Missouri’s legislature has approved nearly $2 billion in tax incentives for Boeing after a House vote today, and the plan awaits Governor Nixon’s (D) signature. We’ve written on this issue extensively, following it from...
The Tax Policy Blog
One of the key players in helping to shelve the recent recommendations of the Tax Reform Panel held its annual Midyear Legislative Meetings in Washington last week. The National Association of Realtors (NAR) exerts enormous pressure on members of Congress, and in the process, has repeatedly helped to defeat meaningful tax reform by preserving the preferential (and distorting) treatment that housing receives from the tax code relative to other forms of investment.
From the Realtors’ own magazine reporting on last week's meetings, we get this report on how NAR has helped to defeat tax reform:
NAR tax counsel Linda Goold briefed attendees on potential tax challenges. Goold pointed out that a full-fledged revamping of the federal tax code hasn’t taken place for 20 years and seems unlikely in the next few years, given the current political climate. But that doesn’t mean that real estate can relax, said Goold. One issue is that many high-profile economists don’t view real estate as a productive asset, like stocks and manufacturing. “We must fight this,” she said.
Another challenge could grow out of the increasing need for revenue to cover recent tax cuts and government programs. Goold pointed out that real estate accounts for between 25 percent and 30 percent of tax breaks in the current tax code — bested only by employer deductions for health care benefits and deductions for 401(k) and other pension plans. With the first baby boomers set to turn 65 years old in the next five years, “where do you think a government starved for revenue is likely to look? Real estate,” said Goold.
Those high-profile economists that Ms. Goold “must fight” are actually 100 percent correct. But Goold’s interpretation of the viewpoints of economists is also misleading. These economists do not feel that real estate isn’t productive. They just (correctly) point out that we have a tax code that rewards real estate up to a point at which investing in it beyond a certain level is not as productive as investing in other forms of capital. What the real estate industry wants (and has been receiving for the past 75 years) is an uneven playing field in investment that benefits real estate, thereby causing over-investment in housing relative to other capital ventures, which is what any unbiased economists would oppose as well.
On the plus side, at least Goold does acknowledge that real estate does receive a large portion of the tax breaks in our current income tax code, and that they are significant enough to be possible future revenue sources. But if you turn this around, however, she is basically saying that these current tax breaks are extremely costly, thereby driving up the marginal tax rates that everyone else has to pay and/or budget deficits.
In the wake of recent high-profile coal mining disasters in Kentucky and West Virginia, Members of Congress have introduced legislation aimed at providing special targeted tax preferences for investments in mine safety equipment.
Like all distortionary tax preferences enacted on behalf of rent-seeking industries, these proposals are hard to justify economically. In an excellent recent post, tax professor James Maule details the case against special tax provisions aimed at subsidizing coal mining companies:
The argument for mining industry tax breaks rests on the proposition that mining fatalities, injuries, and other problems can be attributable, at least to some extent, by the use of antiquated equipment. Companies don't replace this equipment because it is expensive. In a market system, mine operators can choose to update equipment, close the mine, or gamble with the lives of miners by hoping all goes well...
Markets ought not support the proliferation of economic inefficient industries. If coal mining is an industry critical to the economic health of the nation, it needs to charge the true cost of mining coal, which includes the amortized cost of new and safe equipment. The tax law ought not to be used to prop up industries that cannot function viably in the economy...
The argument for these tax breaks proves too much, for it can be used to justify similar tax breaks for every other industry in which worker death and injury is a significant risk. Coal mining is dangerous. So, too, is other mining. Why should tax breaks for worker protection be targeted at the mining industry? What about the industries with the top ten occupational death rates, namely, logging, aircraft piloting, fishing, structural iron and steel work, refuse and recyclable material collection, farming and ranching, roofing, electrical power line installation and repair, delivery, and taxi driving? Would not the same "give them tax breaks so they can buy newer equipment and pay for better training" argument apply no less to these industries? The answer, unfortunately, is that deaths and injury in these professions don't get nearly as much headline time.
And that brings me to the sad part of the matter: political posturing. Politicians seem more prepared to make electoral hay from a disaster than they are to work to prevent the disasters. The pattern is becoming routine. A catastrophe occurs, often because of bad planning, insufficient regulation, or simple inattention on the part of public "servants." At that point, the politicians juggle for television face time. The tax-cut advocates among them immediately propose tax breaks to prevent the problem from happening again. Aside from the inescapable conclusion that tax breaks will not prevent future disasters, the proposed breaks add more complexity to the tax law, increase horizontal disequality, reward industries with the best lobbyists and public relations teams, and erode the nation's overall, long-term financial health.
If the Congress truly wants to improve mine safety, it needs to stop with the tax bribes. It needs to enact laws directly related to mine safety, provide for the enforcement of those laws, enact penalties sufficient in deterrent effect, and come clean with the electorate. The same can be said of any other behavior that Congress wishes to encourage or discourage.
Harvard economist and public-finance legend Martin Feldstein has published an excellent new primer through the NBER's working papers series, "The Effect of Taxes on Efficiency and Growth." Here's an excerpt from the introduction:
The taxes collected by the federal, state and local governments now take one third of GDP. Marginal tax rates are even higher. And it is the marginal tax rates that determine the efficiency costs – i.e., the deadweight losses – of the tax system.
A typical wage earner now pays a combined marginal tax rate of about 45 percent on incremental pay – a 25 percent federal personal income tax rate, a 15.3 percent combined employer-employee payroll tax, and a state income tax of about 5 percent. State and local sales taxes often put the total over 50 percent. And that is for someone who earns as little as $40,000 a year.
Understanding the magnitude and nature of the deadweight losses – i.e., of the efficiency losses – is important for assessing the true cost of increased government spending and for shaping the appropriate structure of taxes.
The good news is that marginal tax rates are lower today than they were in the past and that the deadweight losses of the tax system are therefore correspondingly lower. Back in 1963, the highest marginal tax rate in the personal income tax was 93 percent. A taxpayer in the top bracket got to keep only 7 cents out of every extra dollar that he earned. (I used to work for one of those taxpayers: Ronald Reagan. And his memory of the adverse effects of such high tax rates is an important reason that we have much lower marginal tax rates today.)
Even as recently as 1980, the top income tax rate was 70 percent on interest and dividends and 50 percent on wages and other personal services income. Today the top federal marginal income tax rate is 35 percent, although the effective marginal tax rate rises to about 40 percent when the Medicare payroll tax and the phase-out of deductions are taken into account. In some high-income two earner families, one of the earners is still subject to the marginal payroll tax, raising this 40 percent marginal tax rate to more than 50 percent.
The tax rates on capital income have come down even more than the rates on personal services income. The corporate tax rate is down from 46 percent in 1980 to 35 percent now. The maximum tax rate on capital gains, which in 1980 could reach more than 40 percent as a result of tax add-ons and offsets, is now down to 15 percent, although that could revert to 25 percent if Congress does not renew the current rates. Similarly, the current 15 percent rate on dividend income will revert to the full marginal tax rate of 35-plus percent if Congress does not act.
It would be wrong to conclude from these reduced rates on dividends and capital gains that the tax on investment income is now low. The full tax on capital income includes not only the taxes paid by the individual investors but also the corporate income tax. When these taxes are combined, the result is still a tax that can do a great deal of economic harm.
In a hilarious confirmation of the power of international tax competition, Forbes.com reports that Swedish tax authorities have been dodging Sweden's notoriously high tax burden by outsourcing production of television ads to low-tax Estonia. Ironically, the ads are designed to encourage Swedish taxpayers to "pay on time."
According to the story, the agency also regularly outsources production of print brochures to lower-tax Finland. From the article:
The Swedish tax authority has admitted it produced a television advertisement encouraging taxpayers to pay up on time, in low-cost Estonia, partly in a bid to escape high Swedish taxes, reported the Local.
The ads, featuring popular comic Johan Wahlstroem, would have cost 50 to 100 pct more to make in high-tax Sweden than they did in Estonia, said Bjoern Tennholt at the Swedish Tax Authority (Skatteverket).
'Of course, Sweden is a high-tax society,' said Tennholt.
He admitted the high cost of doing business in Sweden had also led the tax office to make films in Barcelona and Majorca, and print brochures in Finland.
According to the latest Eurostat figures Sweden has the highest tax burden in the EU at 50.5 pct of GDP in 2004, up from 50.2 pct in 2003.
The average tax rate for the 25 EU countries was 39.3 pct of GDP in 2004 versus 39.5 pct.
The rapidly growing Slovakian, Polish and Estonian economies also have the lowest tax burden in the EU.
According to a report in Dagens Industri, Sweden has lost 60,000 manufacturing jobs since 2001 as Sweden's blue chip manufacturers—like the Swedish tax office—opt to produce in lower cost countries.
With gas prices topping $3 a gallon and the summer driving season fast approaching, U.S. Senator Norm Coleman (R-MN) seems to be the latest of our elected officials to succumb to the “do something” disease. According to The Hill:
“A Republican senator [Coleman] wants to raise taxes on oil companies to subsidize gas costs for low- and middle-income drivers, but the idea is attracting criticism from other GOP lawmakers.
The bill would raise $4.3 billion through a retroactive revaluation of oil companies’ inventory under an accounting method known as last in, first out (LIFO), which allows companies to assume that the last inventory they bought is the first inventory sold. The money would then be disbursed to the states through a block-grant program that would defray prices at the pump for low- and middle-income drivers.”
Not all Senators seem to be especially fond of Sen. Coleman’s LIFO bill.
“Sen. John Sununu (R-N.H.) called Coleman’s plan “a dangerous precedent and a foolish idea.” Sununu said Congress should not legislate accounting standards that are regulated by the Financial Accounting Standards Board.” [Full Story]
A similar provision to disallow the use of LIFO for oil companies was initially included in the Senate’s version of the tax bill, but was subsequently dropped in the conference report.
In times of rising prices, LIFO allows companies to reduce their tax liability by increasing their cost of goods sold. Eliminating the use of LIFO inventory accounting is a backdoor technique to raise taxes exclusively on the domestic energy industry — truly a windfall profits tax by another name. As we have previously noted in Fiscal Fact No. 48, the oil companies already contribute a windfall of tax revenue to all levels of government.
Outrage over high gas prices in recent months has sparked growing public support for a windfall profits tax. A new poll from the Pew Research Center shows that only 3 percent of Americans blame supply and demand for high gas prices, while a full 31 percent blame oil companies and 25 percent blame the Bush administration.
Clearly, Americans are looking for someone to blame for rising prices at the pump. This in turn creates a perverse incentive structure for elected officials—encouraging them to focus on poorly designed short-term gimmicks rather than long-term policy solutions.
Yesterday Texas joined a growing list of states with gross receipt style taxes when Governor Perry signed into law a new franchise tax to comply with a court mandate to improve education funding. The updated franchise tax levies a 1 percent tax on the gross receipts of businesses in Texas (retailers pay a .5 percent rate), but exempts sole proprietorships and general partnerships. Businesses can elect to deduct either the cost of goods sold or employment costs. See story here.
Texas joins the group of states with similar style taxes that includes Michigan’s Single Business Tax (SBT), Washington’s Business and Occupations Tax (B&O) and the newly enacted Ohio Corporate Activity Tax (CAT).
Lawmakers like gross receipts type taxes because they raise large amounts of money while often being hidden from individual taxpayers, and they are a more stable source of revenue than traditional corporate income taxes. While they might be a stable and ample source of revenue, gross receipts taxes can be economically crippling- just ask Michgan. See our Michigan Index Analysis.
Gross receipts taxes work best when they are a value added (VAT) style tax that allows for the full deduction of the entire cost of production. None of the states listed above, including Texas, levies a true VAT. Texas lawmakers might have solved the immediate problem of funding education in the state, but might have inadvertently created a tax that will harm Texas’ stellar business tax climate.
In FY 2005 the average resident of a state with a lottery spent close to $200 on lotteries, with many spending considerably more. Studies have shown that the poor spend a disproportionate amount on lotteries. At the same time, Americans are not saving enough for retirement.
A recent Forbes.com article proposes a solution to both problems: a personal retirement savings account lottery. The profit—the portion of the ticket price that the state currently keeps and spends on programs such as education and historic preservation—would instead go into a personal savings account:
Some 20 million Americans spend at least $1,000 a year on lottery tickets. For these heavy purchasers the new tickets would increase their personal savings by $500 a year. Invested over 40 years, these savings tickets would generate an expected retirement nest egg of $200,000.
While this plan would remove the implicit tax from the lottery and therefore decrease tax complexity and increase transparency, it would probably not be popular with pro-lottery politicians. In FY 2003 lotteries provided 2% of total state own-source general revenue, and legislators would be reluctant to give this up.
Even in states that earmark lottery revenue for specific projects, legislators can simply shuffle funds and use lottery revenue for their preferred programs. Reliance on lottery revenue allows them to avoid raising politically unpopular income, sales or property tax rates. Lotteries would likely lose much of their political appeal if legislators were constrained by laws requiring them to deposit revenue into personal accounts.
However, this plan is still better than the current system:
Yes, it is true that we've robbed Peter to pay Paul. We've taken money generally earmarked for education and put that into retirement accounts for the lottery players. We think this is reasonable. The lottery is a strongly regressive tax, and the earmark for education is really a chimera. The government has to pay for education in any case. So the state lottery business is just a disguised tax, levied on people whose share of the national tax burden is already high enough.
Lottery players’ best bet, though, is to skip the lottery entirely and instead save or invest their money for retirement. As Tax Foundation Fiscal Fact No. 45, “Lottery Taxes Divert Income from Retirement Savings” shows, the payoff will probably be much higher—for individuals and for sound state tax policy.
The next time U.S. lawmakers criticize Venezuelan president Hugo Chavez for reneging on valid contracts that the Venezuelan government has signed with U.S. firms, he can just hold a mirror up to the U.S. Congress.
The House of Representatives has just voted to renege on contracts that the U.S. government signed with oil companies. That’s exactly what Chavez did, and Bolivian president Morales has followed suit.
Neither Chavez nor Morales nor the House of Representatives has suggested that the contracts they want to “renegotiate” were signed under false pretenses. Of course, the payments agreed to in the long-term contracts would have taken into account the possibility of steep price drops or rises.
The actions of the two South American presidents are more draconian and more likely to damage their economies in the long run than anything the House of Representatives has voted to do. But that’s a difference in degree, not in principle.
An interesting story on tax fraud comes to us from Nevada courtesy of the Reno-Gazette Journal:
An Incline Village man was indicted Wednesday on felony charges that he created a church, with himself as its minister, to hide his income and avoid paying taxes, the U.S. attorney's office said.
A federal grand jury indicted Paul S. Jensen on three counts of making false claims and three counts of tax evasion, said Natalie Collins, spokeswoman for the office.
According to the indictment, Jensen filed for tax refunds with the IRS in 2001 and 2002 for $117,956, claiming he and his wife had no income during that period. Collins said they actually had an income of $534,206.
He also was charged with failing to pay the tax he owed for 2000 through 2002, she said.
The line with churches, charities, and taxes often becomes tricky given the complicated nature of the income tax code. And the more complicated the code becomes and the higher the tax rates you have, the more attempts at fraud will appear, thereby requiring an ever-increasing IRS enforcement staff.
For more on the complexity of the tax code, visit our section on the topic.
Every year more than two million people visit historic Gettysburg. They go to see the famous Civil War battlefield, reflect on the past, learn about their heritage and, of course, play the slots.
Slots? We made that part up, but it might be true soon, and if you think it sounds strange, you’re not alone.
A developer has announced plans to build the Crossroads Gaming Resort and Spa about a mile from Gettysburg National Military Park. This plan has many residents, anti-gambling groups and historic-preservation groups up in arms. Angry citizens attended public hearings held on the matter by the Pennsylvania Gaming Control Board and formed a group called No Casino Gettysburg solely to block the project. While the Chamber of Commerce supports the casino proposal, the Pennsylvania House of Representatives passed an amendment opposing the plan.
The casino plan won’t be a sure thing until the Pennsylvania Gaming Control Board begins granting Category 1 gaming licenses, possibly in September. Read the full story in USA Today.
What makes this issue a tax policy matter is that the casino plan is not merely a controversial decision by a corporation; it is an act of state government. It all started in 2004 when the Pennsylvania legislature passed Act 72, The Homeowner Tax Relief Act, which authorized over 60,000 slot machines at racetracks and other locations, taxed at 34%, ostensibly to raise money for education and thereby lower property tax rates. As we’ve previously written, (here, here and here) Act 72 is poor tax policy—complicated legislation that increases tax complexity and takes a roundabout route to tax relief.
Proponents of Act 72 and the Gettysburg casino plan seem to believe, as many legislators in other states do, that gambling taxes—which are non-neutral, complex, and often hidden in the form of state lotteries or video lottery terminals—are preferable to straightforward tax increases or decreases.
Gambling has never been so patriotic.
Eurostat—the official statistical arm of the European Union (EU)—released new data on taxes as a percentage of gross domestic product (GDP) in EU countries. Overall, the data reveal that taxes in the EU account for 39.3 percent of GDP.
Overall taxes are down .2 percent from 2003. The report attributes this decline to tax cutting in Italy and Germany.
The former communist countries in Eastern Europe generally have the lowest tax burdens in the EU. Lithuania (28.4 percent), Latvia (28.6 percent), Slovakia (30.3 percent) and Poland (32.9 percent) are among the countries with the lowest tax burdens. Ireland—which levies the lowest corporate income tax rate in the OECD (12.5 percent)—also has a low tax burden (30.2 percent).
Central and northern EU countries tend to have the highest tax burdens. Sweden is number one at 50.5 percent, followed by Denmark (48.8 percent), Belgium (45.2 percent) and Finland (44.3 percent). Other notables include France (43.4 percent), Italy (40.6 percent), and the United Kingdom (36.0 percent).
Japan and the U.S. have a much lower tax burden (approximately 14 percent lower, according to the report) than EU countries. This is a bit ironic, considering that Japan (39.5 percent) and the U.S. (39.3 percent) have the highest combined corporate income tax rates in the OECD (a trend that we reported in this fiscal fact).
As the President signs the latest tax cut bill today, much discussion has centered on the economic growth consequences—both short-run and long-run—of such tax cuts, as well as the revenue implications. Many economists have discussed to what extent, if any, static analysis of the extended tax cuts overstates their foregone revenue costs.
For those unfamiliar with the issue or those merely seeking further reading on the topic, we‘ve assembled a collection of articles (some technical, some general) on the issue of “dynamic scoring.” We’ve attempted to provide a balanced compilation of the literature, focusing on the main players in the dynamic scoring debate over the past thirty years, including Alan Auerbach, Martin Feldstein, and Arthur Laffer.
Note this collection includes only literature that is freely available on the web, and excludes many academic articles available only through services such as JSTOR.
Dynamic Scoring: An Introduction to the Issue, by Alan Auerbachhttp://emlab.berkeley.edu/users/auerbach/dynamscor.pdf
Static vs. Dynamic Scoring, American Enterprise Institute Event (November 2003), includes video, transcripts, and summary of event, which included, among others Auerbach, Martin Feldstein, Bill Gale (Brookings), Kevin Hassett (AEI), Douglas Holtz-Eakin, and Benjamin Page.http://www.aei.org/events/filter.all,eventID.662/event_detail.asp
Overview of Revenue Estimation Procedures and methodologies Used by the Joint Committee on Taxationhttp://www.house.gov/jct/x-1-05.pdf
Dynamic Scoring: A Back-of-the-Envelope Guide (fairly technical using economic growth theory), by Greg Mankiw and Matthew Weinzierlhttp://post.economics.harvard.edu/faculty/mankiw/papers/dynamicscoring_05-1212.pdf
Dynamic Scoring: Alternative Financing Schemes (technical), by Eric Leeper and Shu-Chun Susan Yanghttp://www.nber.org/papers/w12103.pdf
Macroeconomic Implications of Federal Budget Proposals and the Scoring Process, by Peter Orszaghttp://www.brook.edu/views/testimony/Orszag/20020502.pdf
The Role of Dynamic Scoring in the Federal Budget Process: Closing the Gap between Theory and Practice, by Rosanne Altshuler, Nicholas Bull, John Diamond, Tim Dowd and Pamela Moomauhttp://www.aeaweb.org/annual_mtg_papers/2005/0107_1430_1302.pdf
Methodology and Issues in Measuring Changes in the Distribution of Tax Burdenshttp://www.house.gov/jct/s-7-93.pdf
The Effect of Taxes on Efficiency and Growth, by Martin Feldsteinhttp://www.nber.org/papers/w12201
The Laffer Curve (Wiki entry)http://en.wikipedia.org/wiki/Laffer_curve
On the Analytics of the Dynamic Laffer Curve, by Jonas Egell and Mats Perrsonhttp://www.iies.su.se/publications/seminarpapers/682.pdf
CBO Testimony on Federal Budget Estimating (May 2002)http://www.cbo.gov/showdoc.cfm?index=3422&sequence=0http://www.cbo.gov/showdoc.cfm?index=3511&sequence=0http://www.cbo.gov/showdoc.cfm?index=3384&sequence=0
The Case for Dynamic Scoring, Bruce Bartlett (2002, National Review Online)http://www.nationalreview.com/nrof_bartlett/bartlett050602.asp
Dynamic Scoring: Not So Fast!, by Rudolph Pennerhttp://www.taxpolicycenter.org/publications/template.cfm?PubID=9698
Greenspan Comments on Dynamic Scoring (testimony from 2002)http://frwebgate.access.gpo.gov/cgi-bin/getdoc.cgi?dbname=107_house_hearings&docid=f:81696.wais
Bernanke Comments on Dynamic Scoringhttp://www.taxfoundation.org/legacy/show/1462.html
In a classic use of a "Pigouvian" tax, the Chinese government has slapped a 5 percent excise tax on disposable wooden chopsticks supposedly aimed at slowing deforestation in the Chinese countryside. From Yahoo News:
Walk into any Japanese noodle shop or restaurant and chances are you'll be eating with a pair of disposable wooden chopsticks from China — but not for long. In a move that has cheered environmentalists but worried restaurant owners, China has slapped a 5 percent tax on the chopsticks over concerns of deforestation.
The move is hitting hard at the Japanese, who consume a tremendous 25 billion sets of wooden chopsticks a year — about 200 pairs per person. Some 97 percent of them come from China.
Chinese chopstick exporters have responded to the tax increase and a rise in other costs by slapping a 30 percent hike on chopstick prices — with a planned additional 20 percent increase pending.
The price hike has sent Japanese restaurants scrambling to find alternative sources for chopsticks, called "waribashi" in Japanese.
"We're not in an emergency situation yet, but there has been some impact," said Ichiro Fukuoka, director of Japan Chopsticks Import Association. (Read the full story here.)
Since taxes affect relative prices, which in turn affect the costs and benefits of different cultural habits, there may be an unexpected consequence: the rise of the western-style fork.
If that sounds implausible, recall the well-documented cultural impact of the 18th Century British window tax—i.e., narrow house fronts and bricked-up windows that characterize classic British architecture to this day.
The House Ways and Means Committee produced a nice summary of the tax reconciliation conference report. http://waysandmeans.house.gov/media/pdf/taxdocs/050906longsummary4297.pdf
This weekend the Boston Herald reports on a proposed change to federal telephone taxes being considered by the Federal Communications Commission that could lead to a steep tax increase on the housing facilities of the nation's colleges and universities:
A plan to make federal phone taxes a flat fee for every phone number and computer modem could cost the nation’s colleges an extra $320 million and prompt some to do away with dormitory phones or raise tuition and fees, opponents say.
Under the proposal, the federal Universal Service Fund fee would shift from the current pay-as-you-use percentage of long-distance calls to a flat $1 tax per month on every phone number.
Because of the number of lines colleges and universities have, the plan would pose a particular blow, many say, resulting in a net annual increase of at least $320 million in taxes at the nation’s 4,325 post-secondary institutions.
“The reality is that extra USF costs for colleges and universities would be passed along to students and their families, either in terms of reduced service or higher bills,” said Linda Sherry, co-chairwoman of the Keep USF Fair Coalition, a consortium of 115,000 groups opposed to the proposal.
If the Federal Communications Commission approves the plan, the average college could see its phone bill soar to $82,999 per year from $8,971, an increase of 892 percent, the coalition estimated. (Read the full piece here.)
Of course, the most likely consequence of such a tax increase might be a further acceleration of the trend toward cellular service and away from landlines.