Senate Bill 640 is a good deal for most Maryland families. A microsimulation analysis we have conducted using the Institute on Taxation and Economic Policy Tax Model, found that 99% of Maryland families would receive a tax cut or have no tax change, without any decline in funding for important government services. 66% of Maryland families would receive a tax cut.
While this legislation is not unique this year in providing a tax cut for many Marylanders, it has a key virtue lacking in many of the other tax-cut bills currently being considered--it does not cause a net revenue loss for the state. This is accomplished by a small tax increase on the best-off families in the state.
In these times of the rich getting richer while middle- and low-income families are having trouble making ends meet, Senate Bill 640 is the type of tax reform we should be considering. It helps those who need it while increasing the burden on the most fortunate by less than one-percent of their total income.
The following table shows the impact of Senate Bill 640 by income group. The vast majority of those that currently owe Maryland personal income tax would receive tax cuts. In the middle 20% income group, those with incomes between about $21,000 and $35,000 in total income, 86% of the families would get a tax cut. In the fourth 20% income group, those with incomes between about $35,000 and $60,000, 97% of the families receive a tax cut. In fact, in each of the income groups spanning the income range of $21,000 to $237,000, over 85% of families receive a tax cut under Senate Bill 640.
Only the richest one-percent of Marylanders, those with incomes exceeding $236,805 in income would, on average, see a tax increase. These taxpayers, with an average income of over $560,000 would see an average tax increase of $4,356. This, however, overstates the true impact. Because state personal income taxes are deductible from the federal personal income tax, most taxpayers in this group would see reductions in their federal personal income tax of close to 40% of the amount of additional state income tax paid. Thus, the average net impact is less than $3,000--well less than one-percent of these families' incomes.
Historically, the economies of many states with high top rates have done well and many states with low rates have done poorly. The evidence is that there are far more powerful forces than top marginal rates that drive the economic success or failure of a state.
For example, during recent downturns in New England's volutile economy it has been Rhode Island and New Hampshire that have done the worst. Rhode Island has the highest top rate in the region, and New Hampshire is the one New England state without any broad-based income tax--yet they have both done poorly. Vermont, with the next highest top rate has done well relative to the other states. This complete lack of a relation between economic success and personal income tax rates is the rule, not the exception, nationwide.
Even the basic notion that the well-off are more likely to locate in states with lower top rates is belied by the evidence. Places that have taxed the well-off more heavily, such as California and New York City, have far larger concentrations of the wealthy than do the vast majority of states that have lower rates on the highest income groups.
It really shouldn't be surprising that top tax rates matter so little to economic development. Senate Bill 640 would raise total taxes on an executive with a $500,000 salary by less than $3,000. It's hard to believe that a company that can pay an executive $500,000 is going to make a locational decision based on that small of a difference in personal taxes on a few of its top executives. That amount is trivial compared with much more important criteria like the quality of the workforce, transportation, access to suppliers and markets and a broad range of costs that vary by state.
More generally, the limited range in state personal income tax top marginal rates is unlikely to make much difference in locational decision making. The nationwide range in state top marginal rates is only from 0% to 6.6% (after accounting for the federal deduction for state and local income taxes). It's important to note that top executives are paying a 39.6% federal top rate and the businesses they lead pay a federal corporate income tax rate of 35% as well as other business taxes. In that context, a few points difference in a state personal income tax rate is simply not a significant change in the overall tax picture. And, again, the amounts involved are extremely small compared to other economic ramifications of a business location decision.
Finally, it's important to note that a decision on where to locate is one that any company is going to have to live with for years. To make that decision on the basis of a personal income tax top marginal rate would be foolhardy given state governments' penchant for changing them.
The second technical issue is the creation of a separate table for married filing joint returns in Senate Bill 640. The two-earner credit was adopted, effective this year, to mitigate the tax disadvantage for married couples filing jointly instead of filing separately. An appropriately designed tax rate schedule might make the two-earner credit unnecessary, thus simplifying tax filing.
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