“New Evidence on Property Tax Capitalization”, 1998-10-01 (; similar):
A large portion of the more contemporary tax capitalization literature infers a measure of market irrationality in that housing market participants fail to fully discount the purchase price of housing to account for variations in tax liabilities. However, the empirical results described above suggest that this recent literature continues to be plagued by spurious correlation between public services and taxes, a problem that since 1969 has been a focal point of past critiques.
We use data with substantial variations in taxes but without corresponding variations in public services and obtain a considerably higher degree of tax capitalization. In fact, using the discount rate estimated by 1991 along with our unique data set, we obtain empirical results from which the full capitalization hypothesis implied by both Tiebout 1956 and Ricardian equivalence cannot be rejected.
Thus, our results suggest that housing market participants do, in fact, rationally discount properties burdened by higher taxes, implying that only unexpected tax changes can be passed on to new buyers of residential real estate.