The Inflation and Property Tax Death Spiral

The failure of Colorado’s Proposition HH illustrates the tensions between tax cuts, balanced budgets, and the provision of K-12 education.

News coverage about Tuesday's off-year elections primarily centered around the Mississippi governor’s race, Virginia assembly races, and Ohio’s pro-choice and marijuana legalization ballot initiatives. However, several states also voted on referendums regarding their state’s economic policy. The most fascinating was Colorado’s Proposition HH, a convoluted attempt to lower property taxes, increase government revenues, and fund K-12 education all in one go. While the attempt failed, it illustrates a lot about the political economy of inflation and tax collection, so it will be the subject of today’s post.

First, some background. Due to its great environment, strong business climate, and (let’s be honest) legal weed, Colorado’s housing market has been expensive for some time. In fact, it has the four most expensive non-coastal housing markets in the entire country. Housing supply is also constrained, with the state short tens of thousands of houses and hundreds of thousands of rental units. All of this has resulted in rising property valuations and rents. 

While these valuations can be a boon to owners, allowing them to charge more to tenants and sell at higher prices, they’ve also created an issue for them: higher valuations means a higher tax bill. Property owners in Colorado used to be protected by the Gallagher Amendment, a provision in the state constitution that protected homeowners from rapidly increasing property taxes as a result of rising property values, but it was repealed just in time (2020) to expose property owners to the full brunt of inflation in post-pandemic America. Across the state, property tax bills have grown by between 30 and 60 percent, far outpacing inflation. This has the effect of discouraging investment, driving up rents, and —in the eyes of some— bloating the size of local government budgets.

The most recently-proposed solution to these problems was Prop. HH, placed on the ballot by the Colorado legislature and strongly backed by Governor Jared Polis. The proposition would do the following: 

1. Reduce property tax rates for residential and commercial property and increase valuation reductions (i.e. the amount of a property’s value that is not subjected to any tax rate)

2. Place a moving cap on the amount of revenues cities can collect in property taxes

3. Use state funds to compensate local governments and school districts for lost tax revenue through 2032

4. Increase the state spending cap imposed by Colorado’s Taxpayer Bill of Rights (TABOR) constitutional amendment in order to keep the state budget balanced

In summation, Prop. HH would lower property tax revenues by cutting rates and restricting cities’ abilities to keep rates obstinately high. Since that would reduce city revenues —the primary source of funding for Colorado’s K-12 schools— the proposal then reimburses cities for some of their lost funds. In a final twist, to balance the state budget, the state’s spending cap is raised, thus shrinking the pool of state funds left available for tax refunds. In short, It’s a complicated plan, and many criticisms were leveled at its different parts.

One criticism was that the government had no business trying to implement a state-wide solution to high property taxes and that the problem was best addressed by local governments. One could imagine that local governments could compete in a race-to-the-bottom to bring down their property tax rates to attract investors and promote housing construction. Due to a mix of policy rigidity, aversion to austerity, and a lack of other available revenue sources this hasn’t happened. Besides, high property taxes is a statewide issue, and requires a statewide solution. Even conservatives appear to now accept this, as they’re now pushing their own solution, called Initiative 50, on the 2024 ballot.

Another criticism is that Prop. HH would spell the death of TABOR, the 1992 constitutional amendment approved by voters that limits the amount of revenue the state government can retain and spend. Since the state government usually collects beyond this limit, taxpayers receive a refund each year known as a TABOR refund. The only way state spending can increase beyond the TABOR-proscribed limits is through a ballot initiative, last accomplished by Referendum C in 2005. Prop. HH would extend the limits of TABOR further, allowing the state to raise its revenue cap by an additional 1 percent each year going forward, growing the state budget by as much $2.2 billion per year through 2032. Over time, this change will shrink the amount of excess state revenue available for TABOR refunds, though it is difficult to determine by how much, as the excess cash available for refunds is determined by the general state of the economy and all of the multifaceted factors that affect state revenues.

Source: Legislative Council of the Colorado General Assembly Research Publication No. 793-2

Another popular criticism was voiced by Michael Fields, president of Advance Colorado, one of the three large dark money organizations that spent millions opposing Prop. HH:

HH was a deceptive measure, crafted in secret, to give Coloradans a huge tax increase wrapped in tiny tax relief.

If true, this would be a damning indictment. The effect of the proposition would be to simply redistribute the tax burden away from property owners and toward those who work for an income, a move that many would interpret as regressive and unjust. The welfare effects of Prop. HH are admitted not entirely clear. The property tax cut is obviously regressive; the more your property’s worth, the more you'll save. It’s estimated that the property tax cuts would have reduced the average homeowner’s tax bills by a few hundred dollars. However, those losses to the state budget would primarily be recouped by large cuts to the TABOR refunds of those earning more than $289,000 annually. For people earning less than $99,000 annually, their TABOR refunds would actually increase in 2023, and afterwards decline by an estimated few dozen dollars in the years to come. Some proponents billed this as a selling point: Prop HH would give a much-needed reprieve to those who need it most and ensure that the rich are paying their fair share.

Source: Axios

In the end, Prop. HH suffered a pathetic 60-40 defeat. President of the Colorado State Senate Steve Fendberg, a supporter of HH, explained the result thusly:  

Prop HH was a nuanced, balanced policy that appears to have fallen prey to a misinformation slogan campaign by the far right, who would prefer to cut property taxes on the backs of our schools and fire districts.

There was misinformation about Prop. HH. To give one example, the aforementioned Michael Fields spent millions convolutedly trying to convince voters that Prop HH amounted to a property tax hike. But if Prop. HH fell to misinformation, it is in part its own fault as it was perfectly designed to do so. As local media put it, “Even the simplified explanation of Prop. HH is confusing.” And when people are confused by things, they don’t vote for them and are susceptible to more simple and compelling (and possibly false) narratives. 

Rising property taxes —like rising property values— are not unique to Colorado. On the same day that Prop HH failed, a similar referendum, Proposition 4, passed with an overwhelming 83-17 margin in Texas. Proposition 4 reduced property taxes and invested state funds into K-12 education. However, there are no TABOR refunds to complicate the issue in Texas. Additionally, Proposition 4 enjoyed bipartisan support, and as a result, millions of dollars worth of dark money did not pour into the state to add to voters’ confusion. 

The path forward for Colorado remains difficult, but it, like many other states, will need to find a solution that gives relief to property owners, protects local services, and balances the state budget. Accomplishing all of that, and getting voters to like it, will be difficult but as Texas —of all places— attests it can be done.