Ad Valorem Tax Explained

“Ad valorem” is a complicated term that can be simplified by understanding its Latin meaning: “according to the value.” In other words, ad valorem tax means taxing something according to its value. 

What are examples of an ad valorem tax?

The most common example of an ad valorem tax is property tax. For instance, if your home and the land it’s sitting on is valued at $100,000, you’ll pay a certain percentage of that each year to your city or county. Someone with a higher-valued property will pay more in property taxes, while someone with a lower-valued property will pay less in property taxes. Land, homes, and other buildings on the property can all be included when determining the total value of the property.

An assessor often assigns the value. This amount is usually dependant upon what a knowledgeable buyer would be willing to pay for the property in an “arms-length” transaction. “Arms-length” means that both the buyer and the seller are willing participants and that neither is under duress. However, commercial real estate may be valued based upon the income it could bring in if it were rented out, and some property may be valued based upon the amount of money it would cost to rebuild it. 

Another example of an ad valorem tax is the sales tax on goods sold. When you purchase an item at the store, an additional charge may be added on. The percent of the tax depends on the laws of the jurisdiction you are purchasing the item in; however, the amount of tax you pay depends on the value of the item you are buying. 

Personal property, inheritance, and machinery may also be subject to ad valorem taxes.

What is the purpose of ad valorem taxes?

State and municipal governments receive the bulk of their income from ad valorem taxes. These taxes are used to help pay for schools, libraries, local emergency services, parks, and transportation. While no one enjoys paying taxes, we all receive the benefit of these services. 

In 2017, local governments collected $509 billion in property taxes alone. This amount contributed nearly half of their revenue, underscoring the importance of property taxes to keep the local government running smoothly. State income from property taxes averaged only 1% of total revenue for the same year.

Similarly, sales tax also benefits the local government. While five states (Alaska, Delaware, Montana, New Hampshire, and Oregon) don’t have a sales tax, the other 45 states impose a state-wide sales tax. States, counties, and municipalities can all levy sales tax, so sales tax rates can vary even within the same state. Sales tax supports a variety of local and state governmental infrastructure.

Who decides the rate of ad valorem taxes?

Property tax rates are decided by the city, county, and school district the property is located in. Sometimes, voters have the power to increase or lower taxes. Measures such as increasing the sales tax to pay for a new arena or raising property taxes to help pay for schools are often put to voters to decide.

How often do you pay ad valorem taxes?

The answer to this question is: it depends! You’ll pay sales tax any time you purchase something at a physical store, and increasingly, you will pay it when you buy items online as well. 

Property taxes are generally assessed once per year. You may have the option of making two smaller payments or escrowing your property tax as a part of your mortgage payment rather than making the entire payment at once.

How can you avoid ad valorem taxes?

An Ad Valorem tax is pretty hard to avoid when you consider that property taxes are technically one.

Every state has some form of property tax. And, while the five states mentioned above may not have a state-wide sales tax, local governments may still impose a local sales tax.

In other words, avoiding ad valorem taxes is a fairly difficult task. You can pay less in taxes by owning a less valuable home. Purchasing fewer goods and avoiding items that are taxed at a higher rate, such as cigarettes and alcohol, can help you lower your overall tax bill as well. 

Ad valorem taxes are an essential part of keeping our society running. The sales tax we pay on purchases, as well as our property taxes, help pay for important services like our schools, parks, and libraries. 

If you’re curious to learn more about your local tax rates, a quick Google search can help you find your local sales tax rate. You can find out how much your property tax is by searching for your address on your county assessor’s website or by calling your county assessor.