JULY 27, 2011

SAN ANDREAS, Calif.—Declining home prices are starting to slam California harder than the rest of the nation, in part due to a state law that sets a ceiling—but no floor—on property taxes.

The toll is evident here in Calaveras County, a largely rural area about 100 miles east of San Francisco. Over the past three years, it has seen among the biggest property-tax roll declines of any California county, with the total value of taxable properties down about 5% from last year—and 18% over the past three years—to $5.67 billion. Statewide, assessed values declined 1.8% last year from a year earlier, according to state data.

Calaveras’s shrinking property taxes have resulted in cuts to the sheriff’s department and public-health services, as well as an effort to cut 10% of the county’s budget for the coming year. The tax drop also has pitted the county assessor, who has lowered taxes by re-evaluating home prices, against the head of the county board of supervisors, who said the reassessments have been too aggressive.

“We’re getting cremated” by the decline in property taxes, said Tom Tryon, chairman of the board of supervisors.

Calaveras’s situation shines a spotlight on the unintended consequences of California’s property-tax law. While many counties nationwide have offset property-tax declines by raising tax rates, a 1978 California law dubbed Proposition 13 prohibits that practice in the Golden State. The law caps property taxes at about 1% of a home’s value and forbids major tax increases unless a home is sold or rebuilt, though it permits taxes to go down if a home’s value drops.

As a result, while local governments in Washington, Maine, Hawaii and elsewhere recently raised property-tax rates to compensate for home-value declines, California doesn’t have that option. It can take years for a California county to recover from a short-term decline in property-tax revenue, because tax revenue doesn’t go up until home prices rise and many properties are sold.

Nationwide, property taxes make up about 45% of local-government revenue, according to Nathan Anderson, an economics professor at the University of Illinois.

They have become a pivotal source of funding for local governments as other revenue sources dried up, said Mr. Anderson, who studies property taxes.

Bob Stern, president of the Center for Governmental Studies, a nonprofit and nonpartisan think tank in Los Angeles, said there were “pros and cons with Prop 13.” While the measure has succeeded in its goal of protecting senior citizens on fixed incomes from big tax increases due to rising real-estate values, he said, people didn’t expect California property prices would drop for a long period, and therefore didn’t foresee the problems in counties suffering from declining property values.

Counties across the state are now grappling with Prop 13’s fallout. Central California’s Stanislaus County saw its property-tax roll—the cumulative value of assessed properties—fall 4.7% this year and 21% over the past four years. It levied $447 million in property taxes last year, down 11.6% from two years earlier.

In San Diego County, property-tax levies in 2010 fell by more than $100 million to $3.96 billion—the first year-over-year decline in more than a decade.

In Calaveras, declining property values and property taxes have put Leslie Davis in the hot seat. Since being elected the county’s tax assessor last year, she has been fielding calls from residents who said their taxes were too high because their homes were assessed at prebust values.

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