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Source:The Continuing Redistribution of Fiscal Stress: The Long Run Consequences of Proposition 13

The History of Proposition 13

Jeffrey I. Chapman

Wikipedia Entry on Prop 13

Proposition 13, the climax of California property tax reform, passed because of a variety of interdependent reasons. This paper argues that there is no direct causality between any single reason, but rather the passage reflected a confluence of events, both exogenous and endogenous to the political process of tax change.

Pre 1977-78

The California Public Economy

In 1965, the two major San Francisco newspapers reported on an investigation of assessment practices of county assessors. They reported that some assessors were receiving campaign contributions in return for adjusting property tax assessments that were significantly less than those business not making contributions. As the scandal developed, the state legislature recognized the opportunity for action, and by 1967, the issue of property tax reform had become politically important. In 1967, the legislature passed a type of property tax reform, the Petris-Knox Bill (AB 80), that required more accurate and uniform assessment. The California State Board of Equalization was given monitoring authority. This innocuous bill took away much of the discretionary power that assessors had utilized to smooth assessment growth. The immediate impact of Petris-Knox was to hurt households because, in the aggregate, many single-family dwellings had been assessed at a lower percentage of market value than business (except for those businesses that had made contributions to the assessors). For example, in the city-county of San Francisco, the average single-family dwelling was assessed at about 9 percent of market value with the average business being assessed at 35 percent. Because of Petris-Knox, many households saw increases in their tax bills while businesses saw declines.

The Initiative Response

This increasing tax burden led to citizen unrest. California is one of seventeen states that allows constitutional change through the initiative process. Although this process was seldom used in the past, it was to become popular beginning in the late 1960s. There was soon to be an initiative to attempt to offset the increases in assessment that was derived from Petris-Knox requirements. This initiative, which appeared on the November 1968 ballot, was sponsored by Philip Watson, the assessor of Los Angeles County. If passed, the proposition would amend the state constitution to prohibit the financing of “people-related services” from property tax sources. Watson defined people-related services to be principally education and welfare. The property tax would be earmarked to fund only property related services, typically police, fire, and general government services. The property tax was to be limited to one percent of market value. The initiative did not identify what would be the source of funding for “people-services.”

In response, the legislature began a pattern that was to continue for the next decade. It waited until the last possible moment to craft a response, thereby requiring a supplemental mailing to voters and a supplemental ballot at the election. Their alternative was also a constitutional amendment which initiated a $750 homeowner exemption and a 15 percent business inventory exemption. Because this was marketed as a “responsible” alternative, and because of the state’s favorable economic climate, Watson’s initiative failed and the legislative alternative passed with 54 percent of the vote.,/p>

The next tax initiative, sponsored by the California Teachers Association (CTA), appeared on the June 1970 ballot. The CTA proposed increasing the state government’s share of educational and welfare expenditures, and increase homeowners’ exemptions to $1,000. Although this initiative did not mention property taxes, the strong implication was that these taxes would be reduced. The League of Women Voters led the opposition, and the proposition gained only 28 percent of the vote.

The November 1972 ballot revealed the second Philip Watson initiative. This was even broader than his first initiative and would have restructured the entire tax system. It placed a limit on the local property tax, raised excise taxes on specific products, and shifted more of the expenditures on welfare and education to the state. While this initiative lost, it apparently stimulated the legislature into undertaking some reforms.

On the last day of the 1972 session, after the November election, the legislature passed SB 90, a major tax reform bill. This legislation expanded the homeowner exemption to $1,750 and expanded the inventory exemption to 45 percent. This bill also gave a tax credit to renters and limited city, county, and special district tax rates to those in effect in either fiscal year 1970 or 1971, whichever was higher. It also placed a limit on the rate at which expenditures for school districts could increase. Finally, it established the rules under which local governments could be reimbursed for the imposition of state mandates. SB 90 was to govern the state’s tax structure until the passage of Proposition 13.

Finally, another initiative was presented to the electorate on the November 1973 ballot. This was a proposal from Governor Ronald Reagan. This initiative would have limited the growth in state expenditures to the growth in personal income. The proposition said little about property taxes, and there was concern that its passage would lead to a shift in expenditures from the state to local levels, and would thereby increase the property tax rate. This proposition was barely defeated, receiving about 46 percent of the popular vote. Five years later, Proposition 13, the Jarvis-Gann property tax limit initiative, passed.

An Aside on Housing Prices

Housing prices in California rose rapidly between 1973 and 1978. However, the 1967 Petris-Knox reform took most of the discretion away from county assessors, so these higher prices were very quickly translated into higher assessed values. Even with the capped property tax rates under SB 90, the new assessed value translated into an increased property tax payment. With mandated assessment at least every three years, it was not unusual for homeowners to discover 40 to 60 percent increases in their property tax bills.

A myriad of reasons have been advanced for the existence of the rapid rise of California housing prices. These can be loosely grouped into demand side and supply side phenomena. Although many of these reasons make sense in the California context, many of them also existed in other states that did not experience these dramatic increases.

Demand for housing might have been affected by the demographic changes occurring during the 1970s. Population growth in California was greater than the U.S. average by about 1.5 percent per year. Concurrently, the average household size in California fell from 2.95 to 2.69 persons. This lead to an increase in the number of households formed of about 18 percent. California was rapidly recovering from a significant 1973-1975 recession, lead by rapid increases initially in the aerospace industry and later by increasing defense expenditures. In addition, the California life style of suburbanization and long commutes encouraged these new households to buy homes (where land was cheap) rather than rent. Further, as housing prices began to accelerate in the latter portion of the decade, speculation in housing may have also played a part in increasing housing demand.

There were also supply changes. In particular, the costs of financing construction increased and the price of land increased. Financing costs increased for two reasons— rising interest rates and a lengthening of the time to complete development. Interest rates rose because of the national inflationary trends, and also because new development in California became to be seen as generating only risky profits because of the increased government regulations. This increased risk would be translated into increased interest charges to developers. Time to complete development increased principally because of increased regulations, inspections, and permit approval delays. One study estimated that the cost of an average home in California increased between 9.4 and 26.6 annually because of delays caused by the California Environmental Quality Act.

Why Were Property Taxes So Difficult to Reform?

The Role of the CourtsIn two papers, Fischel argues that a series of California Supreme Court decisions, collectively known as the Serrano decisions, caused Proposition 13. In the earlier article, he argues that local property tax wealth was divorced from school spending and thus crippled the Tiebout system; this converted most of the property tax into a deadweight loss. Voters responded to this deadweight loss by supporting Proposition 13. This reasoning probably gives the voters too much credit for economic sophistication and a layperson’s ability to understand power-equalization formulas. However, in the latter work, he refines his argument to include the inaction of the state legislature that occurred because of the necessity of funding equalization that Serrano caused. Since the legislature had recently passed AB 65, a very expensive school finance equalization bill, Fischel argues that they may have discovered that the state did not have enough money for property tax reform.

Legislative Paralysis and Then Complexity

In addition to the implicit constraints placed on property tax reform by the courts, the legislature became paralyzed by the magnitude of the necessary changes. Between 1975 and 1978, only two (out of at least 22 proposals) relatively small reforms were enacted: relief for low-income senior citizens and homeowner exemptions for welfare recipients. Major corrections to the property tax system failed to be enacted because the legislature did not know how much money would be available for financing reform and could not agree on the type of reform necessary. Some of the legislators wanted a pure property tax limit; others wanted any reform to be tied to the income of the recipients.

By January 1977, the legislature finally realized that some property tax reforms were necessary. They also realized that the incremental reforms of the past were not going to be sufficient. But, in their view, any major reform would have to be complex. Typical proposals included circuit breakers, split rolls, and complicated relief measures for local government. None passed, partially because of the complexity of the problem, and partially because of the conflict between those who wanted a reform tied to income and those who wanted a reform without regard to any demographic variable. In early 1978, after Jarvis-Gann had qualified, the legislature proposed an alternative that authorized a split roll, limited increases in the property tax to the GNP price deflator for state and local services, increased the state assumption of some of the local government health and welfare costs, set aside some future state revenues for tax-payer relief, and expanded renter, welfare-recipient, and senior citizen tax relief. This proposal required a constitutional amendment and so it appeared on the same ballot as Proposition 13 (as Proposition 8). It failed.

Why local governments didn’t reduce tax rates

If housing prices values were rapidly increasing, the question arises as to why local governments were not cutting tax rates to compensate. Although there was some rate cutting (Chapman, 1981, p.90), it was quite small compared to the magnitude of the housing price increase. There were two explanations. One, based on a case study of Los Angeles, was that cities were changing their labor mix to one of higher priced labor.

Single family dwellings were only about one-third of the property tax base for most jurisdictions. Since California is a single roll state, reducing the tax rate on the single family home would also lead to a reduction in the rate on all other types of property—much of which was not appreciating at anywhere near the single family dwelling appreciation. It is conceivable that too large a tax rate reduction could lead to a decline in total property tax receipts, even if the values of single family homes were rapidly increasing. Combined with an inflation rate of over seven percent during the later part of the 1970s, it is not difficult to understand why local governments were reluctant to cut the property tax rate in any dramatic style. In fact, if local governments wanted to provide cost of living increases for their employees, it would have been difficult to cut the rates at all.

What citizens really thought

By 1978, Californians had been subject to three campaigns against proposed tax cuts that were based on warnings that valuable government services would be cut if the initiative would pass. But by 1978, a majority of the electorate either discounted or embraced this potential outcome. At election time, not only those who advocated reduced government spending were disproportionately likely to support Proposition 13, there was also a high level of absolute support for the proposition among those who favored maintaining public expenditures at their current rate. In a survey taken immediately after the passage of Proposition 13, it was found that those who wanted spending cuts in only four or fewer areas (out of a possible 15 choices) made up 58 percent of the voters and half supported Proposition 13. And, among those who favored increasing spending in at least three areas, 47 percent voted in favor.

It appears as if Proposition 13 passed because voters wanted to cut taxes rather than eliminate a wide range of government services. There was a relative satisfaction with the bundle of services being provided (See Table 4, Shapiro, et al. 1979, p. 5), with the majority wanting to increase or maintain the same level of expenditures except for environmental protection, public housing, welfare and administration.28 The predominant view was that expenditures should be maintained at the same level—a conclusion consistent with the median voter model (Shapiro, 1979, p. 6). As Citrin concludes, “most people want something from government, but if not for nothing, they at least want it for less.”

The role of the state surplus

One reason why voters might have perceived that it was safe to cut taxes and not worry about levels of service provision was the existence of the large surplus that the State was accumulating. This surplus grew for several reasons.

At that time, California had a relatively progressive tax structure (highest bracket was 11 percent and a tax code that was stricter than the federal code). The economy was rapidly growing and generating high income tax revenues. Sales tax revenues were also increasing, because of the inflation that was occurring during the late seventies. The state consistently underestimated the revenue flow.

In addition, as property tax assessments rose, state funding for school districts fell because of the legislative formula that inversely related school districts property tax receipts to state aid. This lead to the state overestimating its actual expenditures.

Finally, Governor Jerry Brown was extremely cautious in his estimates of the surplus so that he could maintain as much flexibility as possible when negotiating property tax reforms. At the same time, William Hamm, the new legislative analyst, was also conservative in his estimates, possibly because this was his first year in the position and he was following the retirement of Alan Post, a virtual icon in the State. For these reasons, the surplus was a moving target. In January 1977, the estimated surplus for fiscal year 1977-78 was $940 million, representing about 7.5 percent of revenues. Eighteen months later, by June, 1978, the cumulative surplus was about $5.9 billion—an increase of $5 billion (with the 1977-78 surplus being estimated at about $3.7 billion. During this time, and especially in the six months before the June 1978 election, there were continual estimates and re-estimates of the surplus, with the magnitude consistently increasing. It is not surprising that the voters might have thought that they would be held harmless if Proposition 13 passed because the state would come and bail them out.

Proposition 13

In June, 1978, Proposition 13 passed by a 65-35 percent margin. Voter polls indicated that the electorate did not accept the opposition arguments, and most believed that the government could provide the same level of services with 10 percent less money and almost 50 percent believed that the same level of services could be provided with a 20 percent cut. Seventy-three percent of the voters believed that the state was inefficient, 64 percent believed it of the counties, 53 percent believed it of the cities, and 45 percent believed it of school districts (Lipson, 1980, pp. 6-7). Proposition 13 components included:

  1. The maximum property tax rate would be one percent of the full cash value of the property. The property tax rate previously passed to pay for debt would be in addition.
  2. The one percent tax was to be collected by the counties and apportioned according to law, to the districts within the counties.
  3. The property tax base (full cash value) is the 1975-76 value of property. Property is reappraised only when purchased, newly constructed, or a change in ownership occurred between 1975 and 1978.
  4. Increases in property value are limited to two percent or the consumer price index,whichever is less. whichever is less.
  5. Any new state taxes must be passed by two-thirds of the state legislature.
  6. Any new special taxes imposed by cities, counties, or special districts must be approved by two-thirds of the voters.
  7. All new property taxes (at either the state or local levels) are prohibited.

Proposition 13 was upheld in Amador Valley Joint Union High School Dist. v. State Bd. of Equal [22 Cal. 3d 208 (1978)]. In upholding the initiative, the court explicitly rejected the argument that Proposition 13 violated the concept of home rule. Opponents argued that since the legislature would now have the power to allocate property tax revenues within the county, it might be biased in how this was done. The court concluded that nothing in Proposition 13 required this outcome. The court also concluded that nothing in Proposition 13 destroyed the taxation powers of local government Proposition 13 was an approximately $7 billion dollar property tax cut. Cities lost about $800 million, counties lost about $2.24 billion, schools lost about $3.54 billion, and special districts lost about $460 million. These losses led to a series of legislative activities that would fundamentally change the fiscal relationships between the state and its local governments.

The Changing State-Local Fiscal Relationship After Proposition 13

The State’s Initial Response—SB 154

The state legislature had only about three weeks to solve the series of problems that Proposition 13 presented. In particular, the legislature needed to devise a property tax allocation formula; they needed to determine how the state could help local governments, and they needed to do something to respond to the electorate’s desires to cut government spending. Governor Jerry Brown’s administration proposed no increases in state public employees’ salaries and no increases for recipients of Aid to Families with Dependent Children. But the bulk of the work was done by a joint conference committee consisting of the Republican and Democratic leadership of the Assembly and Senate. Given the time constraints, the resulting legislation was designed to be a stop-gap solution, with more permanent legislation to be written in the next year. The end result was SB 154 (Chapter 292, Statutes of 1978). Under this legislation (and including SB 2212, Chapter 332, Statutes of 1978, which helped special districts) the legislature provided for the allocation of the revenues collected under the one percent tax allowed by Proposition 13 and provided fiscal aid to local jurisdictions through a combination of “bail-out” (for cities) and “buy-out” (for counties) activities.

The legislature chose a relatively simple pro rata formula to allocate the property tax. The basis for the pro rata distribution was the average percentage of all property tax revenues collected (exclusive of taxes levied for debt retirement) within the county which each local agency collected over the prior three fiscal years. For example, if a city had generated one percent of the total property tax revenues within its county over the past three years, then it would receive one percent of the now lesser amount collected. This simple formula was meant to maintain stability until a longer-term formula was established. However, it did have a significant land use implication that became apparent only after its enactment. In some cases it could be heavily biased against new land development, especially housing.

Even though SB 154 was designed to last only a short time, it had several long-run effects. In particular, there was a shift in funding from the local property tax to the state income and sales tax, which lead to an increased centralization of funding, and ultimately increased control over local activities. The state also forced local governments to tax at their full one percent, and thus differences among property tax rates throughout California were greatly minimized. Essentially, there is now one property tax rate for all California local governments. In this bill, the state also established the base year for state aid to be the average of the three prior fiscal years. This base year remains unchanged to this day.

Finally, and perhaps most interestingly, the allocation formula was based on previous revenues received, not citizen preferences. Prior to Proposition 13, citizens would vote on the various property tax rates that they paid to the schools, cities, county and special district in which they resided. This pattern could have been used to establish an allocation decision rule that would have led to results that would probably been quite different than those coming from the formula that was established by the legislature. The clear desire was to protect the jurisdiction’s share of the revenues. There is no indication that this procedure was ever discussed or analyzed, and, now, the data do not exist to calculate the differences.

AB 8—The Long Run Response

With the benefit of a full year of deliberations and the advice of a blue-ribbon commission established by Governor Jerry Brown, the state legislature was able to enact in July 1979 a long term bail-out/buy-out bill, AB 8.35 This bill was complicated, very inclusive, and riddled with major and minor concerns. It was 108 pages long and came with a 4-page index. Its central feature was the creation of a local property tax base which would allow local jurisdictions to realize growth in receipts from the property tax as assessed value increased. In order to do this, a portion of the property tax base was shifted from school districts to local government. Growth in the local government’s base was then allocated on a situs basis. The state then increased its school district aid to make up for the districts’ loss of property tax revenues To accomplish this, AB 8 consisted of four major elements (California State Senate, 1979).

  1. A property tax allocation formula was designed for cities, counties, special districts and school districts. This first determined a new property tax base for each local government. This new base was determined by increasing the local government’s share of the property tax by the SB 154 block grant (adjusted for various factors) and reducing the school districts’ property tax share by the same amount.36 Once this new base was calculated, it would be allowed to grow as new development occurred. The $10,000 in tax revenues generated in the previous example would now go only to the jurisdictions in which the buildings were located. This effectively eliminated the anti-development bias of SB 154. However, this situs allocation formula was an exceedingly complex nine-step model. In this formula, seemingly harmless errors were magnified over time. Within two years, the State Department of Finance was finding significant discrepancies between what the correct allocation should be and what it was (to the extent that schools were receiving less local revenues than they were entitled to, the state was expending more revenues to help them). By 1985, the State Controller was mandated to audit the counties’ implementa-tion of AB 8 (Senate Committee on Local Government, 1983, p. 26). By 1995-96, this AB 8 system was responsible for allocating among cities, counties, schools and other districts nearly $19.5 billion of property taxes. Table 2 shows how the allocation of property tax revenues has changed over time, partially because of AB 8 and partially because of other changes in the allocation formula (State Board of Equalization, Table 15).
  2. The second part of AB 8 concerned a variety of health and welfare provisions. The state made permanent the buy-out of SSI/SSP and Medi-Cal (California’s version of Medicaid) that was started under SB 154. In addition, the state permanently assumed the entire cost of the Aid for the Adoption of Children program and the entire county share of the work incentive program. The state also partially bought out AFDC payments to families, AFDC administration, and foster care as well as a variety of other small programs. Finally, the state waived the counties’ match for some community mentalhealth programs and for alcohol and drug-abuse programs.
  3. The third part of AB 8 relates to educational financing. State aid was increased to offset the shift of the schools’ property tax base to the other jurisdictions. This aid was adjusted so that high revenue districts received smaller inflation increases in their revenue limits, while poorer districts received larger inflation increases. The result of this adjusted increase in aid was that by 1983-84, 94 percent of the school districts were within a $150- per-average-daily-attendance expenditure range, which brings the state closer to compliance with the Serrano decision.
  4. The final part of AB 8 was a mechanism to cut state assistance if sufficient funds were not available for the continuation of state aid. This “deflator” mechanism allocated the amount of the shortfall. However, in later years when a shortfall occurred, the deflator was ignored (and ultimately eliminated) and the shortfall was allocated through the legislative process.

Ultimately, AB 8 did three things: it solidified the buy-out of some county functions by the state; it gave cities property tax money for local services through the property tax shift from school districts to local governments; and it provided for a major increase in the importance of state funding of education. AB 8 is a complex piece of legislation that has been continually adjusted over the last fifteen years. Parts of the original bill are still in effect; other parts have been amended or eliminated. As the Senate Committee on Local Government argued in 1987, “the AB 8 system appears inequitable to just about every tax of local government.” Perhaps most importantly, even though AB 8 was entitled a long term solution, there was no formal long-run promise that this state aid would continue, although local governments acted as if this were to be a permanent shift. In the early 1990s, when the state shifted property tax revenues again, many local jurisdictions were shocked at the event.

Some AB 8 Implications

In analyzing local government fiscal autonomy, many of the major effects of Proposition 13 were those that come about through its implementation through AB 8. The equity effects of Proposition 13, which may be equally important in the long, have been seldom analyzed.38 What AB 8 did was to both increase the importance of the role of the state in local decision making and to increase the interconnectedness of the public finance system. This is particularly true for counties and schools.

Schools found themselves in somewhat the same situation as counties. As the State allowed their property tax to be distributed to the cities, special districts and counties, it backfilled with state General Fund revenues. The state’s share of funding for elementary through community college schools rose from 35 percent in 1977-78 to 65 percent in 1989-90. This puts the schools in a situation similar to that of the counties—they became more dependent upon the state’s economy, and faced the possibility of seeing the state cut its support if it reduced tax rates. It also led the California Teachers Association to refocus its lobbying activities from the local level to the state as the union recognized that the state would be able to increase both curricular and fiscal control over the districts. Within a few years, there was to be a statewide proposition that would mandate minimum levels of school support.

Other Fiscal Constraints Approved by Voters between Proposition 13 and the Present

Voters continued to change the state’s public finance system. In particular, it can be argued that there were two education propositions and three state tax or expenditure propositions that were passed between Proposition 13 and the present, and that affected local government autonomy.

Education Propositions

Between 1964-65 and 1984-85, California’s spending per average daily attendance was roughly equal to the U. S. average. Starting in about 1985, California’s spending began to increase at a slower rate and it actually fell during the early 1990s. Proposition 98, enacted in a 1988 voter-approved amendment to the Constitution (and which was later amended by Proposition 111 in 1990), established a minimum floor for funding K-14 schools. This finding constitutes about three-fourths of overall K-12 funding. It significantly affects state expenditure patterns and thus indirectly affects the state’s fiscal relationships with other local entities. It is an arcane law, and it importantly complicates the understanding of state and local relationships.

The minimum funding levels are determined by one of three formulas. The largest amount of money determined by any formula is that which is allocated under the Proposition 98 guarantee. There are five major factors involved in the calculations: General Fund revenues, state population, personal income, local property taxes, and K-12 ADA. These factors change during the year and thus cause changes in the minimum guarantee. The Governor has to provide “settle-up money” to insure that any increase in the previous year’s guarantee is funded. In 1988, about 40 percent of General Fund revenues were allocated under Proposition 98. The current minimum is about 34.5 percent of these revenues plus local property taxes (as allocated under AB 8). This lower minimum reflects the result of property tax shifts in 1992-93 and 1993-94, which increased discretionary state revenues at the expense of local government aid.

Retrospectively, in many of the years since 1988, Proposition 98 has acted as more of a ceiling than a floor. The minimum is funded and then the state turns to other activities. Even funding this minimum has caused pain during the California recession, and multiple games (some of which were found to be illegal when litigation ensued) were played to ensure that the mandated floor would be reached. But because the allocation was formula driven, local school districts became passive recipients of state revenues. To recapitulate, schools now get funding from the AB 8 and Proposition 98 (in addition to other sources, such as federal funds, or local district entrepreneurial activities). There is very little evidence of any fiscal autonomy for school districts.

This San Francisco Chronicle article explains where property taxes go and their impact financing schools.

Reference Documents from CA Legislative Analyst Office

2002/03 Revenues and Expenditures Anlaysis
Revenue Volatility 2005
California Tax System Primer 2007


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Last modified: January 20, 2005

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