Question

"If one city lowers property taxes, then most of the benefit will go to landowners in that city when taxes were reduced." Evaluate this statement in terms of economics by analyzing first the effects of the tax decrease on the amount of capital in the city and then on the markets for land, labor, and housing in the city. Under what conditions is the statement correct?

1. Suppose that a tax payer is in the 15% tax-rate bracket for the federal individual income tax and faces a 5% state income tax.

a. If the taxpayer cannot deduct either tax against the other, what is the taxpayer’s combined marginal tax rate? What is the marginal tax rate if the taxpayer itemizes federal deductions and deducts the state tax? What if there was reciprocal deductibility?

b. Now calculate all three combined marginal tax rates assuming that the state income tax rate is 10%. How do they change?

2. Suppose a tax payer faces a federal marginal income tax rate of 25% and pays local property taxes of $2,000 per year.

a. Assume the taxpayer itemizes federal deductions and, thus, deducts the local property tax. No state income tax deduction for local taxes exists. What is the net after-tax cost of property taxes to this taxpayer?

b. Suppose the state introduces an income tax credit of 25% of property taxes up to a maximum of $600. What is the taxpayer’s net property tax cos now? (Remember that the state income tax is also deducted against the federal tax.) How much does the net cost fall because of the credit? How much more would this taxpayer pay (net) if property taxes were increased to $2,100?

Answer 1

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