Zero Tax

Zero Tax?
Steve’s part of a 23-person panel which will likely author a bill to reduce Oklahoma’s income tax to zero in 10 years. I’ve been trying to help him think about how to present this idea. Here’s the fat and skinny of this proposal. Short version first, then a lengthier explanation, followed by website where you can see all the gory details.
States with no income tax and low overall taxes grow at about 5% a year while those with high taxes and highest income tax rates grow at 2-3% per year. No income tax states also have better services and safety nets (Revenue doesn’t drop so badly during recessions.) OK has a good overall tax burden compared to many states but higher income taxes. Worse, former Senator David Myers told us it is, “The Loophole Capital of America” with thousands of loopholes and exemptions that leave many paying virtually no state income taxes at all. Moreover, if OK merely eliminated all but the vital exemptions we could immediately lower the top rate from 5.25% to 3% with no loss of revenue (OTC report). Or, studies have shown, we could further this to an entire elimination within about 10 years if we could find about 6% budget cuts in the first year. The average taxpayer pays $1100 in state income taxes and $1300 in property taxes. Property taxes are locally decided and collected and the state has no claim on them, nor does it intend to. That means that after Zero Tax the state would be primarily dependent on sales taxes, fees and licenses, and severance taxes on petroleum. Sales taxes are the biggest contributors and are unlikely to be raised since consumer studies show that these have been maxed out and citizens won’t allow them to be raised. Fees that are raised often spark a rebellion also. So the state would have to live within its means. And once OK has no income tax, it would become the 2nd most tax-free state in America. That giant sucking sound of surrounding states is all the business moving to Oklahoma.
Here’s more detail. Arthur Laffer’s firm, Arduin, Laffer and Moore Econometrics was commissioned by the OK Council of Public Affairs to study OK’s taxes. The nine states with the lowest overall tax burdens (AK,NV,SD,TN,WY,TX,NH,SC,LA in that order) average 7.67% of personal income in taxes. OK is 8.7% and the states with highest burdens (MA,VT,MN,CA,RI,WI,CN,NY,NJ) average 11.02%. Those low-tax 9 had growth over the 2001-2010 decade of 58.57%, OK=51.81%, and 38.24% for the nine highest. We come out looking fairly favorable but remember the 2007-2009 recession didn’t hurt OK like it did the rest of the country. Wyoming with no tax had a 105.6% growth and South Dakota (third poorest growth of the low tax states) grew at 58.5%. Now why would anyone go to S. Dakota? Okay, so you really loved the Corn Palace and Walls Drug, but would anybody else move there? Yet S. Dakota’s 58.5 compares with next door and high-tax Minnesota’s 39.5 and Wisconsin’s 35.3% growth for the decade. You can play the same comparison games with Oregon-Washington and New Hampshire-Vermont. From a state revenue perspective, the 9 low-taxers gained 120.94% and the high-taxers averaged 57.46% revenue growth. OK revenues grew 58.53% for the decade. Payrolls (employment) grew +4.72% for the low-taxers and shrank -2.89% for the high-taxers. OK broke even at +.051%. The highest tax state in the country is New Jersey and lowest is Alaska. Likewise the states with zero income tax are almost an overlay of the low-tax states with Florida replacing S. Carolina. The highest income tax states are similar with Connecticut, Rhode Island and Wisconsin replaced by Oregon, Hawaii, and Maryland having an average 9.92% max income tax rate. Growth differential is even more pronounced with Zeros growing 123.66% a year. Finally Laffer offers a competitive environment ranking where other business factors like how business friendly is the legal system and how much state debt questions are considered. Again the list is extraordinarily similar (CO, an OK neighbor has a good business environment) and here the well-ranked states have 6.5% employment growth while the worst lost 0.9% of jobs.
States without an income tax exhibit less economic volatility and more tax revenue stability during bad economic times and stronger tax revenue growth during good times. Nevada was hammered by the recession and has been on national TV with anecdotes about home prices that dropped in half over the last 3 years. Yet the state had revenue growth of 100.1%. Of the low income tax states, only New Hampshire lost jobs--not surprising considering that Boston was so recession-hammered and most of the residents live as a suburb to Boston, moreover, the high fuel prices cripple cold New England which heats with fuel oil. Still they only lost 0.7% jobs and state revenues grew by 59.6%--almost equal to Oklahoma which was less damaged by the recession.
Lest one think that historic or geographic results were cherry-picked (well of course the states are all over the map), Laffer also notes that in the last 50 years 11 states have instituted a progressive income tax. Compared to the time just prior to the introduction of the income tax, EVERY state lost share of the U.S. economy after taxing. This is progress?
Steve and I notice a lot of skepticism about getting rid of the income tax. Residents of Pawhuska were wary and asked what other tax was going to go up to replace the revenue. I had a similar personal reaction initially and wanted to know if ‘no income tax’ would mean that my property taxes would take a hit. How do we lower taxes without a crash and burn? A $5.8 billion budget with 1.85 million taxpayers means that average Joe pays $3100 in state taxes—sales taxes, income taxes, fees, licenses, severance and hidden state charges that are usually paid by businesses and which most citizens are unaware. (Also Joe pays about $1300 in county property taxes) Income tax is 37% or $1147 of the total state take. Now suppose we remove 90% of the exemptions and lower the max rate from 5.25% to 3% as OK Tax Commission has recommended. This would be revenue neutral. (Some exemptions in manufacturing are necessary. Else costs of retail goods would be mostly tax) That would be an inducement in itself to bring business to the state since 3.0% would then be the 10th lowest max rate after the nine states with no tax. (PA has a 3.07% and all others are over 4.) Sales tax, currently at 4.5% for the state portion, generates almost $1500 from Joe. But what if we reduced the max income tax rate even farther to 2.25% the first year? The result would be $558 million less revenue but then state revenue should grow about $200 million a year anyway. So the shortfall would be $300-400 million or about a 6% budget cut. Could it be done? The Governor and Panel of 23 are pledged to not touch education, corrections, and a couple of other vital state functions. (Sorry,old brain, bad memory, ask Steve what they are.) The 6% cut is important since the econometric models run by Laffer are then able to completely eliminate income tax in quarter percent increments over ten years. Those models suggest that the state’s economy would grow and sales taxes would increase enough to take care of the income tax reductions.
Really? I was disbelieving. But then Laffer points out that in the years prior to 2005 (when OK began to reduce the income tax), the sales tax growth rate was 2.7% annually. Since 2005, despite the recession, sales tax growth has been 6.6%. When in 2005 the tax was first cut a quarter point, the Senate estimated a tax shortfall of $150.8 million. But in fact sales and income taxes grew $305million. Amazing what people will do with more money in their pockets.
Well, what do they do? We had a meeting we had with Craig and Homer. Stephenson rather astutely calculates the city’s total payroll at $417 million. City tax collections are about a million a month which calculates 3.5% of a $350 M tax base. Yet they claim that a far lower percentage of added dollars-in-the-pocket would be spent. Homer waves his hands and said they would pay off credit cards or take it to the casino. Well, yes, or spend on services and save. I’m no expert of sales tax theory or econometrics. Laffer, like Craig, calculates a 30% sales tax base. He uses a pooled regression analysis to predict the future. I’m a total dunce about such things but my hand calculations seem to note that he assumes a 4% growth rate in the economy. That suffices to cover the tax cut deficiencies.
Still, Steve says that if we have a tax-cutting we need to have benchmarks in place that stall any future cuts if we fall short. I can think of other objections to the Zero Tax. One is “cities depend on sales tax for most of their budgets. What if the state decides to raise their rate and there begins a sales tax war between municipalities and the state?” Two things seem to guard against this. One is that double-digit (total) sales tax rates drive sales across state lines (Ask Dallas what happened in the 90’s when they did this). And right now, everybody seems to have combined sales taxes of 8 or 9%. Secondly citizens who pay in the area get really rebellious when they see double digit sales taxes every day on every purchase. They are likely to take out their ire on the local state legislator if he voted to raise state sales tax rates. Well then, could the state raise fuel taxes at the pump? Not too much. Kansas has 5 cents more tax and we already see Arkansas Citians visiting the Otoeplex on Highway 77 for gasoline. Fee increases? These hammer select groups and those folks really holler when they get a fee increase. The squall gets magnified as a campaign issue, so again politicians are under the gun to keep fees under control. Raising severance taxes has already been shown to kill drilling so that is unlikely to happen. The bottom line here is that everyone will have to live under a tight budget, but not so different than the current ones we are used to.
In the end, Zero Tax reminds me of what I really stand for. If we had no income tax, it would be an incentive for people to work, to save, to produce in Oklahoma. It would be one less, very complex, regulation of our lives. The less we have to fill out tax forms and other regulatory red tape, the more folks can follow their dreams and their relationship with their Maker. And if someone gets a job reduction letter at the Oklahoma Tax Commission they can turn their accounting skills to better things. This is what we are really about, not being serfs to the bureaucracy, but finding ways to do things better. It helps enormously when our eyes are not so much on the bottom line, when the economy is good and jobs are available, as might happen with Zero Tax. The less fortunate fall between the cracks less often when we behave like inspired men in pursuit of a dream as well. Maybe we can really do this thing. Can we muster the courage to risk the change?
You want to see the whole Laffer study? Go to http://tinyurl.com/LafferPlanOK