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Proposed Illinois Tax Hikes are a Regional Outlier

2 min readBy: Jared Walczak

Proponents of a higher graduated-rate income taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. in Illinois have urged looking to neighboring states for ideas. This isn’t a bad idea. Just what are Illinois’ neighbors doing on taxes?

They’re taxing less, for starters. In Illinois, state and local taxes account for 9.3 percent of state income. The state and local taxes in Illinois’ six neighboring states account, in aggregate, for 8.0 percent of the income of those states.

Taxes as a Percentage of State Income
State % of State Income
Source: U.S. Census Bureau; Bureau of Labor Statistics
Illinois 9.3%
Indiana 7.3%
Iowa 8.0%
Kentucky 8.5%
Michigan 8.1%
Missouri 7.4%
Wisconsin 8.6%
All Neighboring States 8.0%

Illinois’ neighboring states are also cutting their individual income taxes. Except for Iowa, all of Illinois’ neighbors have cut their income taxes since Illinois adopted its “temporary” income tax increases in 2011—and Iowa is on the verge of adopting a tax reform package that cuts individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. rates, possibly by the end of the week.

  • Indiana reduced its broad-based, single-rate individual income tax from 3.4 to 3.23 percent as part of a broader multiyear package of tax reforms which has also seen the corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. rate decline from 8.5 to 6 percent, with a further phasedown to 4.9 percent
  • Iowa legislative leaders have reached an agreement which, among other changes, would consolidate the state’s nine-bracket individual income tax down to four brackets and reduce the top marginal rate from 8.98 to 6.5 percent over a few years, along with planned corporate income tax reductions and other reforms.
  • Kentucky recently adopted legislation which replaces its graduated-rate individual and corporate income taxes, both with top rates of 6 percent, to single-rate taxes of 5 percent, among other reforms.
  • Michigan reduced its single-rate income tax from 4.35 to 4.25 percent in 2012, a partial reversal of a 2007 tax hike.
  • Missouri adopted a modest set of tax triggers which, thus far, have reduced the state’s top marginal individual income tax rate from 6 to 5.9 percent with a target of 5.5 percent, and lawmakers are actively considering several larger tax reform packages.
  • Wisconsin reduced all individual income tax rates in 2012, lowering the top marginal rate from 7.75 to 7.65 percent, then made a further reduction to the bottom bracket in 2014, reducing that rate from 4.4 to 4 percent.

Over the same period, Illinois’ single-rate income tax was temporarily raised from 3 to 5 percent, then allowed to partially sunset to 3.75 percent before being raised to the current 4.95 percent rate. A 1.5 percent surtaxA surtax is an additional tax levied on top of an already existing business or individual tax and can have a flat or progressive rate structure. Surtaxes are typically enacted to fund a specific program or initiative, whereas revenue from broader-based taxes, like the individual income tax, typically cover a multitude of programs and services. on pass-through businessA pass-through business is a sole proprietorship, partnership, or S corporation that is not subject to the corporate income tax; instead, this business reports its income on the individual income tax returns of the owners and is taxed at individual income tax rates. income brings the rate on many small businesses to 6.45 percent. Now there are calls to amend the state constitution to allow graduated-rate income taxes, with proposals circulating to create a top marginal rate as high as 9.85 percent (11.35 percent on pass-through businesses).

Top Marginal Income Tax Rates in 2011 and Today
State 2011 Top Rate Today’s Top Rate Proposals
Illinois 3.0% 4.95% 9.85%
Indiana 3.4% 3.23%
Iowa 8.98% 8.98% 6.5%
Kentucky 6.0% 5.0%
Michigan 4.35% 4.25%
Missouri 6.0% 5.9% 4.85 – 5.5%
Wisconsin 7.75% 7.65%

If tax increase proponents are really looking to neighboring states as they consider these options, they must be doing it with an eye to going in the opposite direction.