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Responses to Questions from Senator Mike Enzi on the Effect of Federal Tax Policy on the States

7 min readBy: Joseph Bishop-Henchman

These questions related to this testimony to the U.S. Senate Finance Committee. See related answers to questions from Senator Baucus, Senator Snowe, and Senator Hatch.

As you know, the 1992 Quill decision restricts the states’ ability to require sales 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. collection from non-nexus sellers. Since then Internet sales have only grown bigger and a number of states have tried to take matters into their own hands with various state laws. Can Quill be overturned by state action or do you agree with me that this is an interstate commerce issue that can only be solved by Congress?

You are correct: Quill can be modified or overturned only by Congress or the U.S. Supreme Court. States can try to defy the ruling, as they do with state-level “Amazon” taxes, but such efforts violate the separation of powers.

Should Congress, or any government, be in the business of picking winners and losers in the marketplace?

Definitely not: indeed, it is one of the primary goals of the Tax Foundation’s policy program. This extends far beyond the sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding. debate, however. Many states tax goods and not services, they tax backpacks sold in June but not in August, they tax an engineering firm but not a film company, they tax soda but not fruit, they tax hotel rentals but not housing sales, they tax oil energy but not “green” energy. All of these involve government picking winners and losers through the tax code and are unjustifiable.

I am supportive of efforts to eliminate the tax disparity between like goods sold in the same state. However, the solution should not be to permit states to tax any transaction anywhere in the world. Limits and minimum standards are needed to prevent complexity being inflicted on our national economy.

Many Governors are attempting to repeal or significantly reduce their corporate and personal income taxes. Assuming the sales tax is the tax those Governors need to rely on for some or all of the lost revenue, how can they do so without Congress acting to provide the authority found in S. 1832?

Aside from the District of Columbia, state decisions to reduce or repeal state corporate or 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. es are not subject to congressional review. The congressional authority you refer to is giving states the power to expand their tax collection power beyond their borders to businesses with no property or employees in the state. This requires congressional action to grant, as it is not an inherent “police power” of the state and is barred by Quill.

The Wall Street Journal ran an article on Friday, April 20, 2012, titled “Laffer and Moore: A 50-State Tax Lesson for the President.” Some of the notable comments in the article include the following:

“Every year for the past 40, the states without income taxes had faster output growth (measured on a decadal basis) than the states with the highest income taxes. In 1980, for example, there were 10 zero-income-tax states. Over the decade leading up to 1980, those states grew 32.3 percentage points faster than the 10 states with the highest tax rates. Job growth was also much higher in the zero-tax states. The states with the nine highest income tax rates had no net job growth at all, and seven of those nine managed to lose jobs.”

“Every time California, Illinois or New York raises taxes on millionaires, Florida, Texas and Tennessee see an influx of rich people who buy homes, start businesses and shop in the local economy.”

“Republican governors in Florida, Georgia, Idaho, North Dakota, South Carolina, Ohio, Tennessee, Wisconsin and even Michigan and New Jersey are cutting taxes to lure new businesses and jobs.”

“Asked why he wants to reduce the cost of doing business in Wisconsin, Gov. Scott Walker replies: ‘I’ve never seen a store get more customers by raising its prices, but I’ve seen customers knock down the doors when they cut prices.’”

What lessons should the federal government and the Obama administration take away from the states’ experiences described in this article? Do you believe that there are barriers that limit the ability of the federal government to mimic some of the successes of the states on tax and economic policies? If so, how can those barriers be eliminated?

We write extensively on the U.S.’s out-of-step 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 and the importance of lowering it, which is a position shared by President Obama and many congressional leaders.

Obviously, the simplest and most neutral tax is one that does not exist, but abolition of all taxes is not a necessary goal of tax reform efforts. Special emphasis should be given to changes that reduce compliance costs and deadweight losses to the economy. In the end, though, tax money must be raised for whatever we want the federal government doing. That money should be raised in the least distortive way possible. Most economic evidence suggests that a greater reliance on consumption taxA consumption tax is typically levied on the purchase of goods or services and is paid directly or indirectly by the consumer in the form of retail sales taxes, excise taxes, tariffs, value-added taxes (VAT), or an income tax where all savings is tax-deductible. es, and taxing savings and investment less, would be a positive change.

Last November, a group of bipartisan cosponsors and I introduced the Marketplace Fairness Act. For over a decade, Congress has been debating how to best allow states to collect sales taxes from online retailers in a way that puts Main Street businesses on a level playing field with online retailers. The Marketplace Fairness Act empowers states to make the decision themselves. If they choose to collect already existing sales taxes on all purchases, regardless of whether the sale was online or in store, they can. If they want to keep things the way they are, it’s a state’s choice. Some have commented that legislation like this should be part of tax reform. However, I don’t see it that way. I don’t see a relationship between this bill and the upcoming negotiations on individual and corporate tax rates and the breadth of the income tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. . Do you agree that this is an issue that is not and should not be confused with tax reform? Do you agree that Congress does not need to wait for tax reform as the context in which to enact something along the lines of the Marketplace Fairness Act?

I would agree with you: the state sales tax issue is distinct from federal tax reform and the issues need not be paired together. Whether that is advisable for legislative action reasons, I can only defer to your judgment. I would state that both issues are important.

H.R. 1864, the Mobile Workforce State Income Tax Simplification Act of 2011, was introduced by Rep. Howard Coble (R-NC) and Rep. Hank Johnson (D-GA) on May 12, 2011, and seeks to simplify workers’ tax reporting requirements by establishing a threshold for workers who are employed in multiple jurisdictions. Consistent with current law, the bill provides that an employee’s earnings are subject to full tax in his or her state of residence. In addition, the bill would provide that an employee’s earnings would be subject to tax in the state(s) within which the employee is present and performing employment duties for more than 30 days during the calendar year. The bill would provide exceptions for professional athletes, entertainers, and certain public figures who are paid on a per-event basis to give a speech or similar presentation. It’s my understanding that the bill was designed to assist workers in an increasingly mobile economy that currently face inconsistent tax requirements in the multiple jurisdictions where they travel to perform work. In what ways does the bill solve these problems? What concerns have been raised? In your view, do the benefits outweigh the costs associated with this legislation?

The bill permits the continued existence of a patchwork of different state rules on income taxes, mandating a federal floor for only one aspect: that states cannot collect income tax from an individual who is present in the state for less than thirty days. So while business travelers still face many different income tax rules, under the bill they can only be subject to them if they’re truly earning income in the state for an extended period of time. This came across to me as a fair compromise that will eliminate much in the way of unnecessary compliance costs. The revenue changes for states as a whole will be a wash, although high-income tax states with lots of business travelers (essentially New York) will see a revenue reduction. This cost is heavily outweighed by the other benefits to the national economy and taxpayers as a whole.