8.4 Local Government Finance and State-Local Fiscal Relations

Local government finance is a complex system of revenue sources and spending priorities. Property taxes, sales taxes, and intergovernmental transfers form the backbone of local funding, enabling essential services like education and public safety.

State-local fiscal relationships shape local finances through aid programs, revenue sharing, and policy constraints. While these relationships can help equalize resources, they also create tensions between state control and local autonomy in financial decision-making.

Local Government Finance

Revenue sources for local governments

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• Property taxes assess levies on real estate and personal property serving as a major revenue source for most local governments
• Sales taxes imposed on goods and services sold within the jurisdiction are often shared between state and local governments (clothing, electronics)
• Income taxes levied on individual and/or corporate income are less common at the local level than state level
• User fees and charges are collected for specific services like utilities, parking, and recreation to recover costs of providing these services (water bills, parking meters)
• Intergovernmental transfers from federal and state grants, aid, and revenue sharing support specific programs or general local government operations (Community Development Block Grants)

Property taxes in local funding

• Primary funding source for essential services
  • Enables provision of police and fire protection
  • Supports public education (K-12 schools)
  • Funds infrastructure maintenance for roads, bridges, and sewers
• Stability and predictability
  • Property values tend to be less volatile than other tax bases providing a reliable revenue stream for long-term planning
  • Allows for consistent budgeting and forecasting
• Local control and accountability
  • Rates set by local officials based on community needs and priorities giving residents a voice in taxation
  • Taxpayers can hold officials accountable for spending decisions through elections and public meetings
• Equity concerns arise from the regressive nature of property taxes where the burden falls more heavily on lower-income households and disparities in property values across jurisdictions can lead to funding inequities (school districts in wealthy vs. poor neighborhoods)

State-Local Fiscal Relations

State-local fiscal relationships

• State aid to local governments includes
  1. Categorical grants for specific purposes like education and transportation
  2. Block grants with more flexibility in spending
  3. Formula-based aid tied to factors like population, need, or fiscal capacity
• Revenue sharing programs involve states distributing a portion of state-collected taxes to local governments based on formulas or local government characteristics to help equalize resources across jurisdictions (sales tax revenue sharing)
• Fiscal equalization mechanisms are state policies designed to reduce disparities in local fiscal capacity by redistributing funds from wealthier to poorer jurisdictions (school finance formulas)
• Limitations and challenges arise when state budget constraints lead to cuts in aid or revenue sharing, local governments become overly dependent on state funds, and tension emerges between state control and local autonomy in spending decisions

State policies vs local finances

• Unfunded mandates are state requirements for local governments to provide services without corresponding funding which can strain local budgets and limit flexibility in spending priorities (environmental regulations)
• Tax and expenditure limitations (TELs) are state-imposed caps on local property tax rates, revenue growth, or spending designed to limit growth of local government and provide taxpayer relief but may constrain local ability to respond to changing needs or emergencies (Proposition 13 in California)
• Preemption of local authority occurs through state laws that prohibit or limit local government action in certain policy areas affecting local revenue options like banning local income taxes and restricting local control over land use, environmental protection, or other issues (state bans on plastic bag fees)
• Implications for local autonomy and innovation arise as state policies can create a one-size-fits-all approach that ignores local context, mandates and limitations may discourage local experimentation and problem-solving, leading to a balancing act between statewide uniformity and local flexibility