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PLAIN ECONOMIC SENSE
For release after November 23, 1998
Column 356
Property Tax Incentives for Farmland Preservation
By Mark A. Edelman
Extension Public Policy Economist
Iowa State University Extension to Communities
Property tax incentives are one of the primary tools used for farmland retention in many states. Historically until about 30 years ago, all states assessed farmland for property tax purposes on the basis of market value. Market value typically was defined as the price arrived by a willing buyer and a willing seller under open market conditions.
Since 1955, all states have adopted some form of use value differential assessment of agricultural land for property tax purposes. The changes in state policy were driven by two primary factors: (1) a desire to provide a property tax break that would allow farmers who farmed next to urban development to keep their land and (2) a desire to provide a property tax brake for farmers during periods of rapidly inflating land values.
Over the years, three main forms of use value assessment for farmland have been enacted by states. The form adopted in many Midwestern states, including Iowa, was called "preferential use value assessment" of farmland. This meant that all people who owned farmland qualified for property tax assessments based on a calculated farmland value for agricultural use, instead of its market value. This approach created a level playing field for farmland regardless of location, in that similar parcels of land would pay similar property taxes even though one parcel might be located next to a metro area. Prior to use value, some farmers next to the urban areas were forced to sell because their property taxes based on market value were much higher than the property taxes on similar farmland 60 miles away in the hinterland.
Research from the 1970s, shows that simple use value preferential assessment allowed farmers to remain competitive even though they were next to a metro area. However, it also shows that conversion of farmland to urban uses did not slow down under simple preferential assessment. In fact, simple preferential assessment encouraged more rapid conversion of farmland and urban development. Developers could buy farmland and pay lower property taxes based on use value while they held the ground for future development. Simple preferential assessment simply lowered the developer's carrying cost of the land.
The second form of preferential use value property tax incentives was called "deferred taxation." Under this approach, farmers received preferential assessment on their farmland as long as it remained in agricultural use. However, if farmland was developed, a penalty or rollback tax was collected. So property taxes are only deferred until the farmland is converted to urban use. In some states, a three-year rollback or deferred tax was collected at the time of conversion.
The 1970s research indicated this approach prevented the property tax from pushing land out of agriculture on the urban fringe and it helped local government to recapture part of the lost revenue. But there was no evidence to suggest deferred taxation curtailed the "pulling of land out of agriculture into non-agricultural uses." The rollback tax was typically smaller than property taxes that would have been paid under the previous assessment system based on market value.
The third form of farmland use value property tax incentives was called "restrictive agreements." Under this approach, owners of farmland would receive preferential use value assessment for property tax purposes if they agreed not to develop the farmland for a specified period of time, typically 10 years. Each year that the preferential assessment is received, the no-development agreement is automatically renewed for another year. So if a farmer sells to a developer and signs a notice of nonrenewal, the developer must wait 10 years to convert the farmland and the property tax assessments increase to a market value basis over that period.
In the final analysis, the latter approach not only prevented the pushing of farmland out of agricultural use; it also slowed the pulling of agricultural land out of agriculture use for the period of the restrictive agreement.
Edelman is a professor of economics and an extension public policy specialist at Iowa State University.
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