The vast majority of the attention given to the Bush tax cuts has been focused on changes in top marginal rates, the treatment of capital gains income, and the estate tax.  But another, less visible component of those cuts has been gradually making itemized deductions more unfair and expensive over the last five years.  Since the vast majority of states offering itemized deductions base their rules on what is done at the federal level, this change has also resulted in state governments offering an ever-growing, regressive tax cut that they clearly cannot afford. 

In an attempt to encourage states to reverse the effects of this costly and inequitable development, the Institute on Taxation and Economic Policy (ITEP) this week released a new report, "Writing Off" Tax Giveaways, that examines five options for reforming state itemized deductions in order to reduce their cost and regressivity, with an eye toward helping states balance their budgets.

Thirty-one states and the District of Columbia currently allow itemized deductions.  The remaining states either lack an income tax entirely, or have simply chosen not to make itemized deductions a part of their income tax — as Rhode Island decided to do just this year.  In 2010, for the first time in two decades, twenty-six states plus DC will not limit these deductions for their wealthiest residents in any way, due to the federal government's repeal of the "Pease" phase-out (so named for its original Congressional sponsor).  This is an unfortunate development as itemized deductions, even with the Pease phase-out, were already most generous to the nation's wealthiest families.

"Writing Off" Tax Giveaways examines five specific reform options for each of the thirty-one states offering itemized deductions (state-specific results are available in the appendix of the report or in these convenient, state-specific fact sheets).

The most comprehensive option considered in the report is the complete repeal of itemized deductions, accompanied by a substantial increase in the standard deduction.  By pairing these two tax changes, only a very small minority of taxpayers in each state would face a tax increase under this option, while a much larger share would actually see their taxes reduced overall.  This option would raise substantial revenue with which to help states balance their budgets.

Another reform option examined by the report would place a cap on the total value of itemized deductions.  Vermont and New York already do this with some of their deductions, while Hawaii legislators attempted to enact a comprehensive cap earlier this year, only to be thwarted by Governor Linda Lingle's veto.  This proposal would increase taxes on only those few wealthy taxpayers currently claiming itemized deductions in excess of $40,000 per year (or $20,000 for single taxpayers).

Converting itemized deductions into a credit, as has been done in Wisconsin and Utah, is also analyzed by the report.  This option would reduce the "upside down" nature of itemized deductions by preventing wealthier taxpayers in states levying a graduated rate income tax from receiving more benefit per dollar of deduction than lower- and middle-income taxpayers.  Like outright repeal, this proposal would raise significant revenue, and would result in far more taxpayers seeing tax cuts than would see tax increases.

Finally, two options for phasing-out deductions for high-income earners are examined.  One option simply reinstates the federal Pease phase-out, while another analyzes the effects of a modified phase-out design.  These options would raise the least revenue of the five options examined, but should be most familiar to lawmakers because of their experience with the federal Pease provision.

Read the full report.

The vast majority of the attention given to the Bush tax cuts has been focused on changes in top marginal rates, the treatment of capital gains income, and the estate tax.  But another, less visible component of those cuts has been gradually making itemized deductions more unfair and expensive over the last five years.  Since the vast majority of states offering itemized deductions base their rules on what is done at the federal level, this change has also resulted in state governments offering an ever-growing, regressive tax cut that they clearly cannot afford. 

In an attempt to encourage states to reverse the effects of this costly and inequitable development, the Institute on Taxation and Economic Policy (ITEP) this week released a new report, "Writing Off" Tax Giveaways, that examines five options for reforming state itemized deductions in order to reduce their cost and regressivity, with an eye toward helping states balance their budgets.

Thirty-one states and the District of Columbia currently allow itemized deductions.  The remaining states either lack an income tax entirely, or have simply chosen not to make itemized deductions a part of their income tax — as Rhode Island decided to do just this year.  In 2010, for the first time in two decades, twenty-six states plus DC will not limit these deductions for their wealthiest residents in any way, due to the federal government's repeal of the "Pease" phase-out (so named for its original Congressional sponsor).  This is an unfortunate development as itemized deductions, even with the Pease phase-out, were already most generous to the nation's wealthiest families.

"Writing Off" Tax Giveaways examines five specific reform options for each of the thirty-one states offering itemized deductions (state-specific results are available in the appendix of the report or in these convenient, state-specific fact sheets).

The most comprehensive option considered in the report is the complete repeal of itemized deductions, accompanied by a substantial increase in the standard deduction.  By pairing these two tax changes, only a very small minority of taxpayers in each state would face a tax increase under this option, while a much larger share would actually see their taxes reduced overall.  This option would raise substantial revenue with which to help states balance their budgets.

Another reform option examined by the report would place a cap on the total value of itemized deductions.  Vermont and New York already do this with some of their deductions, while Hawaii legislators attempted to enact a comprehensive cap earlier this year, only to be thwarted by Governor Linda Lingle's veto.  This proposal would increase taxes on only those few wealthy taxpayers currently claiming itemized deductions in excess of $40,000 per year (or $20,000 for single taxpayers).

Converting itemized deductions into a credit, as has been done in Wisconsin and Utah, is also analyzed by the report.  This option would reduce the "upside down" nature of itemized deductions by preventing wealthier taxpayers in states levying a graduated rate income tax from receiving more benefit per dollar of deduction than lower- and middle-income taxpayers.  Like outright repeal, this proposal would raise significant revenue, and would result in far more taxpayers seeing tax cuts than would see tax increases.

Finally, two options for phasing-out deductions for high-income earners are examined.  One option simply reinstates the federal Pease phase-out, while another analyzes the effects of a modified phase-out design.  These options would raise the least revenue of the five options examined, but should be most familiar to lawmakers because of their experience with the federal Pease provision.

Read the full report.

And then there were seven.  With the enactment of a tax expenditure reporting requirement in Georgia late last week, only seven states in the entire country continue to refuse to publish a tax expenditure report — i.e. a report identifying the plethora of special breaks buried within these states’ tax codes.  For the record, the states that are continuing to drag their feet are: Alabama, Alaska, Indiana, Nevada, New Mexico, South Dakota, and Wyoming. 

But while the passage of this common sense reform in Georgia is truly exciting news, the version of the legislation that Governor Perdue ultimately signed was watered down significantly from the more robust requirement that had passed the Senate.  This chain of events mirrors recent developments in Virginia, where legislation that would have greatly enhanced that state’s existing tax expenditure report met a similar fate. 

In more encouraging news, however, legislation related to the disclosure of additional tax expenditure information in Massachusetts and Oklahoma seems to have a real chance of passage this year.

In Georgia, the major news is the Governor’s signing of SB 206 last Thursday.  While this would be great news in any state, it’s especially welcome in Georgia, where terrible tax policy has so far been the norm this year. 

SB 206 requires that the Governor’s budget include a tax expenditure report covering all taxes collected by the state’s Department of Revenue.  The report will include cost estimates for the previous, current, and future fiscal years, as well as information on where to find the tax expenditures in the state’s statutes, and the dates that each provision was enacted and implemented. 

Needless to say, this addition to the state’s budget document will greatly enhance lawmakers’ ability to make informed decisions about Georgia’s tax code. 

But as great as SB 206 is, the version that originally passed the Senate was even better.  Under that legislation, analyses of the purpose, effectiveness, distribution, and administrative issues surrounding each tax expenditure would have been required as well.  These requirements (which are, coincidentally, quite similar to those included in New Jersey’s recently enacted but poorly implemented legislation) would have bolstered the value of the report even further.

In Virginia, the story is fairly similar.  While Virginia does technically have a tax expenditure report, it focuses on only a small number of sales tax expenditures and leaves the vast majority of the state’s tax code completely unexamined.  Fortunately, the non-profit Commonwealth Institute has produced a report providing revenue estimates for many tax expenditures available in the state, but it’s long past time for the state to begin conducting such analyses itself.  HB355 — as originally introduced by Delegate David Englin — would have created an outstanding tax expenditure report that revealed not only each tax expenditure’s size, but also its effectiveness and distributional consequences. 

Unfortunately, the legislation was greatly watered down before arriving on the Governor’s desk.  While the legislation, which the Governor signed last month, will provide some additional information on corporate tax expenditures in the state, it lacks any requirement to disclose the names of companies receiving tax benefits, the number of jobs created as a result of the benefits, and other relevant performance information.  The details of HB355 can be found using the search bar on the Virginia General Assembly’s website.

The Massachusetts legislature, by contrast, recently passed legislation disclosing the names of corporate tax credit recipients.  While these names are already disclosed for many tax credits offered in the state, the Department of Revenue has resisted making such information public for those credits under its jurisdiction. 

While most business groups have predictably resisted the measure, the Medical Device Industry Council has basically shrugged its shoulders and admitted that it probably makes sense to disclose this information.  Unfortunately, a Senate provision that would have required the reporting of information regarding the jobs created by these credits was dropped before the legislation passed.

Finally, in Oklahoma, the House recently passed a measure requiring the identities of tax credit recipients to be posted on an existing website designed to disclose state spending information.  If ultimately enacted, the information will be made available in a useful, searchable format beginning in 2011.

Is progressive state tax reform "class warfare?" Alabama Representative Mac Gipson thinks so.  House Bill 1 is a revenue-neutral "tax shift" that would eliminate the state grocery tax and fully pay for it by paring back an income tax giveaway for the best-off taxpayers.  As House members prepared last week for a floor debate over HB 1, Gipson sputtered, "the whole bill is a redistribution of wealth."

In response to this claim, an ITEP report released earlier this week shows that in fact, the Alabama tax system does redistribute income -- but in exactly the opposite way from what Gipson appears to believe. A regressive tax system actually redistributes income from the poor to the rich -- and Alabama's tax system is one of the most egregious examples of this "Robin Hood in reverse" approach to taxation.
 
The ITEP report shows that the best-off Alabamians enjoy 19.6 percent of statewide income -- but only pay 11.5 percent of the Alabama taxes falling on Alabamians. Conversely, the poorest 80 percent of Alabamians earned 41 percent of statewide income -- but paid 54 percent of Alabama taxes.
 
The result? A tax system that actively shifts wealth away from low- and middle-income families to the best off. The top 1 percent of Alabamians enjoy 19.6 percent of income before taxes -- and 20.2 percent of the income after taxes. By contrast, the middle 20 percent of Alabamans have 11.4 percent of statewide income before tax, and 11.1 percent of the income after tax.
 
The tax shift proposed in HB 1 has been seen before in Alabama: Rep. John Knight has annually sponsored a similar bill for much of the past decade. And Alabama media outlets, laudably, are now familiar enough with the proposal to understand that it would be a major step forward for the state. The state's largest newspaper, the Birmingham News, editorialized strongly in favor of the bill on Thursday, and the second-largest state paper had a virtually identical view.

Unfortunately, editorial boards can't vote on the floor of the House: while more house members voted for it than against it, the 54-to-42 vote was not enough to achieve the three-fifths majority needed for passage, likely signaling the end of the road for progressive tax reform legislation in Alabama this year.

Until this week, New Jersey was one of just nine states refusing to publish a tax expenditure report – i.e. a listing and measurement of the special tax breaks offered in the state.  Such reports greatly enhance the transparency of state budgets by allowing policymakers and the public to see how the tax system is being used to accomplish various policy objectives. 

Now, with Governor Jon Corzine’s signing of A. 2139 this past Tuesday, New Jersey will finally begin to make use of this extremely valuable tool.  Beginning with Governor-elect Chris Christie’s FY2011 budget, to be released in March, the New Jersey Governor’s budget proposal now must include a tax expenditure report.  The report must be updated each year, and is required to include quite a few very useful pieces of information.

The report must, among other things:

(1) List each state tax expenditure and its objective;
(2) Estimate the revenue lost as a result of the expenditure (for the previous, current, and upcoming fiscal years);
(3) Analyze the groups of persons, corporations, and other entities benefiting from the expenditure;
(4) Evaluate the effect of the expenditure on tax fairness;
(5) Discuss the associated administrative costs;
(6) Determine whether each tax expenditure has been effective in achieving its purpose.

The last criterion listed above is of particular importance.  Evaluations of tax expenditure effectiveness are extremely valuable since these programs so often escape scrutiny in the ordinary budgeting and policy processes.  Such evaluation can be quite daunting, however, and the Governor’s upcoming tax expenditure report should be carefully scrutinized in order to ensure that these evaluations are sufficiently rigorous.  One example of the types of criteria that could be used in a rigorous tax expenditure evaluation can be found in the study mandated by the “tax extenders” package that recently passed the U.S. House of Representatives.  For more on the importance of tax expenditure evaluations, and the components of a useful evaluation, see CTJ’s November 2009 report, Judging Tax Expenditures.

Ultimately, New Jersey’s addition to the list of states releasing tax expenditure reports means that only eight states now fail to produce such a report.  Those states are: Alabama, Alaska, Georgia, Indiana, Nevada, New Mexico, South Dakota, and Wyoming.  Each of these states should follow New Jersey’s lead.

This week, the Institute on Taxation and Economic Policy (ITEP), in partnership with state groups in forty-one states, released the 3rd edition of “Who Pays? A Distributional Analysis of the Tax Systems in All 50 States.”  The report found that, by an overwhelming margin, most states tax their middle- and low-income families far more heavily than the wealthy.  The response has been overwhelming.

In Michigan, The Detroit Free Press hit the nail on the head: “There’s nothing even remotely fair about the state’s heaviest tax burden falling on its least wealthy earners.  It’s also horrible public policy, given the hard hit that middle and lower incomes are taking in the state’s brutal economic shift.  And it helps explain why the state is having trouble keeping up with funding needs for its most vital services.  The study provides important context for the debate about how to fix Michigan’s finances and shows how far the state really has to go before any cries of ‘unfairness’ to wealthy earners can be taken seriously.”

In addition, the Governor’s office in Michigan responded by reiterating Gov. Granholm’s support for a graduated income tax.  Currently, Michigan is among a minority of states levying a flat rate income tax.

Media in Virginia also explained the study’s importance.  The Augusta Free Press noted: “If you believe the partisan rhetoric, it’s the wealthy who bear the tax burden, and who are deserving of tax breaks to get the economy moving.  A new report by the Institute on Taxation and Economic Policy and the Virginia Organizing Project puts the rhetoric in a new light.”

In reference to Tennessee’s rank among the “Terrible Ten” most regressive state tax systems in the nation, The Commercial Appeal ran the headline: “A Terrible Decision.”  The “terrible decision” to which the Appeal is referring is the choice by Tennessee policymakers to forgo enacting a broad-based income tax by instead “[paying] the state’s bills by imposing the country’s largest combination of state and local sales taxes and maintaining the sales tax on food.”

In Texas, The Dallas Morning News ran with the story as well, explaining that “Texas’ low-income residents bear heavier tax burdens than their counterparts in all but four other states.”  The Morning News article goes on to explain the study’s finding that “the media and elected officials often refer to states such as Texas as “low-tax” states without considering who benefits the most within those states.”  Quoting the ITEP study, the Morning News then points out that “No-income-tax states like Washington, Texas and Florida do, in fact, have average to low taxes overall.  Can they also be considered low-tax states for poor families?  Far from it.”

Talk of the study has quickly spread everywhere from Florida to Nevada, and from Maryland to Montana.  Over the coming months, policymakers will need to keep the findings of Who Pays? in mind if they are to fill their states’ budget gaps with responsible and fair revenue solutions.

Alabama’s tax system has long been among the least fair in the nation.  Indeed, the latest edition of ITEP’s flagship publication, Who Pays?, indicates that it is the tenth most regressive tax system among the fifty states, as it forces low- and middle-income residents to pay effective tax rates that are roughly twice that faced by the very wealthy.

The sources of such inequities are readily apparent.  Alabama is one of just a handful of states that continue to tax groceries, an exceedingly regressive approach to generating revenue.  It is also one of just a few states that offer an unlimited deduction, as part of its state income tax, for the federal income taxes that Alabamians pay.  Since upper-income individuals and families tend to pay more in federal income taxes, they, by definition, reap the largest windfalls from this deduction, thus subverting the progressive intent of the federal income tax.  Repealing both these policies would go a long way towards achieving greater tax fairness in Alabama.

For some time now, Representative John Knight has championed legislation that would do just that – and he appears ready to put forward such a measure in the fast-approaching 2010 legislative session as well.  In addition to removing groceries from the sales tax base and eliminating the deduction for federal income taxes paid, the Knight proposal could also raise the level of income at which families begin to pay income taxes in the state, a change that would also help to make Alabama’s tax system more fair.  To learn more about the proposal and about tax and budget matters in Alabama, visit Alabama Arise Citizens’ Policy Project.

Read ITEP's New Report: Who Pays? A Distributional Analysis of Tax Systems in All 50 States

By an overwhelming margin, most states tax their middle- and low-income families far more heavily than the wealthy, according to a new study by the Institute on Taxation & Economic Policy (ITEP).

“In the coming months, lawmakers across the nation will be forced to make difficult decisions about budget-balancing tax changes—which makes it vital to understand who is hit hardest by state and local taxes right now,” said Matthew Gardner, lead author of the study, Who Pays? A Distributional Analysis of the Tax Systems in All 50 States. “The harsh reality is that most states require their poor and middle-income taxpayers to pay the most taxes as a share of income.”

Nationwide, the study found that middle- and low-income non-elderly families pay much higher shares of their income in state and local taxes than do the very well-off:

-- The average state and local tax rate on the best-off one percent of families is 6.4 percent before accounting for the tax savings from federal itemized deductions. After the federal offset, the effective tax rate on the best off one percent is a mere 5.2 percent.

-- The average tax rate on families in the middle 20 percent of the income spectrum is 9.7 percent before the federal offset and 9.4 percent after—almost twice the effective rate that the richest people pay.

-- The average tax rate on the poorest 20 percent of families is the highest of all. At 10.9 percent, it is more than double the effective rate on the very wealthy.

“Fairness is in the eye of the beholder.” noted Gardner. “But virtually anyone would agree that this upside-down approach to state and local taxes is astonishingly inequitable.”

The “Terrible Ten” Most Regressive Tax Systems

Ten states—Washington, Florida, Tennessee, South Dakota, Texas, Illinois, Michigan, Pennsylvania, Nevada, and Alabama—are particularly regressive. These “Terrible Ten” states ask poor families—those in the bottom 20% of the income scale—to pay almost six times as much of their earnings in taxes as do the wealthy. Middle income families in these states pay up to three-and-a-half times as high a share of their income as the wealthiest families. “Virtually every state has a regressive tax system,” noted Gardner. “But these ten states stand out for the extraordinary degree to which they have shifted the cost of funding public investments to their very poorest residents.”

The report identifies several factors that make these states more regressive than others:

-- The most regressive states generally either do not levy an income tax, or levy the tax at a flat rate;

-- These states typically have an especially high reliance on regressive sales and excise taxes;

-- These states usually do not allow targeted low-income tax credits such as the Earned Income Tax Credit; these tax credits are especially effective in reducing state tax unfairness.

“For lawmakers seeking to make their tax systems less unfair, there is an obvious strategy available,” noted Gardner. “Shifting state and local revenues away from sales and excise taxes, and towards the progressive personal income tax, will make tax systems fairer for low- and middle income families. Conversely, states that choose to balance their budgets by further increasing the general sales tax or cigarette taxes will make their tax systems even more unbalanced and unfair.”

Implications for State Budget Battles in 2010

“In the coming months, many states’ lawmakers will convene to deal with fiscal shortfalls even worse than those they faced last year,” Gardner said. “Lawmakers may choose to close these budget gaps in the same way that they have done all too often in the past—through regressive tax hikes. Or they may decide instead to ask wealthier families to pay tax rates more commensurate with their incomes. In either case, the path that states choose in the upcoming year will have a major impact on the wellbeing of their citizens—and on the fairness of state and local taxes.”

So-called sales tax holidays, normally two- or three-day events that encourage shoppers to purchase back-to-school items tax-free, are bad policy for a variety of reasons. The holidays are poorly targeted, costly, and lull legislators into thinking that they've done something substantial to help reduce the regressivity of sales taxes.

The bottom line is that given the choice between targeted sales tax reform that takes into account one's ability to pay and a three-day sales tax holiday, lawmakers should always opt for targeted reform.

Last weekend a handful of states from Alabama to New Mexico held their sales tax holidays. (The Federation of Tax Administrators keeps a complete list of holidays here.) But because of the recent economic downturn, some legislators and economists are questioning the wisdom of not collecting sales taxes a few days a year.

Former chairman of South Carolina's Board of Economic Advisors Harry Miley certainly has his doubts about the effectiveness of sales tax holidays. He says that shoppers don't need incentives to go back-to-school shopping, and the cost to the state is quite high. He says, "The idea of a tax holiday for essential items doesn’t make any sense to me." For more on why sales tax holidays aren't all they are cracked up to be, see ITEP's Policy Brief.

As we've discussed in recent digest articles, this year saw a flurry of activity in the debate over state deductions for federal income taxes paid. Presently, seven states (Alabama, Iowa, Louisiana, Missouri, Montana, North Dakota, and Oregon) offer state taxpayers some form of income tax deduction for the federal income taxes they pay. This basically undoes, at least partially, the progressivity of the federal income tax. The upper-income taxpayers who pay more in federal income taxes receive the largest deductions on their state income taxes, even though they have the greater ability to pay. Proposals to reform the deduction for federal income taxes paid in Alabama and Iowa came up short this year, but state lawmakers are vowing to bring up the issue again next year.

Removing the sales tax on food and offsetting the revenue loss by phasing out the deduction for federal income taxes paid for wealthier Alabamians was the number one priority for Democratic lawmakers, but this week the House came up just one vote shy of the three-fifths needed to debate a bill before the state's budget passes. The bill's sponsor, Representative John Knight, has vowed to bring up the bill again next year and says, "I consider this an economic incentive package for working families of this state."

Lawmakers in Iowa proposed to completely eliminate the deduction and use the revenue generated to fund a reduction in state tax rates. The debate over the proposal was quite heated. According the Des Moines Register, "The debate included a rowdy public hearing where hundreds of Iowans -- most of whom opposed the plan -- were escorted from the House chambers by Iowa State Patrol troopers after they persisted in booing, hissing and applauding speakers." Despite support from the House Speaker Pat Murphy and Senate Majority Leader Michael Gronstal, the legislation didn't have enough support and ultimately wasn't debated in either the House or the Senate. Senator Gronstal is predicting that the legislation will be introduced again next year, saying, "There are times when issues are right but they're not ripe."

The Center on Budget and Policy Priorities recently released a very useful report summarizing tax expenditure reporting practices in the states, as well as methods for improving a typical state's tax expenditure report. For those unfamiliar with the term, a "tax expenditure" is essentially a special tax break designed to encourage a particular activity or reward a particular group of taxpayers. Although tax expenditures can in some cases be an effective means of accomplishing worthwhile goals, they are also frequently enacted only to satisfy a particular political constituency, or to allow policymakers to "take action" on an issue while simultaneously being able to reap the political benefits associated with cutting taxes.

Tax expenditure reports are the primary means by which states (and the federal government) keep track of these provisions. Unfortunately, most if not all of these reports are plagued by a variety of inadequacies, such as failing to consider entire groups of tax expenditures, or not providing frequent and accurate revenue estimates for these often costly provisions. Shockingly, the CBPP found that nine states publish no tax expenditure report at all. Those nine states Alabama, Alaska, Georgia, Indiana, Nevada, New Jersey, New Mexico, South Dakota, and Wyoming, undoubtedly have the most work to do on this issue. All states, however, have substantial room for improvement in their tax expenditure reporting practices.

For a brief overview of tax expenditure reports and the tax expenditure concept more generally, check out this ITEP Policy Brief.

At present, seven states (Alabama, Iowa, Louisiana, Missouri, Montana, North Dakota, and Oregon) offer state taxpayers some form of an income tax deduction for the federal income taxes they pay. This basically undoes, at least partially, the progressivity of the federal income tax. The upper-income taxpayers who pay more in federal income taxes receive the largest deductions on their state income taxes, even though they still have the greater ability to pay.

Efforts to limit or to repeal these deductions -- and to use the additional revenue to provide tax reductions for low- and moderate-income taxpayers -- have been underway in two such states. In Alabama, Representative John Knight has proposed legislation to pare back his state's federal income tax deduction in order to finance a sales tax exemption for groceries. Unfortunately, House Republicans may have successfully prevented further consideration of the bill this session, voting en bloc to keep it from coming before the House for debate.

Meanwhile, in Iowa, momentum is building for a plan that would repeal the deduction outright while also lowering tax rates across the board and increasing a pair of tax credits. House Speaker Pat Murphy recently voiced his support for the changes and the Senate seems poised to act as well.

For more on efforts in Alabama and Iowa to improve tax fairness, see the web sites for Alabama Arise and the Iowa Policy Project.

We've recently highlighted a variety of progressive revenue raising options gaining serious attention in New York and Wisconsin. This week we bring you yet another idea that's recently been the subject of debate, though this one applies to fewer states. Those seven states still offering income tax deductions for federal taxes paid (i.e. Alabama, Iowa, Missouri, Montana, North Dakota, Louisiana, and Oregon), should immediately repeal, or at the very least dramatically scale back, that deduction.

The federal income tax deduction takes what is perhaps the best attribute of the federal income tax -- its progressivity -- and uses it to stifle that very attribute at the state level. Since wealthy taxpayers generally pay more in federal taxes than their less well-off counterparts, allowing taxpayers to deduct those taxes from their income for state income tax purposes is a gift to precisely those folks who need it least. And since most state income tax systems possess a degree of progressivity, those better-off taxpayers who face higher marginal tax rates are benefited even more by being able to shield their income from tax via this deduction.

Iowa Governor Chet Culver most recently drew attention to this problem while urging lawmakers this week to end the deduction. The idea has also recently garnered attention in Missouri, where ITEP recently testified on a bill that would, among other changes, eliminate the deduction. Finally, another bill making its way through the Alabama legislature seeks to end the deduction for upper-income Alabamians.

With three of the seven states that still offer this deduction considering its elimination, this is definitely one progressive policy change to keep an eye on.

Despite their obvious unfairness, tax amnesties are a tool frequently used by states during tough budgetary times. By waiving late fees and sometimes reducing the interest rate charged on overdue taxes, state policymakers can provide their state with a quick band-aid fix without having to make the much harder choice of raising taxes or cutting valued services. But penalizing similar taxpayers at different rates dependent only upon whether they decide to pay up during an amnesty period is plainly unfair. The problems associated with amnesties become even worse, however, as soon as a state establishes a habit of repeatedly offering amnesties during tough economic times.

With the possibility of another amnesty always on the horizon, delinquent taxpayers will think twice before settling their debts with the state during normal times, and at normal penalty rates. Creating multiple sets of penalties (one for normal times, and one, lower penalty when budgets shortfalls are projected) therefore reduces fairness by penalizing similar taxpayers differently based only on the timing of their payment, and can also reduce the effectiveness of enforcement efforts and the tax system broadly. These effects can continue long after the most recent amnesty period ends. (Note that this is very similar to the argument against allowing corporations to "repatriate" their profits to the U.S. at a lower rate, a proposal which was recently rejected at the federal level).

Despite the obvious problems, Maryland and New Mexico are both considering legislation to once again provide temporary tax amnesty programs some time in the coming months. New Mexico last provided an amnesty less than a decade ago, while Maryland's last amnesty came in 2001. After that 2001 amnesty, the Maryland comptroller's office noted that "repeated use of amnesties is likely to create cynicism among law-abiding taxpayers, and lessen the need for voluntary compliance with state tax laws, which is vital for our system of taxation". Should another amnesty be offered less than a decade after the 2001 amnesty, growth in taxpayer cynicism seems unavoidable, especially in light of the fact that a similar program offered in 1987 in the state was billed as a "once-in-a-lifetime" opportunity for delinquent payers.

Without a doubt, the momentum in favor of such programs is strong. Alabama is already in the mist of an amnesty period (the state last offered an amnesty in 1984). Massachusetts is currently in the process of deciding upon a date for its amnesty program (Massachusetts last provided amnesty in 2003). Connecticut's program is already slated to take effect on May 1st (Connecticut's last amnesty took place in 2002). And Oklahoma just recently closed its most recent amnesty period, just seven years after its 2002 amnesty.

In this environment, it is extremely important for state policymakers to not only oppose more amnesties, but also to convincingly state that another amnesty will not be offered any time in the near future. For states looking to responsibly close their tax gaps, stepping-up enforcement spending is often a route that can produce sizeable returns, and is undoubtedly much more fair than trying to get something for nothing by arbitrarily waiving penalties in an effort to boost voluntary "compliance". For more specific alternatives to the tax amnesty approach, take a look at these recent enforcement recommendations from Oregon's Department of Revenue.