Chapter 17

Taxes on Wealth
Property and Estates
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 A Comprehensive Wealth Tax
Base
 Real Property is property such as land
and the structures on the land.
 Intangible Property is wealth that is held
as paper or financial assets. 
 Personal Property is wealth that is held
in the form of cars, furniture, clothing,
jewelry, etc.

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 Measuring Wealth
 Market value can be used to establish the
value of most real property and intangible
property but personal property has no
acceptable resale market.
 Serious inequities can arise from
mismeasurement of wealth and serious
shifting can take place when one form of
wealth is taxed while another is not.

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 Assessment of Property
Value
 For the property tax, the assessed value
of a home and the land upon which it
sits is quite subjective. Real-estate
markets exists for many homes but not
others.

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 A Comprehensive Wealth Tax
A comprehensive wealth tax would tax all
forms of capital equally.
If W = Ri/(1 + r)i then the effective tax
rate on savings would be ts = tWW/Ri
Where
 Ri = the return to asset I
 r = the interest rate
 tW = the wealth tax rate
 W = Wealth
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 Figure 17.1 Impact of a General Wealth Tax When
the Supply of Savings is Perfectly Inelastic
Return (Percent) S

r*
G tW W
Ri
r*
G

D = rG
tW W
rN = rG –
R1
0 Q1
Annual Savings and Investments
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 Figure 17.2 Impact of a General Wealth Tax When
the Supply of Savings is Responsive to Changes in
Annual Return
Return (Percent) S

r*
G1
r*
G

r*
N1

D = rG
tW W
rN = rG –
R1
Q2 Q1
Annual Savings and Investments
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 Selective Property Taxes
 Property Taxes in the U.S. are typically
selective in that real property is taxed,
some forms of personal property are
taxed, and intangible property is not
taxed.

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 Wealth Taxes in an Open
Economy
 Capital mobility has increased dramatically in
recent years.
 Wealth taxes in a nation discourage foreign
investment in that nation.
 U.S. gross investment has declined from 22%
of GNP in 1959 to 17% in 1999.
 U.S. net foreign investment is negative
meaning that foreign capitalists are investing
more in the U.S. than U.S. capitalists are
investing abroad.

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 Local Property Taxes and Tax
Capitalization
 Property Tax Differentials are the differences between
what would be owed in one community on a particular
piece of property relative to what would be owed on an
identical piece of property in a different community.
 If the differential is high, then people will be willing to
pay less for property in the high-tax community and
more for a home in the low-tax community. The tax
differential will be capitalized into the value of each
home. The present value of the differential over the
expected length of time the differential will hold will be
the difference in the price of the two pieces of property.

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 Figure 17.3 Impact of a Property Tax on Housing
Rents
S
Rent per Square Foot (Dollars)

120
Y
100
tV =
t
$60
60

D = Gross Rent
Net Rent = Yt – t Vt

0 Q2 Q1
Housing Rented per Year (Square Feet)
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 Capitalization and the
Elasticity of Supply
 Full tax capitalization only occurs if
there is no supply elasticity.
 Land is perfectly inelastic but structures
are not.
 A differential tax will cause building in
one area and less building in another.
 After such shifting there is less than full
capitalization of the tax differential.

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 Property Taxes in the U.S.
 Fractional Assessment is the practice of assessing a
property at only a fraction of its true value. Typically
this implies that the tax rate is higher.
 Nominal Tax Rates are the rates of tax per assessed
value that a property owner must pay.
 Effective Tax Rates are defined as the taxes owed
per true market value.

For instance, Newark N.J. has a nominal tax rate of 23.85%,

but the assessed value of a piece of property is typically only
16.4% of its market value. Thus, the effective rate is 3.91%.
The average U.S. effective rate is 1.67%, the median 1.42%.
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 Reliance of the Property Tax
by Local Governments
 The property tax is an important source
of revenue for most local governments.
 It raises more than 95% of all local
revenue in CT, ID, MA, MN, MT, NH,
NJ, RI, VT, WI.
 In no state is it less than a third of local
government revenue.

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 Property Tax Preferences
 There are often “circuit-breakers” that do not
allow assessed evaluation to increase more
than a fixed percentage in a period of time to
help the elderly living on fixed incomes.
 
 Agricultural land is also taxed at a much lower
rate than residential and commercial land.

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 Land Taxes
 A criticism of property taxes is that it
reduces the incentive to build on a piece
of property.
 A solution is to impose a tax on the land
rather than the buildings on it.

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 Figure 17.4 Impact of a Land Tax

S
Rent per Acre

R*
G

tV
R*
N

Entire Tax Borne D = RG

by Landlords
RN = RG – tV

Q1
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 Estate and Gift Taxes
 The estate tax places a tax on the estate of
those who have died before their assets may
be transferred to their heirs.
 The gift tax prevents people from avoiding the
estate tax by giving away their assets before
they die. You may give up to $10,000 to each
person per year.
 These taxes were substantially reduced in
2001.

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