Options for Expanding Property Tax Relief for Lower Income Homeowners

Community and Economic Development – Blog by UNC School of Government

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Options for Expanding Property Tax Relief for Lower Income Homeowners

By Chris McLaughlin

Published May 17, 2022

Uniformity is a defining characteristic of our state’s property tax system. As I’ve written before, both our state constitution and the Machinery Act (the collection of state statutes that govern property taxes) require that all local governments across North Carolina play by the same property tax rules.  Only the General Assembly is authorized to create property tax exemptions, and when that legislative body creates exemptions they must apply uniformly across the state.  Neither cities nor counties are free to make their own property tax exemptions or modify those that are created by the General Assembly.

This uniformity requirement limits tax-related options for local governments to help lower income taxpayers remain in their homes as inflation (at a 40-year high), real estate prices (up 26% across the state over the past year), and property tax bills continue to rise.  Knowing that they cannot create their own property tax exemptions for their homeowners, a few local governments instead have offered limited cash payments to help certain taxpayers with their bills.  To read about the legal questions surrounding these tax assistance programs, click here.  To read about the details of the tax assistance programs offered recently by two North Carolina counties, click here (Durham County) or here (Mecklenburg County).

Given the limitations on local property tax solutions, some neighborhood affordable housing organizations have encouraged the General Assembly to expand the Machinery Act’s existing property tax exemptions for homeowners.  One idea proposed by housing advocates is to modify the “circuit breaker” residential tax exclusion so that it benefits more taxpayers.

The goal of today’s post is not to debate whether the circuit breaker should be expanded. That question is one of policy, not law, and the School of Government is neutral on issues of policy. Instead, my goal  is to discuss a related question of law: If the General Assembly chose to expand the circuit breaker, could it constitutionally do so in a way that allowed for variety in its application across the state?

Variety in circuit breaker coverage might be desirable because support for an expanded circuit breaker that covers more taxpayers is likely not universal.  Some counties might oppose expansion given its potential negative effect on the property tax base.

Before we dive into the constitutionality of possible ways to expand the circuit breaker to satisfy varying county desires, first let’s review how the circuit breaker currently operates. I provide more details than you might care to know about the circuit breaker in this bulletin, but here is the TL;DR explainer.

Eligibility for the circuit breaker is limited to residential homeowners who:

1. Are at least 65 years of age or are permanently and totally disabled;
2. Earn no more than 150% of the income limit for the elderly/disabled homestead exclusion created by S. 105-277.1 (that limit is $31,900 for 2022, meaning the circuit breaker income limit is $47,850 for 2022); and,
3. Have lived in their home for at least 5 years.

For eligible taxpayers, the circuit breaker caps property taxes for the current year based on a percentage of the taxpayer’s income.  If the taxpayer’s income is below the income limitation for the elderly/disabled exclusion ($31,900 for 2022 taxes), then the circuit breaker caps the current year’s property tax bill at 4% of the taxpayer’s income.  If the taxpayer’s income is between 100% and 150% of the elderly/disabled exclusion income limitation (a range of $31,900 to $47,850 for 2022 taxes), then the circuit breaker caps the current year’s property tax bill at 5% of the taxpayer’s income.

Any taxes in excess of the circuit breaker cap are deferred.  These deferred taxes are a lien on the home and accrue interest.  Three years of deferred circuit breaker taxes are due and payable if the taxpayer transfers the home to another owner or stops using it as their legal residence (either of which is termed a “disqualifying event”).

Let’s work through an example of the circuit breaker math.  Assume Tina Tarheel is 67, earned $30,000 in 2021, and has lived in her home for 15 years. Without any exclusions or exemptions, Tina’s 2022 property tax bill would be $3,500.  If Tina applies for the circuit breaker, her 2022 property taxes would be capped at 4% of her 2021 income because she falls under the elderly/disabled income limit of $31,900.  4% of $30,000 is $1,200.  Tina would be obligated to pay $1,200 in 2022 property taxes while the remaining portion of her tax bill ($2,300) would be deferred and would not be due and payable unless and until she transferred her home or moved to another home.

The circuit breaker has the admirable intention of helping low income taxpayers stay in their homes even if their neighborhoods gentrify and their property tax bills skyrocket.  But it is far, far less popular than the related elderly/disabled homestead exclusion.  In Wake County, for example, only 126 taxpayers participate in the circuit breaker program as compared to over 3,800 taxpayers in the elderly/disabled exclusion program.

Why is one property tax relief program 30 times more popular than the other, when both are aimed at similar types of taxpayers? It’s not because the elderly/disabled exclusion always provides a larger immediate tax benefit. The elderly/disabled exclusion provides a 50% reduction in the assessed value of the taxpayer’s home, which of course produces a 50% reduction in the tax bill for that home. This reduction is not always larger than the reduction provided by the circuit breaker. Instead, I think the circuit breaker’s deferred taxes are the likely culprit.

Consider the Tina Tarheel example above.  Under the circuit breaker, Tina’s 2022 tax bill would be $1,200.  Under the elderly/disabled exclusion, she would receive a 50% reduction in the taxable value of her home, meaning Tina’s 2022 tax bill would be $1,750 (50% of her full bill of $3,500).

It seems like Tina would choose the circuit breaker because it produces a greater immediate tax reduction.  But remember that Tina would face a $2,300 deferred tax obligation under the circuit breaker, while there are no deferred taxes under the elderly/disabled exclusion.  She might decide that the larger immediate tax reduction under the circuit breaker is not worth the future deferred tax obligation that she or her children would face when she sells the house or passes away.

Housing advocates have suggested several changes to the circuit breaker to make it more popular and more effective at keeping lower income taxpayers in their homes. Some of these proposals focus on the deferred tax obligation created by the circuit breaker.  The law could be changed to reduce the deferred tax obligation upon a disqualifying event to the most recent one or two years of deferred taxes instead of the existing three years, or to reduce the deferred tax obligation over time (e.g., the deferred tax obligation is reduced by 10% for each year the taxpayer receives the exclusion until it reaches zero), or to eliminate deferred taxes entirely.

Other proposals seek to expand the universe of taxpayers eligible for the circuit breaker by eliminating the age and disability requirements, by raising the income limit, or by tying the income limit to a percentage of the “area median income” (AMI) as determined by the U.S. Department of Housing and Urban Development.

Again, I take no position on whether the circuit breaker should be expanded.  Instead, let’s focus on whether any of these proposed expansions could be crafted in such a way that does not force it upon counties who do not desire it.

The uniformity requirement for property tax laws discussed above would prevent the General Assembly from passing a “local act” that applies only in a limited number of counties. (See this blog post for more on local acts.)  But there may be some creative options available.  Here are a few ideas:

1. An expanded circuit break could apply only in counties that “opt-in” by passing a resolution to adopt the new exclusion;
2. An expanded circuit breaker could apply only in counties with populations over a certain amount (a 200,000-person threshold would limit the law to 12 counties; a 300,000-person threshold would limit it to 6); or,
3. The income eligibility limit could be set at a certain percentage of a county’s AMI, meaning that the income limit would be higher in counties with higher AMIs (for example, last year AMI in Wake County was $95,700 but was only $58,500 in Hertford County). This would allow more taxpayers to take advantage of the exclusion in counties that have higher costs of living.

It’s unclear if any of these approaches would satisfy the uniformity requirement. On one hand, in each approach the new circuit breaker law would not on its face be limited only to specific, named counties.  On the other hand, in each approach the expanded exclusion would not immediately be available in all 100 counties.  Taxpayers with identical incomes owning similar property in different counties could be taxed differently depending on where they lived and whether their county adopted the new circuit breaker, had a population over the threshold, or had a different AMI than the other county.

Let’s look at each of the three proposals in more detail to see if it could pass constitutional muster.

First, the “opt-in” proposal.  Allowing counties to opt-in to an exclusion is “uniform” in that the law would give each county would have the same option.  While at present none of the Machinery Act’s many exemptions and exclusions are technically optional, at least one is in practice.  The “historic property” exclusion in G.S. 105-278 provides a 50% reduction in assessed value for property that has been designated either a “historic” by either a city or county. However, a local government is not required to designate any property as historic if it does not want to so. As a result, local governments can opt-out of this exclusion by refusing to make any historic designations.

Similarly, the Machinery Act provides for county discretion on a number of property tax procedures, including late exemption applications under G.S. 105-282.1, reappraisal cycles under G.S. 105-286, discounts under G.S. 105-360. Thanks to this local discretion, these laws are applied differently across the state.  To my knowledge, none has been subject to a challenge based on the uniformity requirement.

Second, the county population proposal. The General Assembly routinely uses population and other criteria when it wants to limit the scope of a new law to larger counties. Article II, Section 24 of the state constitution excludes from the definition of a local act any “any bill to enact a general law classified by population or other criteria.” In other words, a bill that limits its application to certain counties based on population is a general law and not a local act. I think this provision provides support for the argument that exclusion can be limited by county population without violating the requirement that exclusions be adopted by a “general law.”

Population limits and similar restrictive criteria have been used in at least two property taxes bills.  In 2008, the General Assembly added a provision to G.S. 105-286 that requires a county to hold a reappraisal within three years if its sales assessment ratio gets too low or too high (below .85 or above 1.15). This “mandatory reappraisal advancement” provision applies only to counties with populations of 75,000 or greater.  In 2013, the General Assembly took a similarly restrictive approach when it wanted to remedy what it viewed as a defective 2011 reappraisal in Mecklenburg County.  S.L. 2013-362 allowed a county to retroactively change tax appraisals only if that county satisfied certain eligibility requirements which, coincidentally, were satisfied only by Mecklenburg County. The General Assembly’s legislative staff addressed the uniformity question in its bill summary with the equivalent of a shrug emoji:

Although the bill addresses primarily a local issue and Mecklenburg County is the only county known to meet all of the conditions set forth in the bill, any county that conducted a revaluation between 2008 and 2012 can meet the bill conditions. A taxpayer or a county in the State may have standing to challenge a law that violated a Constitutional provision. It is unknown whether a court would find the bill to be local in nature or non-uniform.

Neither law has been challenged in court.

Third, the AMI eligibility proposal.  This seems unlikely to violate the uniformity requirement because it would be applied identically in all 100 counties across the state. Each county would apply the same percentage to its AMI when determining eligibility. True, this approach could mean that taxpayers with similar incomes and similar property would owe different property tax bills in different counties if the AMIs in those counties varied.  But that already occurs now with the variation in county tax rates (each county is permitted to set its own rate from $.00 to $1.50) and in county appraisals based on local market values (a home built on a Carteret County ocean-front lot is going to have a much higher tax appraisal than an identical home built in rural Edgecombe County).

I think there are reasonable arguments to defend all three proposals. If you squint hard enough, you can find similar provisions elsewhere in the Machinery Act, none of which have been challenged on uniformity grounds.  But the lack of caselaw concerning the uniformity requirement as it applies to property taxes prevents me from confidently predicting how a court would rule on any of them.

The “opt-in” and the population limit proposals seems most suspect, because no other property tax exclusion provides an explicit veto at the county level or is limited to fewer than all 100 counties by eligibility criteria.  Article V, Section 2 of the state constitution requires that exclusions “shall be made by general law uniformly applicable in every county.”  If an expanded circuit breaker was not available in a particular county because that county did not opt-in or did not have a sufficiently large population, a court might conclude that the law was not “applicable” in that county and therefore violated the uniformity requirement.  But a court might also conclude that the law was applicable to that county because the expanded circuit breaker would be available if circumstances changed (i.e., if the county opted in or if its population grew).

The third proposal has the best chance to survive a uniformity challenge because the exclusion would immediately be available to taxpayers in all 100 counties. For the reasons discussed above, I don’t think the fact that AMI’s vary among counties would be fatal to its constitutionality.

The bottom line: absent a legal challenge to one of these approaches, we don’t really know how creative the General Assembly can get when drafting a property tax exclusion without violating the uniformity requirement.

Chris McLaughlin is a School of Government faculty member focusing on the areas of local taxes and legal ethics.