The Middle Class Crunch

Here’s a fabulous Elizabeth Warren speech discussing the main concepts from the Two Income Trap. She compares a family in 1970 with a family today. In short, we have less disposable money, despite having two incomes. Health insurance and housing costs are killing us. We’re spending more on houses not for the granite counter tops, but for the schools. Families would rather live next to toxic waste dump in order to have better schools for their kids. College is now a mandatory requirement for middle class status and college is expensive. If someone loses their job, there is no safety net, and the family ends up going bankrupt.

Families with kids are under enormous financial stress.  She thinks we’re moving from a three class society to a two class society. (via Corrente and Wendy)

 

29 thoughts on “The Middle Class Crunch

  1. “College is now a mandatory requirement for middle class status and college is expensive.”
    That is so not true. When I listen to my favorite personal finance radio show, a lot of people calling in have huge student loans, pink collar jobs, and small incomes (a recent example was a social worker making $38k with $80k in loans). Meanwhile, long-distance truck drivers typically make $60-70k.

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  2. According to Todd Zywicki last week, housing costs as a percentage of income has decreased since 1970, using Elizabeth Warren’s own numbers.
    “Isolating just the mortgage burden, according to Warren & Tyagi’s figures the percentage of family income dedicated to mortgage payments actually declined from the 1970s to 2000s, from 14% of household income ($5310 of $38,700) to 13% of household income ($9000 of $67,800). Again, this is using Warren & Tyagi’s own figures.”
    I was surprised to, but those are the numbers.

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  3. But, Ragtime, doesn’t that miss (or maybe make) Laura’s 2-income trap point? Assuming that bringing more second earners into the workplace has increased average household income, it appears that a second income is necessary to keep the ratio of housing cost to family income more or less steady.

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  4. Ragtime,
    I don’t know what it is, but there’s something wrong with those numbers. My feeling is that there is such incredible variety in people’s living conditions that the averages are bound to be misleading. If John has a paid-off house, Suzie has a $500 a month fixed mortgage, Bob has a $500 a month negative-amortizing teaser loan that is resetting soon, and Joanne’s mortgage is 60% of her take-home, you can’t really average their situations and come up with meaningful numbers.
    Another issue is the total debt burden. At some point in the past few years, it became desperately uncool to pay off your house. The “sophisticated” thing to do was to refinance every chance you got and bleed the equity out of your house.

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  5. Another issue is the total debt burden. At some point in the past few years, it became desperately uncool to pay off your house. The “sophisticated” thing to do was to refinance every chance you got and bleed the equity out of your house.
    Yeah, I think changing attitudes in a variety of contexts have had a lot to do with this. It’s now considered unsophisticated to suggest that middle- or upper-middle class children select a college with career payoff or cost-benefit analysis in mind. I’ve been thinking a lot about how what Dean Dad calls the “nothing special” colleges have done an excellent job at surviving post-boomer by cultivating the idea that college-as-finishing-school should not only apply to the rich. If your child wants to spend $80k on tuition alone to major in English at a college no one has heard of outside of SW PA, it should be your responsibility as a parent to use that desire as a teaching moment in personal finance — instead it’s treated like the child’s birthright, something parents that “value education” must do.

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  6. From the BLS:
    http://www.bls.gov/oco/ocos246.htm#earnings
    Truck drivers make a median of $16.85, that’s about $34k for a 2000-hour year.
    The highest-earning drivers make $25.39, that’s about $52k.
    Plumbers/electricians do better than this, but still don’t get to $70k.
    So, still need 2 incomes to get anywhere near the $70k mark.
    CS graduates from the good schools are starting higher than that..
    http://daily.stanford.edu/article/2007/10/17/highDemandForCsMajors

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  7. Doug,
    The nuance is that while in-town drivers really don’t make much, over-the-road (i.e. long distance) truck drivers make $60-70k. On the other hand, over-the-road truck drivers may be vulnerable to recession.

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  8. This is from a comment I put on the blog Half Changed World three weeks ago, and which seems to me to fit in here as well:
    I’m going to bang on a couple of things – there are some constraints on how well individuals can do which are set by how well the country is doing. Here are some quotes from a jeremiad by Paul Volcker which I found on the blog Calculated Risk:
    ——————————
    “Homeownership has become a vehicle for borrowing and leveraging as much as a source of financial security.”
    “I come now to the heart of the problem, as a Nation we are consuming and investing, that is spending, about 6% more than we are producing. What holds it all together? – High consumption – high leverage – government deficits – What holds it all together is a really massive and growing flow of capital from abroad. A flow of capital that today runs to more than $2 Billion per day.”
    “What I’m really talking about boils down to the oldest lesson of financial policy in Central Banking: A strong sense of monetary and fiscal discipline.”
    —————————
    So, why have people abroad been sending us $2 billion a day? Well, they were buying collateralized debt obligations based on bundles of mortgages on exurban McMansions – this doesn’t look like a smart thing to do, anymore – and Treasury bonds (not looking so good, with the dollar tanking against the Euro and the Yen), and ownership shares in US manufacturers (the Chrysler investment doesn’t look so swell to Daimler just now). And then folks here who had gotten onto the house price gravy train were doing home equity lines of credit and buying toys – new flashy cars and enormous televisions, etc.
    I’m asserting, based on not much more than “..oldest lesson of financial policy in Central Banking: A strong sense of monetary and fiscal discipline..” that we have generally, and young people starting out in particular, been made worse off by all the funny money sloshing around. People have bid up the prices of houses because once on the gravy train they could pull out money for all the fun things they would like. My eleven year old comes home and bangs on me because his friends have bigger and more swell TVs and video games. My perfectly adequate (and paid for!) but ten-year-old minivan looks less adequate on the parking lot next to the bought-on-credit but this model year shiny SUV(my son has also talked wistfully about the cars of others…) There is a big ratcheting up of what seems ‘normal’ life. Meanwhile the McMansion CDOs are going in the toilet, the nice people from the Japanese Teacher Retirement Fund who bought them won’t be buying any more of them, and house prices are levelling or dropping around the country. So people put their long term financial health at risk to reach the ‘normal’ middle class life they saw around them, and their house prices will not bail them out now… Marin County has a lot of aging boomers who bought hot tubs with HELOCs, and who now have five or ten years left to work, max, and they’re not being bailed out by appreciation. These people will be giving out hot samples at Costco when they are 75.
    Here are some numbers from WSJ suggesting that considering ‘college graduates’ as a single entity makes not so much sense (starting wages, 4-year degree, $thousands) engineering 50, computer programming 47, maths 46, econ 43, accounting 42, mgmt 41, finance 38, business 36, history 34, foreign language 34, sociology 34, psych 32, elem teach 30, art 28, philosophy 28. If everybody has $50,000 in debt, and it takes $30,000 to have a middle class life, how long before their loans are paid off?

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  9. Doug, I believe the Freakonomics guys have talked about the plumber thing. The key with a plumber is that s/he does not need to go to college, and thus has more time in the workforce and no college expense. I believe this is the comparison:
    PlumbersSalary x (40 working years) = PlumberTotalIncome
    (PhysiciansSalary x (30 working years)) – MedSchoolCost = PhysicianTotalIncome
    PlumberTotalIncome > PhysicianTotalIncome

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  10. But, Ragtime, doesn’t that miss (or maybe make) Laura’s 2-income trap point? Assuming that bringing more second earners into the workplace has increased average household income, it appears that a second income is necessary to keep the ratio of housing cost to family income more or less steady.
    I don’t think so. The point was, in part, that we “have less disposable income” because “housing costs are killing us.” But the numbers show that, on average, that is not the case. For the other increased costs, health insurance is certainly higher, but we are getting a lot of good health insurance in exchange. At the moment I am taking a single medication regularly (for blood pressure) that will potentially extend my life considerably, is currently cheap and generic, and did not exist in 1970. I am certainly not complaining.
    While I do not deny the “two income trap” exists, I don’t think the situation today is any worse than in 1970, when only the man worked, and if he got laid off then the woman had the get a job (and significantly less money) for the duration of unemployment. There was a “single income trap” then that was just as, if not more, pernicious.
    I don’t know what it is, but there’s something wrong with those numbers. My feeling is that there is such incredible variety in people’s living conditions that the averages are bound to be misleading.
    Yes, but there was variation in 1970, also, when it was the norm to pay off the mortgage completely and live there your whole life. There was probably even a bigger spread between new arrivals paying the whole current rate, and old-timers paying $0 or next to nothing because they bought 25 years ago.
    There are also more owners today than there were 30 years ago. I know that I was on the borderline for a “normal” mortgage — we took out a standard 30 year fixed, but hadn’t save up quite enough for a 20% down payment. Could I have taken out a mortgage 30 years ago with 10% or 15% down? I don’t know.
    As for people taking equity out of their homes, that isn’t about buying into a good school district — its about keeping up with the Joneses once they are there. I can sympathize with people who suffer with a small used car and hand-me-downs to afford a house in a good school district. If you then use your home equity to buy a Hummer and Gucci purse, you lose my sympathy pretty fast.

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  11. “For the other increased costs, health insurance is certainly higher, but we are getting a lot of good health insurance in exchange.”
    DO NOT get me started on the health insurance system or the health care system. Our health insurance SUCKS right now, to be blunt. And as a result, our health care sucks.
    My dad was diagnosed a year ago with stage 4 prostate cancer. He had been in and out of the hospital for THREE MONTHS before then with severe back pain. His fancy doctors at a well-respected Long Island hospital couldn’t frickin’ figure out that a man with an enlarged prostate and severe back pain just MIGHT have prostate cancer!
    The problem isn’t even that they didn’t find the prostate cancer soon enough (even though he has been in and out of doctor’s offices ever since he had a heart attack 3 years ago and a kidney stent procedure since then, but I will let that go). It’s that they didn’t diagnose the frickin’ cancer UNTIL the tumor on his spine grew severe enough to paralyze him. So now, not only does he have stage 4 prostate cancer and probably less than a year now to live, but he can’t WALK and is bedridden at home because OH YEAH the insurance company won’t pay for physical therapy because why bother with PT for a dying man?
    I could keep going with reference to his last few months of problems with respiratory issues and a hospital visit where a cardiac wing couldn’t apparently diagnose Cheyne-Stokes respiration, if his current pulmonologist is to be believed.
    The health care/health insurance system is FAILING us again and again, not just my father, but thousands of others. We are so overly specialized (because the system rewards specializing instead of primary care) that it’s no wonder a nephrologist knows jack shit about prostate cancer, though I can’t understand how a cardiologist couldn’t recognize CSR, considering it’s prominence in people with CHF.
    I take meds, too, and my son has chronic allergies/asthma, and yes, good things have happened in the field of medicine to address our issues. But that doesn’t make the failures go away–and the failures are increasing and grow more and more severe.

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  12. Ragtime,
    The “two income trap” refers to the idea that families have two wage earners and their cost of living fully consumes both incomes. In this case, if there are unexpected expenses, they can’t raise their income, because they are already going all out.
    “There are also more owners today than there were 30 years ago. I know that I was on the borderline for a “normal” mortgage — we took out a standard 30 year fixed, but hadn’t save up quite enough for a 20% down payment. Could I have taken out a mortgage 30 years ago with 10% or 15% down? I don’t know.”
    There’s a school of thought (prevalent on thehousingbubbleblog.com) that says that maybe the high number of homeowners isn’t a good thing. We went (if I remember correctly) from 65% homeownership to 69% homeownership. There is reason to think that that 4% of homeowners will not be able to keep their homes over the next several years.
    Likewise, the argument I’ve seen over at thehousingbubbleblog.com is that easy credit pushed prices higher and higher. If real downpayments are required, home prices are tethered and can’t float into the stratosphere.
    In our very mobile, dynamic society, I wonder how much of a favor it is to people to encourage them to buy homes. It’s possible that homeownership is only prudent in a stable 1950s type economy, where you’d work for the same employer for 40 years and die in your first home. I get it that it’s a very good thing to own a home by retirement age, to lock in housing costs at a particular level, but otherwise, I think it may be an anachronism.

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  13. I find myself in the very odd position of agreeing with Amy P — homeownership may be an anachronism. I watch the people around me buy a house or a condo only to stay two years; I watch their complete befuddlement as their attempts at lawn care end with a flooded basement. My husband came from a family of contractors and so is unusually handy. He is regularly appalled at what he sees — friends who finally break down and call him about the upstairs bathroom, wondering if he knows someone who can help and how much it might cost. He goes over to look at it and discovers it’s been out of commission for TWO YEARS. Should these people really be homeowners?
    So many other aspects of home life have transitioned over to “professionals”: cleaning services, lawn services, laundry, personal shoppers, fully prepped dinners. This is happening because people have no time to do these things, and they have never learned a baseline level of skill that would allow them to perform the tasks at a level acceptable to them.
    I see the same pressures leading homeownership in the same direction. Many people these days don’t even want the homeowner experience — the community commitment, the “make it my own” aspect of it. They want the tax break and the financial instrument. If families could get the tax break elsewhere and were actually able to rent a nice house in a good school district, I think lots of people would do it. Lots of people.

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  14. After 12 years of apartment living, this year of renting has been my first year with a family in a single family home. Jen is certainly right about the “complete befuddlement” of adjusting to this new environment and new responsibilities: lawn mowing, watering, fertilizing, weed-pulling, gutter cleaning, leaf blowing, etc. As my dad summarized it after I was telling him about buying my first hoe, going from apartment dwelling to living in a house is almost as big a jump as going from living in a house to moving to a farm. A yard is essentially a small farm. Fortunately for us renters, when the going gets tough, we can always call maintenance for stuff like bifold doors coming off the tracks, creepy crawlies, loose or rotting boards on the fence, etc. When I notice things like the 12 inch cracks in the dry wall or the zig-zagging five-foot long cracks in the brick exterior which has obviously been fixed at least a couple of times, I’m really glad this isn’t my house, and I file foundation issues away as an important consideration for our first home purchase. I’m also getting a good picture of the cost of utilities for a house and yard this size.
    As Jen says, homeownership isn’t for people right on the financial edge. To hold onto a house and maintain it, you need to have ample emergency savings. In fact, I’ve heard that in the good old days of lending, the bank would require that you prove that you had reserves.

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  15. Again, I agree with most of what Amy and Jen are saying — home ownership isn’t for everyone and lots of people are better off renting than buying — it is easier and often cheaper.
    But it doesn’t really refute my primary objection — which is Laura’s claim that, “We’re spending more on houses not for the granite counter tops, but for the schools.” In my first response, I showed numbers that indicated that we are paying the same percentage of our income toward housing. And the argument that some people are better off renting is actually a good argument against Laura’s claim.
    Our primary babysitter is a high school student who lives with her single mother in a two-bedroom apartment in town. They sold their condo in Philadelphia after the divorce, and wanted to move to our town for the schools. A house was prohibitive with the single mother’s income, so they rented a small place, and are getting the top-notch education without the high costs or burdens of homeownership. When her daughter graduates in June, she’s planning to move to another town without great schools where she can rent a bigger place for the same money.
    If you are willing to live in a 1970-sized house — or an apartment — you can upgrade your school district without paying a much bigger chunk of your income that you did in 1970. Most people who buy in middle-of-the-road school districts can afford a smaller place in a better district, but choose not to.

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  16. In my first response, I showed numbers that indicated that we are paying the same percentage of our income toward housing.
    I also am not buying Ragtime’s assertion. When they’re isolating for “mortgage expense only”, are they discussing taxes? Taxes in a good school district can be downright ruinous — we’re talking 6% of the total value of the home, each year. That figure would be heavily impacted by the increases in assessed value. Other elements of housing cost include homeowners’ insurance, mortgage insurance if you owe more than 80%, and utilities.
    My comments about renting are not intended to forgive or explain away the enormous risks families are asked to take on today. I am more making a statement about our nation’s concept of “middle class”, and how it is inexorably tied up with homeownership, and how that may need to change.

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  17. “I am more making a statement about our nation’s concept of “middle class”, and how it is inexorably tied up with homeownership, and how that may need to change.”
    Amen. I think feelings of “middleclassness” ought to be much more tied to such things as health insurance, life insurance, a will, having paid-off cars and house and savings, rather than a particular consumption level.

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  18. “The nuance is that while in-town drivers really don’t make much, over-the-road (i.e. long distance) truck drivers make $60-70k. On the other hand, over-the-road truck drivers may be vulnerable to recession. ”
    Posted by: Amy P
    My brother was an over-the-road driver for several years. I don’t know how much he made, but he and his wife and one child were certainly not living like he was making $60K. And an OTR driver spends lots of nights and weekends away from home, frequently killing time waiting for a load. The hourly income isn’t great, if we count sitting for 10 hours 1,000 miles from home as work; let alone the fact that you’d be home for a couple of days every other week.

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  19. I also am not buying Ragtime’s assertion. When they’re isolating for “mortgage expense only”, are they discussing taxes? Taxes in a good school district can be downright ruinous — we’re talking 6% of the total value of the home, each year. That figure would be heavily impacted by the increases in assessed value.
    I don’t know where you live, and I only know New Jersey, but here, almost everyone’s property tax rate is between 1.5% and 2.5% of your home value — not 6%. (Link in the URL space is to NYT data on property tax rates in NJ. The only outliers are shore towns like Cape May with really expenses houses and relatively few “townies” with kids.)
    Property taxes are certainly much higher in ritzier areas, because the homes are more expensive (2% of a larger number). But a person who moves from a “regular” neighborhood into a smaller house in a richer neighborhood for the same cost would pay about the same in taxes.
    I don’t believe there have been many increases in the cost of mortgage insurance and property insurance between 1970 and 2000.

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  20. One more thing on truckers–I was just listening to the Dave Ramsey show from yesterday and a caller with an owner-operator other-the-road trucker husband was calling in to ask what to do. She said that her husband used to make good money (she didn’t specify), but due to their contract not absorbing increased fuel costs, he’s down to making only $40k a year. DR said that an owner-operator should be making 60-100k a year, and the caller didn’t argue, so presumably her husband had been somewhere in that range previously. As another data point, the caller said that they had purchased the tractor part of the truck for $30k and were leasing the trailer and were grossing $190k.

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  21. Ragtime, I went back and checked my numbers on the property tax thing. And I must apologize, the numbers I had run previously were calculating taxes as a percent of mortgage debt.
    My example comes from Oak Park, Illinois — a community that many Chicago city dwellers flee to for the schools, as it is literally across the street from a terrible neighborhood on the west side. The property tax rate in Oak Park in non-gibberish numbers is 3.4% of the *assessed value*.
    Because of skyrocketing tax assessments driven by the housing bubble — itself fueled by competition among two-income families — the family in question saw its tax bill go up to 5.6% of its mortgage load within 8 years of buying. Say what you want about their investment accruing; they are more interested in continuing to pay their house payment. And it keeps going up.
    Mortgage and homeowners’ insurance are directly tied to the cost of your house. How could they not be going up as a percentage of income, when incomes have not risen at the same pace as home values?

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  22. Because of skyrocketing tax assessments driven by the housing bubble — itself fueled by competition among two-income families — the family in question saw its tax bill go up to 5.6% of its mortgage load within 8 years of buying.
    I’m not much interested in arguing by anecdote, and I’m sure the family in Oak Park got pretty screwed. Maybe a prior owner had added an addition that wasn’t registered, and therefore wasn’t taken into account in the prior assessment and they didn’t understand that their taxe rate was artificially depressed before the reassessment.
    But the “because of skyrocketing housing assessments driven by the housing bubble” argument is simply bogus. Housing re-assessments taken as a whole, simply do not increase taxes. We were re-assessed last year and our housing assessment was approximately double (!!!) — and then the local tax rate was commensurately cut in half so that the overall tax bill was about the same. Housing reassessments are designed to be tax-neutral for the area as a whole.
    And, of course, there were horror stories in the local papers intended to freak people out about the whole process, but if anyone’s total tax bill changed more than 10% in either direction, then there were always extenuating circumstances. Local taxes simply do not increase just because of the housing bubble.

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  23. “We’re spending more on houses not for the granite counter tops, but for the schools.” – Just to clarify, that’s Warren’s argument, not mine. Though I do agree with her.
    The smallest homes in the towns with the excellent schools in this area cost $500,000. Those communities don’t have affordable rentals either. When we were first looking for a home three years ago, that would have meant three weeks salary on a home. As it is, we’re paying two weeks takehome for a much poorer school system. (We hit the housing peak dead on and didn’t have an existing home.) We would move and pay more for the schools and not the granite counter tops. I think that Warren gets that right. People are, rightly or wrongly, very concerned that without a good education, their kids are going to miss the Middle Class express train. They are so worried about it that they spend more for homes than they probably should. This then increases their financial risk.

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  24. Charles Murray continues his skunk at the garden party act:
    http://www.newcriterion.com/articles.cfm/The-age-of-educational-romanticism-3835 describing the findings of the Coleman Report: “…When Congress passed the 1964 Civil Rights Act, it included a mandate for a nationwide study to assess the effects of inequality of educational opportunity on student achievement. The study, led by the sociologist James Coleman, was one of the most ambitious in the history of social science. The sample consisted of 645,000 students. Data were collected not only about the students’ personal school histories, but also about their parents’ socioeconomic backgrounds, their neighborhoods, the curricula and facilities of their schools, and the qualifications of the teachers within those schools.
    Before Coleman’s team set to work, everybody expected that the study would document a relationship between the quality of schools and the academic achievement of the students in those schools. To everyone’s shock, the Coleman Report instead found that the quality of schools explains almost nothing about differences in academic achievement. Family background was by far the most important factor in determining student achievement. The Coleman Report came under intense fire, but re- analyses of the Coleman data and the collection of new data in the decades since it appeared support its finding that the quality of public schools doesn’t make much difference in student achievement.
    In thinking about the explanation for this counter-intuitive result, it is important not to confuse your idea of a bad public school with the worst-of-the-worst inner-city schools that are the subject of horror stories…”
    Doesn’t mean that parents aren’t spending to get their kids into swell schools, but it suggests that they’re not getting what they think.

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  25. Coleman found that good schools had something called social capital. The parents were very involved in getting their kids to do homework, volunteering in the schools, and working closely with teachers. Social capital is most often found in neighborhoods with high SES. So, no matter what, high income towns still have better schools.

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  26. What you are paying for is a peer group for your kids. We’re willing to pay that, though I’m not sure how the calculation would work for us if we had to go anything near half a million for a house.

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  27. “But the “because of skyrocketing housing assessments driven by the housing bubble” argument is simply bogus. Housing re-assessments taken as a whole, simply do not increase taxes. We were re-assessed last year and our housing assessment was approximately double (!!!) — and then the local tax rate was commensurately cut in half so that the overall tax bill was about the same. Housing reassessments are designed to be tax-neutral for the area as a whole.”
    I would guess that this depends on where you are. Our total tax bill goes up with our assessment (though our assessment didn’t really go up as much as our house value did, during the bubble — I suspect that it will go up a bit more than the value goes up now that property values are flatlining). I don’t have the numbers handy (in a big pile of documents), but our tax bill has gone up steadily, and, I’m guessing it hasn’t tracked our income (though our income is volatile, and the percent paid to property tax low enough that we’d be looking at multiple digits of precision to see the effect on the percent of income paid in property taxes).
    I think the way house assessments/property taxes are calculated is very different in different places. I think I’ve heard that in our neck of the woods, they just assume that property will rise by a certain (relatively low) value every year, and increase the property tax amoung accordingly, regardless of assessment values (and then, they periodically correct for assessed value).

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  28. Certainly in Chicago assessments have gone up — way, way up. In the past the Illinois legislature passed legislation to cap it at something like 7% EACH YEAR, but now that has expired. I know this last year alone our tax assessment went up more than $300 a month — almost doubling . We have pulled zero permits on our house, have not added on; we bought in 1999.

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  29. Jen,
    A similar tax hike happened to us about three months after we bought our first house. The hike, coupled with a huge hike in the parking tax, turned me into a straight-ticket Republican voter who wants to end “closed shops” for public employees. Also note that in most places you can appeal your house’s valuation (thought not the millage rate). How to appeal, and whether or not it is a good idea to try, depend on local conditions.

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