted opportunity until it is developed.

Indeed, JLARC’s silence on low population density localities betrays the indifference to open space preservation which is the source of the relentless and accelerating loss of our natural heritage. To the CI, our remaining open space is simply a commodity, (like pork bellies). Moreover, it is likely that the perverse consequence of the CI will accelerate. With the bursting of the real estate bubble, real estate values are decreasing statewide. However, it is not necessarily true that all classes of real estate will decline at a uniform rate. There is increasing anecdotal evidence that open space land is maintaining its ‘market value’, or declining at a rate less than other classes of real estate. To the extent this is the case, localities with large open space valuations can expect disproportionate increases in their CI, and thus accelerating loss of state funds. The CI’s perversity will likely worsen.

JLARC’s solution is to apply a statistically derived adjustment to decrease the revenue capacity available for education in high population density localities. Similarly, revenue capacity should be adjusted in low population density areas. Under the strict comparative revenue capacity paradigm of the CI, if a tax base (including most importantly open space land) could yield a certain amount at statewide average rates, then it should yield that amount. This is the source of the CI’s bias against open space preservation. Indeed, the General Assembly has statutorily recognized the most extreme example of this prejudice in the case of Highland County. But the difference between Highland and other low density areas is one of degree only.

If open space preservation is to be the policy of the Commonwealth, the appropriate adjustment to the CI is obvious: remove the value of open space land from the revenue capacity of all localities. To the extent that open space valuations serve as a ‘proxy’ for population density, this is only an extension of the existing JLARC proposal. It suggests are more complete ‘Population Density Adjustment’ to the CI. The reform of the CI therefore proceeds in three steps:

1.      Calculate the CI as it now is to provide a base line for comparison.
2.      Calculate an Open Space Preservation CI (“OSP CI”) with the value of Open Space removed from the True Value of Real Estate sub-variable in the CI.
3.      Apply the JLARC Population Density Adjustment to the OSP CI.

Under the OSP CI forty six localities with a population of 4,585,980 (60.6 percent of the total) are disadvantaged and suffer a loss of funds. Eighty localities, with a population of 2,540,316 (33.7 percent of the total), gain from the reform. The point change (and therefore per student funds change) for disadvantaged localities is much less than the change for advantaged localities. Only one locality suffers an increase of more than 200 points, and only eight increase by more than 100 points. In contrast, 65 localities benefit from a decline of 100 or more points in their CI, of which 46 decline 200 points or more. This indicates that under the unreformed system, open space land is subsidizing other property on a continuing basis. The total of lost funds to disadvantaged localities is approximately sixty million dollars.

Forty four localities are included (by design) in the JLARC derived (High) Population Density Adjustment. They are very nearly the same as the localities disadvantaged by the OSP CI. Thirty nine localities, with a total population of 4,139,987 (54.73 percent of the total), benefit from the (High) Population Density adjustment. The total cost of the (High) Population Density adjustment is approximately 105 million dollars.

Only seven localities with a population of 445,993 (6 percent of the total) derive no benefit from either adjustment. Additionally, fourteen localities derive minimal benefit (less than $50 per student). If we add a guarantee of at least $50 per student benefit, the additional cost is approximately 8 million dollars.
Thus the total cost of the reform is approximately 173 million dollars. Funds of this magnitude must be found for the reform to succeed.

In review, the existing CI reduces Virginia’s localities to sum of their tax bases. All real estate is reduced to the least common denominator of price, to the detriment of open space land. At the same time the CI fails to recognize the special expenditure requirements of densely populated areas. The source of these anomalies is the blind application to all localities of revenue capacity at average rates of extraction. The proposed reform is a modest first step in recognizing the diverse nature of Virginia’s localities.

Next: Paying for Reform.

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