Friday, December 09, 2005

Charleston User Fee Controversy Highlights Need for Local Tax Options

Last week, the state Supreme Court upheld the constitutionality of Charleston's $1 per week "user fee" charged to all people employed within the city. The fee, imposed by Charleston to pay for street maintenance and hiring additional police officers, followed similar fees in Huntington and Weirton.

I believe this was a legally sound decision but the fee is unwise as a policy matter. In defense of the 3 cities with these fees, the Legislature has strangled West Virginia's county and municipal governments and centralized public finances to a greater degree than any other state.

The decision of local taxing powers lies within the Legislature. Fundamentally, legislative oversight of and restrictions on subjects of local taxation are appropriate to prevent grossly unfair local tax policies--such as unduly shifting the tax burden onto nonresidents who have no vote--but this protection from abuse has itself been abused. The predominant source of local revenues are local property taxes. Virtually any major local project in this state requires significant state and federal aid.

In its quest to claim a false cover of being anti-tax and to create in local officials constituencies dependent upon local legislative delegations for funding local projects, the Legislature has denied county and municipal governments the ability to raise revenue. Thus, local officials constantly try to win & retain the favor of the local legislative delegation and congressman. In essence, incumbent legislators & congressmen have a key constituency in their local governments because of this relationship of dependency.

In West Virginia, the overwhelming majority of local property taxes go to schools and overall levies are constitutionally capped. Municipalities are allowed to impose business & occupation taxes (effectively gross receipts taxes) on local businesses. Per dollar of property taxes paid on property located within municipalities, the municipality gets only 8 cents. The B&O taxes are terribly unfair to businesses and bear no proportionality to profitability or other reasonable basis for taxing a business. Some towns--most notably Summersville--have turned their police departments into lean, mean ticket-writing machines that fleece unlucky motorists. The constitutional cap on levy rates is the only good policy of the bunch.

Unlike many other states, West Virginia counties & municipalities cannot levy income, sales, or other common local taxes. A law passed in 2004 and originally scheduled to take effect this year--since delayed to 2008--would allow a 1% municipal sales tax in municipalities that abolish their B&O taxes. However, even before the delay, every municipality that has a B&O tax reviewed this option and found it unacceptable, though municipalities without B&O taxes are considering the sales tax as a future option.

During its study of West Virginia's tax system in the late 1990's, the Commission on Fair Taxation--chaired by then Tax & Revenue Secretary Rob Capehart, now the Chairman of the West Virginia Republican Party--included local taxation within the scope of its study. The major changes proposed to local taxation included the abolition of personal property taxes, the reallocation of real property taxes from schools (which would be funded from state funds) to the counties & municipalities, and allowing local sales & income taxes. The Commission stated:

Local governments in West Virginia are hamstrung by Constitutional and legal restrictions, which result in counties and cities having less fiscal flexibility than in any other state. The maximum property tax levies are set in the State Constitution and reflect the fears of the Depression when homes, farms and businesses were being sold for back taxes. Unlike boards of education, municipalities and counties must gain a super majority to pass bond issues. Municipalities may impose a B&O tax, which the State repealed for most businesses effective July 1, 1987. But use of this tax drives businesses to locate just outside city boundaries.

Other states allow for their local governments to "piggyback" onto state levies. This can be done by permitting local entities to share a state tax. Under this system, the state collects the taxes for the locality and remits the funds collected after the subtraction of appropriate administrative expenses. Usually the additional rate the local government can use is set in state law and the city or county must use the state base. The piggyback approach reduces local government compliance costs and the uniform use of the tax base likewise keeps state and taxpayer compliance costs down.

The Commission has, therefore, recommended that counties and cities be given the authority to piggyback onto two State taxes -- the progressive income tax and the general excise tax. The Commission recognized that each of these State taxes might have a different appeal to various localities, depending on their location and income base. Municipalities would have the option to use one or both of these two taxes or retain their B&O tax. In all cases, voter approval would be required before either or both of the piggyback taxes could be imposed.

Standing alone, the recommendation of the Commission to eliminate the property tax on tangible personal property could present serious fiscal problems for local governments because it would reduce the local property tax base by more than half in some counties and in many cities. Without an alternative source of revenue, it would be impossible for local governments to maintain current levels of services.

Since the Commission has proposed elimination of the school property tax, that levy authority would be available to cover much of the loss of personal property tax revenues, without there being any increase in overall taxes on real property. The Commission is proposing that local governments be allowed to use up to 90 percent of the school levy on real property. The remaining 10 percent of the abandoned school levy on real property would be used by the State for equalization of education funding. This proposal is further explained in Chapter Three, Section IX of this report.

If the portion of the abandoned school levy on real property did not prove sufficient to replace the lost personal property taxes in a county or city, then the Commission proposes establishing a replacement fund which will consist of 50 percent of the taxes on centrally assessed real property of public service corporations (electric and gas companies, railroads, airlines, water companies, etc.). In addition, this fund would include 2.325 percent of the State's share of the regular severance tax on coal. Since most of the counties which would need replacement money are either heavy coal producing counties or have significant electrical generation plants, the plan returns taxes based on their origin.

I believe the proposal by the Commission on Fair Taxation is a very responsible approach to both state and local taxation. In fact, I would probably go beyond that proposal relative to local taxes and abolish municipal B&O taxes and the "user fees" 3 cities impose on people employed in those cities. They 2 main keys to any expansion of local taxing authority are (1) establishing a fair tax base and (2) establishing effective accountability to voters and taxpayers. West Virginia's counties & municipalities need options other than groveling before the local legislative delegation, hat in hand.