<!-- Start of picture text --> Policy, Research, and External Affalk<br>Urban Development I<br><!-- End of picture text --> <!-- Start of picture text --> WFS 71 0<br><!-- End of picture text -->

- This paper a product of the Urban Development Division, Infrastructure and Urban<sup>Development</sup> - Department was prepared for the municipal finance component of the joint UNDP/World<sup>Bank/</sup> UNCHS Urban Management Program (UMP). This report is the first<sup>of a series of management tools to</sup> be produced by that component. Copies are available free from the World Bank, 1818<sup>H Street NW,</sup> Washington, DC 20433. Please contact Vino David, room S0-139, extension<sup>33734 (46 pages).</sup>

The property tax is , potentially attractive way to give local governments access to a broad and expanding tax base. Unlike the mix of intergovemment grants and indirect taxes that now dominate municipal revenues, it can also promote broader objectives of efficiency - linking the provision of municipal services more closely to their financing, and rationing the consumption of municipal services by price.

But urban property taxes, albeit ubiquitous, typically yield less than 20 percent of municipal revenues.

In part, these low yields reflect failures in the administration of the tax. Many properties are missing from the tax rolls, or are inaccurately valued, and collection is extremely inefficient. There should be procedural reforms to improve coverage, the accuracy of valuation, and the efficiency of collection.

But procedural improvements alone are not enough. Tax rates must also be increased. The scope of reform must be expanded to address the systems for rate-setting and revaluation and the incentives confronting tax administrators. Certain rules should apply: Control over tax policy (including rate setting) should generally be assigned exclusively to the entity most directly affected by itmunicipal government.

* Taxes must be indexed. To maintain the real level of tax liabilities, tax authorities must either revalue annually (which is expensive) or increase nominal tax rates. One practical solution is to address inflation by adjusting valuations "from the office" on the basis of a common inflation indicator.

* To give the tax administration agency an incentive to perforn, the agency should be placed on a paid, contractual basis so it has a direct financial interest in tax performance.

For all its economic virtures, the property tax carries a high political price. Its effectiveness in confronting taxpayers with the co.st of municipal services gives it an unusually high political profile in developing countries. As a result, where local authorities have access to less efficient but more politically acceptable revenue sources those tend to be exploited first.

So property tax reform can be achieved only in the context of wider rcstructuring of local finance. The object of such reform should be to reduce the extent of arbitrary subsidies between jurisdictions and to confront local taxpayers with the cost of services they consume.

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