Tennessee legislators are currently considering several bills that would eliminate or draw down the state’s 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. on interest and dividend income. This tax is called the “Hall” tax in Tennessee, named for Senator Frank Hall, who created the legislation back in 1929. These proposals appear to have some legs, as organizations in Tennessee and at the national level have called for the outright repeal of the tax, citing it as a relatively inexpensive way for Tennessee policymakers to reduce taxpayer headache, increase business competitiveness, and reduce taxes on savings vehicles. We find that repealing the Hall tax would move Tennessee up from 15th to 11th in our State Business Tax Climate Index, our ranking of business tax friendliness:
2014 State Business Tax Climate Index Score with Hall Tax Repeal
|
Current Law |
Hall Tax Repeal |
|
|
Overall |
15 |
11 |
|
Corporate |
14 |
14 |
|
Individual |
8 |
7 |
|
Sales |
43 |
43 |
|
Unempl. Insur. |
27 |
27 |
|
Property |
37 |
37 |
Note: Rankings assume repeal is in place as of our snapshot date of July 1, 2013.
Tennessee is a bit of an anomaly in that it does not have a tax on wage income, but still requires individual taxpayers to go through the onerous compliance process of filling out state income tax forms, but only on their interest and dividend income. The only other state that does this is New Hampshire. I’ve actually heard the Hall tax called the “asterisk tax” before, because every time you put state income taxes on a map, Tennessee has an asterisk that notes this peculiar practice.
While this tax only collects 0.9 percent of Tennessee’s state and local revenue, it comes at great economic cost. First, the Hall tax form is filled out by thousands of people each year, even filers with very small tax liabilities, and this costs time and money. Second, it taxes income that is generally used as a savings vehicle for consumption later in life, which harms economic growth and is a hindrance to life planning (this in part led to a higher exemption level for senior citizens that took effect in 2013). Third, the Hall tax is a double tax, because corporate profits are the source of interest and dividends, and corporate profits are already taxed once through the corporate income tax.
So why is this tax still around? Part of the problem is that some of the Hall tax revenue is dispersed to localities, which lobby to fiercely guard any reductions in taxing power, even if the reforms are worthwhile or improve the state’s competitiveness and the well-being of residents.
Don’t be fooled by hyperbole though. Hall tax reductions or elimination won’t result in sizeable budget impacts on localities. The Tennessee Advisory Commission on Intergovernmental Relations concluded back in 2004, “the state and most local governments in Tennessee are not to any significant degree dependent on [Hall tax] revenue for funding general government operations.”
That study also found that Hall tax revenue is among the most volatile of revenue streams in the state and local toolkit. In Nashville, for example, collections ranged from $7.4 million in 2010 to $14 million in 2013. Localities have managed to plan around those swings in revenue as a result of economic cycles, and this hasn’t resulted in slashes to school, police, and fire protection funding. In the same manner, Hall tax reduction as a result of policy changes can similarly be met with prudent planning on the part of localities.
As of the 2004 report–the Beacon Center of Tennessee tells me they will be posting more recent figures shortly–almost all cities (92 percent of them) gathered less than five percent of their revenue from Hall tax distributions, and no county in Tennessee relied on the Hall tax for more than 0.5 percent of revenue. There were six small cities (population less than 5,000 people) that leaned on the Hall tax for a more sizeable chunk of revenue, and so the state could consider solutions ranging from locality consolidation, a local aid program that phases out over time, or the localities changing property tax policy.
Regardless of what Tennessee chooses to make it work with the localities, keeping the Hall tax around isn’t advisable going forward. It’s a superfluous tax in a state with an otherwise well-structured code.
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