New Report Quantifies “Tax Cronyism”

August 08, 2014

The American Legislative Exchange Council recently released a report on the unseen costs of tax cronyism that offers for the first time a number figure on how much states give away in tax favoritism per year.

The report finds that states awarded $220 billion for personal income and business earnings exemptions and $260.1 billion in sales tax exemptions. These figures don’t even include tax breaks for individual businesses. The authors of the report reviewed the most recent year of published state tax expenditure reports, parsed out the good tax expenditures, and tallied those that favored some industries over others.

The report suggests eliminating tax cronyism by ending special carve-outs and lowering tax rates elsewhere with the savings. Special privileges that cannot be removed should be transitioned to spending programs and all future special tax privileges should meet rigorous and transparent reporting standards.     

One of the things we were excited to see was that the report takes great care to note that there are many tax expenditures that may look like carve-outs, but are in reality required to have a well-structured tax base. Exemptions for sales taxes on business-to-business transactions, for example, should not be included in a tally of business subsidies. Taxing business-to-business transactions results in tax pyramiding, where the same good is taxed two, three, four or more times. Similarly, lower tax rates on investment income are also used to reduce double taxation and help move toward a neutral tax base. 

This report is a big improvement on the previously oft-cited New York Times research, which simply added up state expenditure reports as the foundation for their state rankings. The inherent problem here is that each state’s definition and reporting standards for expenditures varies widely. The New York Times caught some flak for this error. Almost all states allow some exemption for sales taxes on business-to-business transactions, but not all states report these exemptions as a tax expenditure.

The new American Legislative Exchange Council report, by contrast, provides a better starting point to discuss the problems with tax cronyism and targeted incentives. When states offer incentives to just a handful of companies, they distort markets, misallocate capital, and slow economic growth. Targeted tax incentives reward political power and lobbying over consumer preference and long-run economic growth.

Give the whole report a read here.

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