Following years of persistently high inflation, affordability has emerged as a key issue across the political spectrum. An Associated Press survey of 17,000 voters in the 2025 off-cycle elections suggests that economic considerations, from tax burdens to cost of living, were top of mind. As voters turn their attention to the midterms, we expect the topic will only gain traction. While affordability has broad implications for the municipal market that we will address in future posts, we begin with tax reform.

Cutting Taxes to Lower the Cost of Living

Since the pandemic, a strong housing market has contributed to rapid price appreciation and outsized property tax growth (up 31% between 2019 and 2024 according to US Census Bureau data). Faced with taxpayer discontent, 12 states have enacted property tax relief measures in the last two years and lawmakers in another 14 will consider reforms in 2026. Proposals range from tax credits for owner-occupied residences, to caps on assessed value growth, lower tax rates, and even the elimination of property taxes altogether. As property taxes account for 70% of revenue for local governments on average and serve as the primary repayment source for their debt, these reforms have implications for both credit quality and bondholders. Whether taxes are curtailed or repealed, states are likely to make up for local revenue loss by raising statewide sales or income taxes or by allowing municipalities to do so locally. Both approaches introduce credit risk since sales and income taxes are inherently more volatile and less predictable than property taxes. A complete repeal entails significant legislative and legal hurdles, which may explain why reforms to date have been incremental. For example, in 2025, Florida’s House advanced multiple proposals to reduce or eliminate property taxes. These must now be passed by a supermajority in the Senate to make it onto the ballot for the November election where 60% voter support will be necessary, a level that is difficult to achieve. Nonetheless, success in even one state would set an important precedent for the municipal market and current proposals are worth monitoring.

Raising Taxes to Fund Services

While property tax reform initiatives are prevalent, a few states are considering taxes on the ultra-wealthy to increase funding for education, healthcare, and other services. Proposals range from an income tax surcharge for high earners (Rhode Island) and the creation of a personal income tax exclusively for those with incomes over $1 million (Washington) to a one-time wealth tax for billionaires (California, New York City). It appears unlikely that such a tax would become reality in New York City, given the need for state-level approval and opposition from the Governor. In California, the proposal to levy a 5% tax on the net worth of billionaires could make its way onto the November ballot. Expanding social services with an increasingly progressive tax structure carries its own risks: such spending is difficult to roll back when revenues underperform and raising the tax burden on a wealthy few increases the risk of capital flight.

Case Study: California’s Wealth Tax

Of the proposals mentioned above, California’s has garnered the greatest media attention and client concern. Although numerous elected officials have spoken out against the tax and recent polls show diminishing public support, the outcome remains far from certain. We view the tax as a headwind for the state’s longer term credit quality as it would generate one time revenue for ongoing expenditures (the tax would primarily pay for healthcare benefits previously covered by the federal government) while putting at risk future revenue. Recent high-profile departures, including Peter Thiel’s, have brought attention to the risk of capital flight. Conversely, we do not expect widescale and immediate outmigration leading to a revenue cliff. California’s tax residency law is complex, subjective, and among the most aggressively enforced in the nation, and many wealthy former residents maintain partial tax presence for years after their departure. A more likely outcome is gradual income tax erosion addressed by spending cuts, tax increases, reserves, and internal liquidity. Certainly, over time the revenue loss would compound the state’s already structurally imbalanced budget. However, we revisit the key pillars that underpin California’s durable credit quality:

1. A sovereign-scale economy with long term growth drivers. California’s diverse economy would rank among the largest in the world on a standalone basis. Its growing, relatively young and highly educated workforce, support continued innovation and capital formation.
2. Extraordinary revenue raising capacity. The state has one of the strongest tax bases in the nation given high income levels and asset values.
3. Improved fiscal discipline. Since the Global Financial Crisis (GFC), California has built substantial reserves, adopted more conservative revenue forecasting, and paid down liabilities, putting the state in a much better position than in previous cycles.
4. Exceptional liquidity. California’s $86 billion of internal liquidity provides ample cushion to meet any near term disruption. We note that tax collections continue to outperform.

Conclusion

Affordability has emerged as the policy issue du jour and tax reform will remain a key avenue for states and local governments as they attempt to solve for it. Both cutting taxes to lower the cost of living and raising taxes on the wealthy to fund services introduce credit risk: the former reduces revenue raising flexibility, which is critical in down cycles, and the latter expands the role of government at the expense of future economic output. States and local governments approach this challenge from a position of strength, but we will monitor proposals as they progress given their meaningful budgetary and economic ramifications.

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