California Voters May Opt for Value Capture to Save Transit from the Pandemic

Addressing a conference on urban issues held in San Francisco, the British author and economist Barbara Ward (famous for several best-selling books on international equity and developmental economics) explained a key challenge afoot in the Bay Area. The year was 1967, and the locals were anticipating the launch of its ambitious regional subway, BART (Bay Area Rapid Transit).

“I have seen estimates that the windfall gain to property owners around the Bay Area Rapid Transit Scheme’s thirty stations will be nearly a billion dollars,” said Ward. Warning that, at a time in which America’s urban areas were paying more in taxes than they were receiving in federal receipts, the region absolutely could not afford to see public investment seep out to private hands.  Ward noted that the Erie Canal recouped much of its costs through taxes on the lands it enhanced, and said that the Bay Area could do much the same sort of value capture today. “Has the city the courage of the old builders of the Erie Canal?”

As it turned out, the city, and in fact the entire state of California, did not have this courage. Financing for BART fell mainly upon regressive sales taxes.  (BART enacted a three-county sales tax regime that is now its second-largest source of revenue after fares. Other regional transit agencies, featuring more modest buses and light rail, got funded in a similar way: the Transportation Development Act of 1971 shared sales taxes on a statewide basis and became a pillar of transit revenues that lasts to this day.)

Meanwhile, as the 1970s stretched on, amidst worsening stagflation a homeowner-driven tax revolt resulted in enactment of Proposition 13 in 1978. By amending the California State Constitution to impose strict restrictions on ad valorem taxation, homeowners got what they wanted: reduced property tax obligations. Property tax is capped at 1% of the assessed value, which is frozen for each landowner; assessments cannot increase more than 2% each year. (Note that this isn’t simply true for residential homeowners; all landowners received this subsidy.)

The impact was dramatic; by severing the direct means of recouping land value uplift, California kicked off cycles of ever-more expensive real estate with increasing austerity. School funding in California dropped from 7th-highest in the nation before Prop 13 to 41st by the mid-2010s. Transit agencies had to re-up on sales tax measures in order merely to preserve declining service frequencies.

Now, this election year of 2020 brings for the first time the opportunity to peel back these restrictions in the state Constitution. Prop 15 (the Schools and Communities First Initiative) is on the ballot this November, and if enacted will strip away a large amount of Prop 13’s impact: assessments will be restored to current fair-market value for all commercial landowners. The initiative, pushed by a coalition of public employee and teacher unions, would create dedicated pipelines to restore this revenue (overall on the scale of $10 billion/year) to school districts, transit agencies, and other sources of public infrastructure.

And it couldn’t have come at a more necessary time: the pandemic of 2020 has been devastating to transit. Declines in ridership of 90% or more have been seen on the commuter-heavy lines. For agencies such as BART, funded 65% by fares, the shortfalls have been enormous: a projection of $78 million decrease in revenues in 2020, $177 million decrease in 2021. And the picture is even more alarming for transit that serves a lower-income clientele: Alameda County’s AC Transit, serving Oakland and other disadvantaged communities, is experiencing budget shortfalls that are, in the absence of new revenue sources, going to force the agency to close 30% of its current service capacity, hurting those who can least afford it. This goes hand-in-hand with a struggle to pay for critical supplies to make each trip safer: masks and sanitizer.  

California’s transit woes are a reflection of how different tax policies result in different levels of robustness in this pandemic.  Sales tax revenue is expected to decline statewide by 30%, whereas property tax is expected to be robust even in the face of a pandemic. 

Interestingly, clawing back value capture from Prop 13 via constitutional amendment isn’t the only way that California has to restore value capture.  Even though ad valorem taxes are restricted and gummed-up, there are certain workarounds that allow some more imperfect methods of recapture. Parcel taxes are common: a flat rate imposed on all parcels, this smooths things out unduly, but in a situation where every parcel in a city has benefited from public investment (generally the case in the Bay Area, where median home prices north of $1 million are the norm), it can be a reasonable approximation. Special districts, Mello-Roos, can be set up with special property tax provisions for additional community facilities, but they don’t scale. A more interesting opportunity, however, is being explored with Land Value Increment Taxation districts.  

Such a district would impose a progressive capital gains tax on real estate sales within a Transit Value Capture District, which could be defined as a radius from a fixed-rail station or high-frequency bus stop, of 0.25 to 1 mile.  The imperfection would be that imputed rents would be left alone, and value recaptured only upon each sale, but in the long run, this offers some interesting potential. The regional transit planning organization for the Bay Area, MTC, listed LVIT (which they dubbed a “windfall tax”) as a potential source for future revenue, as part of its recent housing study.  

Even if it’s decades removed from Barbara Ward’s original warnings, it’s reassuring to see transit officials now exploring the potential of value capture. As BART director Rebecca Saltzman recently noted on Twitter, “During BART Board discussion on a second Transbay Crossing I raised the issue of huge economic activity and wealth that would be generated by this investment. I asked staff to study how BART and the public could recapture some of this for operations and maintenance, and they will. If BART had captured a small portion of the massive amount of wealth generated by the first Transbay Tube, that could have funded BART operations ongoing. Fares could be much cheaper. We would not be playing catch up on infrastructure investment. We can’t let this opportunity pass again.”

3 replies
  1. Wayne Luney
    Wayne Luney says:

    According to the article Barbara Ward said that much of the costs of the Erie Canal were recouped by taxes on nearby property that was served by the canal. Such taxes were indeed authorized but were not implemented. The revenue from tolls was high enough that the taxes did not need to be applied.

    Reply
    • Mark Mollineaux
      Mark Mollineaux says:

      Ah, very interesting; I took Ward at her word, is there a history of the authorization/tax regime of the Erie Canal you recommend looking at?

      (Note: I meant to reply with this a month ago, but the reply got eaten, whoops)

      Reply

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