In a speech before the Citizens Budget Commission last week, the Director of New York State's Division of the Budget, Paul Francis, indicated that the Empire State will likely face a budget deficit of at least $3.6 billion for the 2008-2009 fiscal year. One of the main factors contributing to that deficit is an expected slowdown in revenue associated with the financial services and real estate industries. In fact, according to Francis, during some periods, "Wall Street accounts for up to 20 percent of [state] revenues," leaving New York particularly vulnerable to fluctuations in those sectors of the economy. Despite this sobering news, Governor Eliot Spitzer continues to express his desire to cut taxes - and Republicans in the Senate seem bent on doing the same. While property taxes are clearly a hot-button topic in New York, one's first move to get out of a budget hole shouldn't be to dig deeper into it.

American insurance companies came to the Hill Wednesday to complain about a tax-avoidance strategy that they say is giving Bermuda-based insurance companies an unfair competitive advantage. The general idea is that an insurance company can locate or relocate in Bermuda, which has a tax treaty with the United States allowing premiums paid to Bermuda-based insurers by U.S. customers to be free of U.S. tax, except for a 1 percent excise tax. The company's U.S. affiliate sells insurance to U.S. customers and then buys reinsurance (which is common for insurers) from the parent in Bermuda, so that income from premiums is effectively shifted to Bermuda where it can be invested tax-free.

In reality the affiliates are operating as one company just shifting money around on paper. The strategy apparently requires very little in the way of actual employees of facilities physically located in Bermuda.

A U.S.-based insurer will generally pay the corporate tax rate of 35 percent on its income, and thus is put at a competitive disadvantage relative to the Bermuda-based insurer. The strategy available to the Bermuda-based insurers should be eliminated for moral reasons, but thankfully there are some powerful U.S.-based insurers that have found it in their own interest to start lobbying for reform.

While some members of the Finance Committee have expressed concern and an interest in a legislative solution, no proposal has been made public yet. The Bermuda-based companies have formed their own lobbying coalition to block reform.

On Monday the Treasury released an issue brief that will be the first of several on Social Security's funding problems. The report explains that, using the assumptions of the Social Security Board of Trustees, the program will not be able to fully pay the benefits that are scheduled starting in 2041. Under law, benefits must at that point be reduced to a level matching revenues in the program, which would be about 25 percent below the full benefit levels scheduled.

Balance Issue Overstated

It's worth pointing out that the assumptions used to make these projections are considered unreasonably pessimistic by many economists. It's also important to remember that benefits rise with wages, which usually rise faster than inflation. As a result, even if the pessimistic economic assumptions were borne out, the benefits scheduled to be paid in 2041, even after the 25 percent reduction, would still be larger in real terms than those benefits paid today.

Which is not to say such a cut in scheduled benefits would be acceptable, since the program is meant to replace a reasonable portion of wages. But the claims by the administration that the program is in grave danger seem overstated. Several measures, such as increasing the payroll tax by a couple percentage points or raising the cap on wages subject to the payroll tax, could ensure that the there is enough money flowing into the program for the next 75 years.

The report tries to make the argument that we must look further than 75 years and ensure that the program is in balance over an "indefinite future" -- which is hard to swallow to say the least. The fact that the program is currently scheduled, even using pessimistic assumptions, to be in balance until 2041 probably makes it more secure than most federal programs in the minds of many Americans.

Several members of Congress have rightly argued that the report is just one of several attempts by the Administration to convince the public that Social Security cannot function without some radical overhaul, which usually involves private accounts that have nothing to do with making the program solvent.

But There Is a Problem if Social Security Surpluses Are Not Saved

But there is a problem that deserves our attention. For several decades leading up to 2041, a portion of Social Security benefits will be paid out of the Social Security trust funds, which are basically accounting mechanisms to keep track of the surplus Social Security taxes that have been paid into the program since the 1980s. If the Social Security surpluses are not immediately spent by the government but are instead used to pay down the debt, that can make it much easier for the government to pay Social Security benefits later on as the baby boomers retire in large numbers. But this has only happened during the late 1990s, during the Clinton Administration. At other times, the Social Security surpluses have been used to fund other government spending and tax cuts.

This raises an important question. As Citizens for Tax Justice explained in a 2006 report on Social Security funding options, Social Security could be brought into balance -- on paper -- by raising or eliminating the cap on wages subject to Social Security payroll taxes, by increasing the payroll taxes or by broadening the definition of income subject to Social Security taxes. But if future presidents and Congresses cannot restrain themselves from spending the surpluses, it's not clear that the program will truly be any more secure.

This issue will be addressed in the next issue brief from the Treasury on Social Security. The authors end this edition by telling us that "Many analysts believe Social Security surpluses do not result in smaller levels of publicly held debt, but instead result in some combination of higher spending or lower taxes in the non-Social Security budget." Perhaps an earlier version included the words "when a President named Reagan or Bush occupies the White House."

Democratic Presidential candidates participated in debates on September 20 and September 26 that addressed taxes, Social Security, health care, and other issues.

Health Care

The candidates seem to vary in how they claim their health care reform plans would be paid for. Even if his numbers don't always add up, former Senator John Edwards is relatively honest about his plans. He cited his proposal to eliminate the Bush tax breaks for those making over $200,000 and raising the rate for capital gains to 27 percent.

Senator Hillary Clinton seemed to suggest on the 20th that increasing efficiency with electronic records and other reforms can raise billions of dollars and pay for her plan to provide families the same health insurance options that federal employees have as well as tax credits for those who cannot otherwise afford to buy these plans. New Mexico Governor Bill Richardson said he disagrees with John Edwards and that no new taxes are needed. But then he said he would "eliminate the two percent" by which we think he means ending the tax breaks for the wealthiest two percent (which sounds an awful lot like what John Edwards wants to do actually) as well as raise $77 billion by cutting corporate welfare.

Social Security

On Social Security, Richardson is slightly less confused. On the 26th, he pointed to the fact that the program may not really be in grave danger because the assumptions used to make the oft-cited projections of insolvency are overly pessimistic. The other candidates seemed more convinced that Social Security really does face a crisis. Senators Christopher Dodd and Joe Biden said the cap on wages subject to Social Security taxes should be raised, while Senator Barack Obama (who was present on the 26th but not the 20th) would rather remove the cap entirely so that all earnings are subject to Social Security taxes.

Clinton won't say what she would do for Social Security exactly. On both nights, Edwards put forth the peculiar idea of creating a donut hole in Social Security taxes. The first $97,500 of earnings would be subject to the tax as is the case currently, then earnings between that amount and $200,000 would not be, and then all earnings over $200,000 would be subject to the tax.

Besides the question of whether Congress can actually constrain itself from spending Social Security surpluses as discussed above, these proposals also raise the question of whether or not support for the program would erode to any significant degree if the funding mechanism was made this progressive. The wealthy people who would be affected by these proposals see a much smaller fraction of their wages replaced by Social Security benefits than low- and middle-income people. On the other hand, it's not clear that support for Social Security is really linked to how it's funded.

Tax Incentives

The candidates also vary in the extent to which they're willing to use the tax code to affect behavior. Senators Dodd and Gravel favor a tax on carbon to reduce emissions that contribute to global warming. Governor Richardson favors using the tax code to encourage everything from higher wages to technology companies to unionization. We would argue that Governor Richardson's proposals stray a bit from the function and purpose of the tax code, which is to fund government services.

A bill to expand the State Children's Health Insurance Program (H.R. 976) was approved by the House of Representatives on Tuesday and the Senate on Thursday. The bill would increase funding for the program by $35 billion by increasing the federal tobacco tax for cigarettes from 39 cents to a dollar per pack.

President Bush has threatened to veto the bill, which did not pass the House by the two-thirds majority needed to override a veto. The White House argues that expanding SCHIP will "crowd out" private insurance. The Congressional Budget Office has found that two thirds of the children receiving health care as a result of an SCHIP expansion would be those who would otherwise not have health insurance.

Health care economist Jonathan Gruber has pointed out that the "crowd-out" effect of SCHIP is probably the lowest of any health care proposal. He has argued that, in comparison, the President's tax proposals to expand health care have benefits much more concentrated among those who already have health insurance.

Citizens for Tax Justice has noted that cigarette taxes (whether on the federal or state level) are regressive, meaning they take a larger proportion of income from a poor family than from a wealthy family, but they may nevertheless be the most viable option for funding an important health care initiative at this time.

It's true that if two smokers, one poor and one wealthy, are smoking the same amount and paying the same tax of one dollar a pack, that one dollar equals a larger percentage of total income for the poor smoker than for the wealthy smoker. It's always better to fund important programs with progressive taxes, but the health care crisis among low- and middle-income families requires compromise. Unlike President Bush, Democrats and many Republicans in Congress have shown that they are willing to make such a compromise.

On Monday, a Florida court derailed (for the moment) a legislative effort to put an expensive local property tax cut on a special January 2008 ballot. The property tax proposal, which was referred to the ballot by the state legislature earlier this year, would create an optional "super-exemption" of as much as $195,000 of a home's value from the property tax. But the proposal would also gradually phase out an existing tax break, the so-called "Save Our Homes" cap, that restricts the annual growth of a home's assessed value to 3 percent. The court argued that the wording of the ballot measure was misleading, partly because the language says that "everyone" will get a bigger exemption (which isn't true because the plan is optional), and says that the proposal would "preserve" and "revise" the existing Save Our Homes tax cap (when a less Orwellian wording would be "phase out").

If the wording is confusing, it's certainly not because the legislature didn't have enough space to explain itself properly (the 255-word ballot description can be found here), but more likely because lawmakers wanted to perpetuate the "free lunch" worldview that has characterized the state's fiscal policy over the past decade. But the court's decision does reflect the harsh reality that the ballot is simply the wrong place, in general, to make fiscal policy decisions. The combination of political pressures and the complexity of tax language makes it very unlikely that voters will ever be given a full and accurate description of the proposals they're being asked to evaluate.

Opponents of the January property tax vote may have won the battle, but the war continues. State lawmakers are now debating whether to appeal the court decision or to take time in a scheduled special legislative session next week to fix the wording of the ballot proposal in a way that would keep it on the January ballot. But as one editorial board notes, a better solution would be to put this complicated decision back in the hands of officials who have both the time and expertise to design property tax reform properly.

Some voices from the tech world are making dire predictions because the Internet Tax Freedom Act expires on November 1. The law bans states from taxing internet access providers. This means states currently cannot tax, say, the monthly fee you might pay to AOL or another internet provider -- but technically could after November 1 if Congress does not act.

(This is not to be confused with the issue of sales taxes for online purchases. The U.S. Constitution has been interpreted to say that states cannot require out-of-state online retailers or other out-of-state retailers to collect sales taxes from customers unless Congress gives the states permission to do so).

When the Internet Tax Freedom Act was first enacted in 1998, the argument made in its favor was that the internet was a new industry and states needed some time to figure out what constituted internet access. Now, the industry says that the internet must continue to be tax-free so that it can more easily reach the many communities and households that have limited access.

As the Center on Budget and Policy Priorities points out, there are a lot of things that might prevent a household from having access to the internet but taxes are not one of them. The cost of a computer is the obvious bar for many households. As for communities where the proper infrastructure hasn't been developed by telecommunications providers, that has nothing to do with taxes. In several states that do tax internet access (states that did so in 1998 and were grandfathered in the law) more advanced fiber-optic networks are being built.

Identical bills have been introduced in the House and Senate (H.B. 743 and S. 156) to make the ban permanent. There had been talk that a compromise was reached in which another extension would be passed instead of making the ban permanent, but the outcome now looks unclear because provisions unrelated to the internet have become part of the bill. Rep. Linda Sanchez (D-CA), chairwoman of the Judiciary subcommittee that has jurisdiction, supports finding a compromise to temporarily extend the ban.

Bush Administration Says Lower the Corporate Rate; CTJ Says Use the Revenue for More Pressing Priorities

Earlier this summer, the Bush Administration floated the idea of closing corporate tax loopholes and using the resulting revenue to offset a reduction in the corporate tax rate. There is even a possibility that a tax bill being developed by House Ways and Means chairman Charles Rangel (D-NY) could include some variation on this theme to win Republican votes. A recent op-ed by CTJ director Robert McIntyre argues that the first half of this plan is a great idea -- close the loopholes that allow corporations to avoid paying their fair share. But there are many pressing needs (healthcare, Social Security, paying off the national debt or just closing the budget deficit during a costly war) that this revenue could be used for rather than a rate reduction for corporations.

And it's not the case that corporations are paying so much in U.S. taxes that it puts them at a competitive disadvantage. In 2005, the most recent year for which data are available, U.S. corporate tax revenue as a share of GDP was only 2.6 percent, lower than in all but two developed countries.

A new report from the Mississippi Economic Policy Center provides a great primer on that state's budget process, with a concise summary of how the state raises and spends revenue. " Putting the Pieces Together: A Taxpayer's Guide to the Mississippi Budget" highlights the chronic unfairness of the current Mississippi tax system, and discusses the shortcomings of the state's revenue structure in a highly readable way. Governor Haley Barbour says that Mississippi needs a tax structure in which "everybody pays a fair share." Let's hope that Governor Barbour reads this report and gains a better understanding of who really pays taxes in Mississippi.

Earlier this week, Maryland Governor Martin O'Malley released the broad details of a tax reform plan designed to close the state's $1.7 billion structural deficit. The plan would make the state's nearly-flat income tax more progressive, cutting income taxes for low- and middle-income families and creating two new upper-income tax brackets for those with taxable incomes over $150,000, and would reduce the rate of a statewide property tax. The net impact of the income tax hike (somewhere north of $150 million a year) would be dwarfed, however, by the impact of a regressive sales tax hike that would increase the rate and broaden the base ($730 million), a $1-a-pack cigarette tax hike, and the introduction of legalized gaming at Maryland racetracks ($500 million), each of which would arguably make the plan both less sustainable and less fair. The plan would also increase corporate income tax collections, although the way in which this would be done is not yet entirely clear.

So who will win and who will lose from the governor's plan? The governor himself is only conceding that "if you make more than $700,000 a year, you smoke, you go to the tanning salon every day, you have a gym membership, and you're a renter, you'll probably pay more." Of course, people earning a whole lot less than $700,000 are going to be picking up much more of the tab than O'Malley's description lets on. But that may be the unavoidable price of closing the state's yawning fiscal gap.

Top White House Economic Adviser Involved in Patenting Strategies to Avoid Taxes

Tax Notes, a trade journal for tax experts (sorry subscription required), reports that Edward Lazear, chairman of the President's Council of Economic Advisers, is named on a patent application for a product to help companies avoid taxes. The application was filed 10 months after Lazear began working at the White House.

The White House says that, essentially, Lazear's work on the product ended before he came to the White House. Whatever the case may be, it certainly highlights questions over whether tax strategies should be patentable at all. A patent reform bill in the House of Representatives includes provisions that ban patents on tax strategies. Senators Max Baucus (D-MT) and Charles Grassley (R-IA), chairman and ranking member of the Finance Committee, plan to craft a bill that would ban tax patents as well. A bill introduced by Senators Carl Levin (D-MI), Barack Obama (D-IL) and Norm Coleman (R-MN) in February to target offshore tax avoidance also bans tax patents.

As Levin pointed out when he introduced his bill, patent law exists to encourage innovation. There is no lack of innovation when it comes to avoiding taxes and there is certainly no public policy reason to encourage it.

This week presidential candidate Barack Obama announced the broad outlines of his plan to cut taxes for 150 million Americans at a cost of $85 billion a year. The plan would give families a credit of $1000 (or $500 for unmarried taxpayers) and eliminate income taxes for seniors whose income is below $50,000. The credit would essentially offset payroll taxes on the first $8,100 in earnings.

Low- and middle-income seniors (who generally don't face payroll taxes) could benefit from being removed from the federal income tax rolls, although that demographic is not paying a whole lot in federal income taxes anyway. The plan also includes a tax credit for home mortgage interest, since the current home mortgage interest deduction is not available to non-itemizers and is regressive since it is worth less to those in lower tax brackets.

Reducing the Tax Break for Capital Gains

To pay for the plan, the tax rate on capital gains would be raised to some unspecified level and loopholes and offshore tax avoidance would be targeted. Citizens for Tax Justice has recently decried the regressive nature of the current tax break for capital gains (which John Edwards also wants to reduce) as well as offshore tax evasion.

It's Progressive, But Is This What We Need?

Obama's plan would certainly move the federal tax code in a progressive direction, but it's not entirely clear that the thing low- and middle-income Americans need right now is a tax cut.

"I have no problem with them trying to undo all or most of the Bush tax cuts for the wealthy even if it's only for a couple of years, but there are so many huge fiscal problems that we should be very careful about proposing new trivial programs when there's so many real big programs we need to do something about," Robert McIntyre, director of Citizens for Tax Justice, told the Wall Street Journal after the Obama plan was announced.

After years of starving state government through the so-called Taxpayer Bill of Rights (TABOR) the piper may finally get paid. It seems that a wave of ballot initiatives will ask Colorado voters next year to increase taxes to pay for government services and programs they feel are important. According to The Bell Policy Center, at last count there were 17 initiatives in the works that deal with raising revenue. The proposals include using fees on new construction to fund education and a new tax on junk food.

Currently Colorado ranks near the bottom for education and highway spending compared to states around the nation. Over the years since TABOR was enacted, many in Colorado have realized that taxes are necessary for government to function and have turned to the initiative process as a flawed, second best alternative to having a legislature that can make responsible tax and fiscal decisions.

A new proposal in the Senate would crack down on employers who misclassify workers as independent contractors to avoid paying federal payroll taxes. Low-income workers who are not knowledgeable about the tax rules can be classified as independent contractors and not realize that this means they must pay both the employer portion and the employee portion of federal payroll taxes to the IRS on their own.

Anecdotal accounts from volunteer tax preparers who help low-income families file for the EITC indicate that they have had to tell some people in this situation that they actually owe a huge amount of payroll taxes that they had not planned for. When these workers do not or are not able to make the payment, this results in reduced taxes being paid into Social Security and Medicare. The Government Accountability Office has estimated that the cost each year is at least several billion dollars in lost revenues.

The proposal would reform the current rules, which provide a "safe harbor" that lets employers who misclassify workers as independent contractors continue doing so if they had a "reasonable basis" for the classification. Under current law, the reasonable basis can be that the practice is widespread in the particular industry, meaning that construction companies can misclassify workers because so many other construction companies do the same. The misclassification can also lead to the denial of other workers' rights and benefits as well as employer-provided health benefits and pension benefits.

The bill (S. 2044) would bar employers from using this "reasonable basis" argument and would allow the IRS to tell employers to reclassify workers in this situation. The bill is sponsored by Senators Barack Obama (D-IL), Edward Kennedy (D-MA), Richard Durbin (D-IL), and Patty Murray (D-WA).

Presidential candidate Mitt Romney has presented a plan to allow income from wealth to go tax-free for people with incomes below $200,000. Romney favors making permanent the Bush tax cuts for capital gains and dividends (which resulted in the current 15 percent tax rate for those forms of income) but would go further by eliminating tax on income from interest, capital gains and dividends for families with incomes less than $200,000.

The plan is being presented as a boon for middle-class families who are trying to save, but few of the beneficiaries would be truly middle-class. Roughly three fourths of the current tax break for capital gains and dividends went to the richest 0.6 percent in 2005 (as Citizens for Tax Justice pointed out recently). The truth is that most wealth and savings are in the hands of the richest Americans.

"For people earning below $100,000, cutting the tax rate on interest, dividends, and capital gains means almost nothing," said Robert S. McIntyre, director of Citizens for Tax Justice, as quoted in the Boston Globe. "For those people earning between $100,000 and $200,000, you might be talking several hundred dollars in tax savings. Then, the question is, does he really have a plan that cuts off exactly at $200,000? That would be nuts - the person who makes $200,001 would be kind of angry."

At least one other presidential candidate has moved in a different direction. John Edwards would allow families a tax exemption of the first $250 of income from interest, capital gains or dividends, but he would raise the top capital gains tax rate to 28 percent while also expanding the EITC and child tax credit and matching savings up to certain limit for low-income families.

A new short paper from Citizens for Tax Justice examines the debt accumulated under President Bush in light of the Senate Finance Committee's vote to raise the national debt ceiling again. President Bush has added $3 trillion to the national debt so far, despite inheriting a balanced budget when he took office in 2001. Since then, Congress has been forced to raise the statutory limit on the total amount the federal government is allowed to borrow four times - in 2002, 2003, 2004 and 2006.

On Wednesday the Senate Finance Committee approved legislation to raise the debt limit a fifth time, to an unprecedented $9.815 trillion, to prevent the federal government from defaulting on its debts and being unable to borrow any more. In contrast, when Bush took office, the debt limit was $5.950 trillion - $3.9 trillion less than the new amount.

What has caused the budget deficits over the past six years? The largest cause is the cuts in federal income taxes enacted by President Bush and Congress. The total cost of the Bush tax cuts, including interest on the money borrowed to finance them, has been just over $1.4 trillion so far - about half of the total increase in the national debt under Bush so far.

A story from Roll Call reveals that Republican Senators have been advised by their pollsters that tax breaks are no longer a priority for independent voters. Most now rate health care reform and government spending as more pressing matters.

It's not actually clear that tax breaks ever were the most important priority for many Americans. It's often been the case that survey respondents would say they support tax breaks and oppose tax increases generally. But when asked whether they would prefer an improvement in health care, education or some other public service or a tax cut, most choose the improvement in public services. Support for public services has probably increased in recent years. A recent poll shows that two thirds of Americans support universal healthcare even if it means a tax increase. (Perhaps this is because many people realize that what they pay in taxes for healthcare may very well be less than what they pay now under our health care system, which is less efficient than that of almost every other developed country).

The Roll Call story does imply that there is polling to show that independent voters have some vague sense that government spending is too high, but we suspect that as with taxes, respondents would answer very differently when presented with choices about the actual government programs that cost the most money. About a fifth of federal spending goes toward healthcare, another fifth toward Social Security, and another fifth toward defense. That means most federal spending goes towards things most Americans support. Another nine percent goes toward paying the interest on the national debt, which the Bush administration has actively increased, largely with tax breaks.

Americans express very different views when they are confronted with the trade-offs involved when vague calls for "smaller government" are turned into specific legislative plans to cut services. For example, the previous Congress's efforts to slash Medicaid and other federal services didn't seem to win it many supporters. Conservative politicians have in the past been able to appeal to voters by offering stark choices between "small government" and "large government" or between "lower taxes" and "higher taxes" but they find it difficult to get Americans to agree on specific services to cut rather than expand.

Georgia Speaker of the House Glenn Richardson's Georgia Repeal of Every Ad Valorem Tax (GREAT) Plan would eliminate the state's property tax and replace the lost revenues by expanding the state's sales tax base. The plan is receiving lots of attention that Rep. Richardson probably doesn't like. For starters, media around the state are asking hard questions including this one from the Athens-Banner Herald, "How long is he willing to hold on to an idea that is already all but doomed to fail?" According to the Atlanta Journal Constitution Governor Sonny Perdue also has doubts about the GREAT Plan becoming law.

The Speaker has been traveling around the state discussing his plan and advocates for tax fairness and adequacy aren't letting his tour go unanswered. The Georgia Budget and Policy Institute along with AARP Georgia, the Georgia Association of Educators, The Georgia Municipal Association, the Georgia School Boards Association, and the Georgia Coalition United for a Responsible Budget are also touring the state and visiting nine cities to educate the public about the state's tax and budget situation.

The latest weapon for people who believe in making it as difficult as possible to invest in the public good is rearing its ugly head in Washington State. Initiative 960 would change the state constitution to require two-thirds approval in both state houses, or voter approval, for all tax increases. The initiative would also broaden the definition of a "tax increase" to include "any action or combination of actions by the legislature that increases state tax revenue deposited in any fund, budget, or account." In a bizarre twist, any revenue change that was not approved by the people would earn a spot on the ballot - allowing voters to have their say in a non-binding advisory capacity. The description of these complex fiscal proposals in voter pamphlets would be limited to 13 words! For more on this confusing and harmful initiative, take a look at this report from the Washington State Budget and Policy Center.

Michigan faces a massive budget shortfall of as much as $1.8 billion.Almost everyone agrees that something needs to be done to correct the situation, but the agreement ends there.A large coalition of "agencies representing universities, schools, police, fire, children, low-income residents, public employee labor unions and others" is worried that the projected fiscal crunch will necessitate massive cuts in public services andis advocating a tax increase. This would most likely take the form of a one-percent income tax increase or sales tax base expansion to help alleviate the projected shortfall.However, another group, the so-called Michigan Taxpayer's Alliance, has pledged to fight against any and all revenue enhancements to fix the problem. They maintain that the proper response is drastic cuts in spending, which they claim will be better for the state economy. The group has even outrageously threatened to attempt to recall any politicians who vote for any solution that includes a tax increase.

There is no reason for politicians to be moved by the anti-tax radicals.Local union leaders have pledged their support to politicians facing recall threats.State Rep. Mary Valentine, one of the lawmakers faced with a potential recall has pledged not to let the threat influence her decision, saying of the recall effort's leader,"He wants to intimidate people to do what he wants rather than what is best for my district [...] I will do what is best to do for my district."Michigan's fiscal future remains in doubt, but state residents can take heart that some lawmakers seem willing to stand up to right-wing demagoguery.

Members of Congress returning to Washington this week were greeted with a call from over three hundred non-profits, unions, and faith-based groups to end the "carried interest" tax loophole that vastly reduces the tax bills of certain millionaires and billionaires in the investment industry.

Legislation (H.R. 2834) proposed by Rep. Sander Levin (D-MI) would eliminate this loophole. Several progressive national organizations and unions have begun their own lobbying campaigns in support of the Levin bill.

A letter applauding the Levin bill was signed by the 300 groups from every state and was sent to members of Congress earlier this week. The letter argues that "it's an outrage that Americans who are paid millions or even billions for their labor can be subject to lower federal tax rates than their middle-income receptionists."

General partners in private equity funds and other types of funds invest other people's money and are often paid huge sums for their services. Part of this pay is in the form of "carried interest," which is a share of profits. The loophole allows the general partners to pay the low, 15 percent rate for capital gains on their carried interest, even though they have not contributed capital and do not own the capital assets.

Private Equity Industry Working Hard to Defend the Indefensible

Lobbyists from the private equity industry descended upon House and Senate offices as soon as the Levin bill was introduced. The industry has produced a bewildering variety of arguments, often contradicting themselves, to defend this loophole over the past several months. This pattern continued on Thursday, when the Senate Finance Committee held its third hearing on the issue and the House Ways and Means Committee held a day-long hearing on tax fairness issues, including the carried interest loophole.

Representatives for the private equity industry have at times argued that they are developing companies through their hard work, implying that they deserve a tax break for this reason. At other times they have argued that their carried interest is not pay for work, to justify being taxed as if they have capital gains. They have at times argued that pensioners will suffer if the loophole is closed because the fund managers will find the tax increase so odious that they will no longer have an incentive to provide investment management services to pension funds. At other times they have argued that they'll just pass the tax increase onto pensioners and other investors, which would suggest that they won't find anything at all odious about the tax increase and that they should be indifferent to it.

Public employee pensions, which often invest a small portion of their assets in private equity, have generally not joined the private equity industry's side in this debate.

One novel argument made by the industry is that the carried interest loophole helps African-American and ethnic minorities accumulate assets. It's difficult to imagine how this argument could be effective. Three of the co-sponsors for the Levin bill are members of the Congressional Black Caucus, including Ways and Means chairman Charles Rangel. Chairman Rangel hopes to make legislation to close the carried interest loophole, and possibly other unnecessary tax loopholes, part of a larger bill that would reform the Alternative Minimum Tax.

As we've told you in past Digests, some Indiana taxpayers are threatening a revolt over property taxes. Rather than considering constructive reforms to the property tax, some anti-tax zealots are using the current situation as a reason to call for its outright elimination. Last week members of the Commission on State Tax and Financing Policy heard about the impact that property tax repeal would have on the state. The Legislative Services Agency (LSA) rightly titled their presentation " Challenges of Change."

The LSA estimates that in order to replace the $6.1 billion Indiana property taxes currently bring in, lawmakers would have to either increase the state income tax rate from 3.4 to 9 percent, or hike the sales tax rate from 6 percent to a whopping 13.2 percent. The LSA's presentation shows that repealing all Indiana property taxes would be prohibitively expensive. While Indianans' angst over their rising property tax bills is understandable--property taxes are regressive, and are often not based on a homeowner's ability to pay them-- enacting targeted property tax reforms such as a low-income "circuit breaker" credit would allow local governments to retain this important revenue source, and would make Indiana property taxes less unfair without requiring a double-digit sales tax to pay for it.

After weeks of angst, political bickering, and general upheaval, Illinois Governor Rod Blagojevich recently signed a budget bill for Fiscal Year 2008. Controversy had not died by the time of the signing, and the Governor line-item vetoed nearly $500 million in so-called "pork" projects. But the Center on Tax and Budget Accountability examined the projects in question and found the state's budget was not really laden with pork. Its report concluded that "it does not appear necessary to change the state's name to 'Illinoink'."

On August 24, California Governor Arnold Schwarzenegger signed into law the state's contentious 2007 budget (which was nearly 2 months overdue). It's especially difficult to pass a budget in the Golden State because a supermajority is required for passage. In order to gain the two-thirds majority needed in the Senate, the Governor committed to slashing $703 million in spending through his line-item veto power. The California Budget Project reveals that about 75 percent of the vetoes came directly from Health and Human Service programs. And there's no reason to think these problems will go away on their own. The Legislative Analyst's Office predicts a shortfall of $5 billion for next year and the year after that.