Maryland's troubling transfer tax

March 22, 2007|By Jeffrey Michael

Nothing says "Welcome to Maryland" like the real estate transfer tax. Those new to the region experience a moment of disbelief as exorbitant closing costs consume what they thought was a good down payment. Only Delaware, Pennsylvania and Washington, D.C., have transfer and recordation taxes in the 2 percent to 3 percent range found in Maryland. Transfer tax rates in most of the country are a tenth as much, and 12 states have none at all.

In Annapolis, state lawmakers are concerned that transfer taxes are avoided when businesses that own real estate are sold, because there is no change in the deed to initiate the tax. It is argued that closing this "loophole" would increase fairness and revenue from the tax.

Before expanding the reach of the transfer tax, the legislators should consider more fundamental questions: Why do we impose this tax? Could there be a good reason why other states avoid it?

The real estate transfer tax is bad policy that has been made worse by rapidly rising property values and changes to federal tax policy over the past decade. Consider five reasons state and local governments should reconsider real estate transfer and recordation taxes.

Fairness. If you bought and sold a home in the Baltimore area last year, you likely paid more in transfer taxes than you paid in state and local income taxes and property taxes combined. Thus, people who buy and sell real estate shoulder a much larger share of local government costs than those who do not. Why should someone have double the tax burden because he or she moved across town? Moving doesn't mean someone has more income than a nonmover, nor does it mean the mover is consuming more government services.

Sprawl. This claim may surprise environmentalists, because the 0.5 percent state portion of the transfer tax historically has been dedicated to Program Open Space. Most other states fund similar programs in other ways, and local environmentalists should reconsider their traditional funding source. Some argue that transfer taxes reduce sprawl. However, most transactions concern existing properties, and many household moves are good for the environment. Rather than slow development, transfer taxes discourage people from adjusting their housing to changing needs. Why should we discourage people from moving closer to a new job or moving to a smaller home after the kids are grown?

It isn't the state portion of the transfer tax that promotes sprawl, though, but the much larger "piggyback" taxes levied by many local governments. For example, Baltimore adds on a 1.5 percent transfer tax and a 1 percent recordation tax for a total of 3 percent - $9,000 on a $300,000 house. The taxes in most adjacent counties total about 2.5 percent, but many of the fast-developing, outlying counties, such as Carroll and Frederick, do not have a transfer tax (although all levy a recordation tax). The transfer tax differential makes it less costly to buy a house in far-flung areas in Maryland.

Affordable housing. Housing affordability is an enormous problem in Maryland. A related issue is the alarming number of people with small or no down payments who are very vulnerable to even the slightest downturn in the market. One of the greatest barriers to buying a home is the up-front costs, which in Maryland include thousands in transfer taxes before one can make a down payment.

Tax deductions. Unlike most state and local taxes, transfer taxes are not deductible from federal income taxes. IRS rules define them as nondeductible for the same reason they are unfair: Transfer taxes do not apply broadly and are paid by only a small portion of the population in a given year. Transfer taxes were indirectly deductible because they reduced the taxable capital gain from home sales, but that disappeared in 1997 when most home sales became tax-free. Moving from transfer taxes to income and property taxes (without increasing overall taxes) would direct millions in new federal tax refunds to Marylanders.

Volatile revenues. In recent years, an unanticipated surge in transfer tax revenues allowed lawmakers to put off difficult budget choices. However, unpredictable revenue streams are undesirable and are equally likely to yield unpleasant surprises.

Transfer taxes may be bad policy, but they are good politics. Few voters face this tax in any given election year; the cost is hidden among numerous other confusing charges at real estate closings; and some mistakenly view transfer taxes as good for the environment. The city of Baltimore, while Martin O'Malley was mayor, doubled the city recordation tax. One hopes the statewide perspective will change Governor O'Malley's position on this issue.

Jeffrey Michael is an associate professor of economics at Towson University, where he specializes in environmental and natural resource economics and policy. His e-mail is jeffmichael42@gmail.com.

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