Rate Compression, Homestead Exemption, Appraisal Cap: A Texas Property Tax Debate Guide

(Chris Burk/stock.adobe.com)

Gov. Greg Abbott, Lt. Gov. Dan Patrick, Speaker Dade Phelan (R-Beaumont), and the two legislative chambers are embroiled in a standoff over how to reform the property tax code and divvy up the $12.3 billion in new tax relief.

Currently, Abbott, Phelan, and the House have proposed to put the full tranche of funds into a rate compression of 16.2 cents — on top of the $5.3 billion already allocated in the budget for 10 cents of previous compression levels.

Meanwhile, the Senate's plan includes about $8 billion for 10 cents of compression alongside about $4 billion to raise the standard homestead exemption by $60,000.

It's as clear as mud.

All parties contend their plans will "save" taxpayers varying sums of money, but those figures are estimated "savings" compared to what tax bills would amount to without the reform — not an explicit reduction from the previous year's bill.

However, actual changes in bills will vary from property to property based on the rates set and the movement of appraisals.

The House adjourned sine die after passing its plan, and the Senate reconvened Friday with plans to return from the weekend on Tuesday. All eyes will be on what move the upper chamber decides to make, as the only bill that can be passed during this special session is the House's plan. Because it adjourned sine die, the lower chamber cannot reconvene lest a new special is called.

It was a deft political move to force the Senate's hand in accepting the compression-only plan, but whether it pays off or the Senate continues to play hardball is up for debate.

These reforms deal with the largest component of property tax bills: the school district Maintenance & Operations (M&O) rate.

The school M&O rate accounts for about half of the dollar figure on tax bills; unlike cities and counties, school districts cannot issue sales or other consumption taxes. The entire state has also prohibited income taxes.

That dynamic means that property taxes are relied upon heavily, especially so by schools. Texas has among the highest property tax burdens in the country because of this system, with the majority of it flowing from the pockets of taxpayers to schools.

At its simplest, the number seen on tax bills is the local government's rate multiplied by the property's taxable value divided by 100 — the rate per $100 of taxable value.

Local government officials love to point the finger of blame for increasing tax bills at the appraisal districts. While it is true that localities do not control appraised values, local officials do set the rates with full knowledge of the total appraised property roll in their jurisdiction, knowing full well whether a rate will, on the aggregate, bring in more tax collections, the same amount, or less.

Every year they are informed by their local tax assessor-collector, or a similar official, of the "no-new-revenue" rate — the rate at which tax collections are kept level from the previous year save for new property added to the rolls.

Each of the tax reform strategies is intended to lighten tax bills by putting downward pressure on one component on either side of the multiplication sign. Here's a rundown of how each strategy works.

The current favored option by Abbott and the House is the compression of school district M&O rates by injecting state dollars into the school finance system.

Think of that system like a seesaw: on one side is state funding, and on the other is the funding brought in by local property taxes. As one side raises or lowers, the other side does the opposite proportionately.

State compression lowers school district M&O rates by a set amount, a certain number of cents on the dollar. It is the most direct way to put downward pressure on bills.

If the House's version passes, the state will be compressing local rates by 26.2 cents, amounting to a total of $17.6 billion.

The catch is that the funding must be appropriated for the compression of every biennium going forward, lest local rates rise commensurately. It raises the question of whether the state will have another $17 billion to allocate two years from now by which to maintain compression amounts — and that doesn't even include the funding necessary to add to those compression levels down the road.

The House's plan also amends the constitution to prevent this pot of money from counting against the state's general revenue fund spending cap.

The Senate's plan also includes compression, though less than outlined by the House. It’d double the current amount of compression by deploying about $8 billion in state funding.

But the Senate has dug in on providing a homestead exemption in addition to the compression.

Every homeowner is currently eligible for a $40,000 reduction off the top in the taxable value of their home for their school district taxes. Municipalities also have the option to provide a 20 percent homestead exemption, something many provide but are not required to do. Homeowners over the age of 65 or who are disabled may also knock off another $10,000 from their home's taxable value.

If it gets its way, the Senate would increase that standard exemption to $100,000.

That method puts downward pressure on the taxable value component of the equation, also using state dollars.

However, unlike compression, the measure would be nominally permanent in that it’d amend the constitution in perpetuity going forward, granting this off-the-top reduction every year to come unless adjusted later by future legislatures.

Whereas those future legislatures must reappropriate money to continue the compression of rates, the homestead strategy is not required to be passed each succeeding biennium. The trade-off is that without the continued state funding, school districts are incentivized to raise their rates to compensate for the state dollars that will no longer be divvied out.

A philosophical argument for this strategy is that home ownership especially should be encouraged by the state through tax policy. A reduction in the taxable value of homes would make it easier for existing homeowners to maintain ownership and for prospective homeowners to afford the purchase going forward.

On the flip side, compression helps everyone across the board, including commercial properties. It doesn't prioritize one kind of property owner over another.

During the regular session, the House had another strategy to help businesses specifically.

Texas homeowners currently enjoy a cap on the year-to-year taxable value of their property — which may not increase more than 10 percent each year.

The Texas House wanted to reduce that cap to 5 percent and extend it to all property, their sop to businesses, while the Senate preferred an inventory tax credit at an increase to the business personal property tax exemption.

During the regular session, while this was being fought out, larger business organizations sided more with the Senate while smaller businesses sided with the House. Phelan and House Ways & Means Committee Chairman Morgan Meyer (R-Dallas) contended that when hearing from constituents about the issue, it was the eye-catching appraisal increases that were given preeminence.

Regardless, the idea of an appraisal cap has been dropped by the House in favor of a straight compression bill out of political expediency; the Senate refused to budge on an appraisal cap.

But during the regular session, the House went to the mat for it — backing the reduction and extension of the appraisal cap.

The argument is that it's a way to provide relief or reform to the business community without costing the state any out-of-pocket dollars. An appraisal cap puts downward pressure on one factor in the tax bill equation.

Lt. Gov. Dan Patrick has contended that such an expansion would have California-like repercussions for Texas. California has had a 2 percent appraisal cap since the 1970s which has created problems in the housing market there, specifically causing similar properties in close proximity to be appraised at wildly different values.

A cap lasts for as long as the homeowner owns the home, but once sold, the taxable value resets to the market value. That can lead to a situation in which two comparable homes adjacent to one another are taxed at drastically different amounts.

That can, and has, wreaked havoc on the housing market in California, making it more difficult for new homeowners to purchase homesteads.

But on the flip side, Florida has a 3 percent cap on homesteads and a 10 percent cap on all other property. Neither is a one-to-one comparison to what the Texas House hoped to pass, but where the Senate pointed to California, the House pointed to Florida.

The other argument against an appraisal cap is that it would give school districts more room to raise rates without hitting the 2.5 percent voter-approval line.

That is true, but what ultimately matters is the equation's output — the dollar amount on the tax bill. Rates and appraisals can rise and fall with substantial or little effect on the amount of taxes charged of the property owner.

It's an open question of what benefits and trade-offs would be felt by Texas taxpayers with each reform or combination of reforms. But one thing is clear: the property tax burden in Texas is something everyone recognizes, but almost nobody truly knows how to solve.

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Brad Johnson is a senior reporter for The Texan and an Ohio native who graduated from the University of Cincinnati in 2017. He is an avid sports fan who most enjoys watching his favorite teams continue their title drought throughout his cognizant lifetime. In his free time, you may find Brad quoting Monty Python productions and trying to calculate the airspeed velocity of an unladen swallow.