Maryland Governor Martin O’Malley announced that he will call a special legislative session to start next week.  Lawmakers are widely expected to pass a progressive income tax package in order to avoid massive “doomsday” budget cuts.

Tennessee’s inheritance tax will be eliminated beginning in 2016.  Legislators recently sent Governor Haslam a bill repealing the tax, seduced by bogus claims about the economic benefits of repeal.  Lawmakers also passed two other notable tax cuts: one repealing the gift tax (which The Commercial Appeal says will benefit Gov. Haslam himself, along with other wealthy taxpayers), and another cutting the state sales tax on groceries by a quarter of a percent.

The gubernatorial race in Washington State is heating up and costly tax expenditures are getting long overdue attention from the candidates. But as this piece in the Seattle Times highlights, eliminating spending programs embedded in the tax code is easier said than done.  Read CTJ’s advice for how to do it here.

Finally, check out this timely column describing why Minnesota Governor Mark Dayton should veto a bill passed by the legislature under the guise of job creation. (Hint - it’s really a massive tax cut for business.)

This week brought news of a few more states tackling the challenge of taxing purchases made over the Internet in the same way as purchases made in “brick and mortar” stores.  Nevada and Tennessee got agreements from Amazon.com, the mother of all online retailers, to start doing its part to collect those taxes, and it looks like Massachusetts isn’t far behind.

• In Nevada, Amazon.com will begin collecting sales taxes in 2014 under a new agreement announced on Monday.  The company already has major warehouses and distribution centers in the state.  Amazon’s agreement with Nevada is similar to deals struck in California, Indiana, South Carolina, Tennessee, and Virginia.
• As in Nevada, Amazon’s deal to begin collecting sales taxes in Tennessee won’t take effect until 2014, but a lesser known part of that agreement has already taken effect.  Amazon is mailing notices to all its Tennessee customers from throughout the past year letting them know that they may owe sales tax on the items they bought from the company, even though Amazon didn’t collect those taxes for them.  Similar annual notices will be sent by February 1st in both 2013 and 2014.
• The Massachusetts Main Street Fairness Coalition is continuing its calls for the state to require that Amazon collect sales taxes, and The Boston Globe just chimed in to support the idea as well.  As the Globe explains, the company’s new offices in Massachusetts should be enough to bring the company within reach of the state’s sales tax collection laws.

Of course, these efforts are only partial solutions at best.  Amazon.com may be the world’s biggest online retailer, but they’re hardly the only one.  Nevertheless, until the federal government acts to allow all states to enforce their sales tax laws on all purchases, these piecemeal victories are the best news we can hope for.

Tennessee lawmakers are seriously considering repealing their state estate tax, in part because of a comically flawed report from supply-side economist Arthur Laffer.  The report’s bottom-line conclusion is that Tennessee would have benefited from 220,000 more jobs in 2010 if lawmakers had simply repealed the Tennessee estate tax one decade earlier.  But as the Institute on Taxation and Economic Policy ( ITEP) explains in a new brief, while 220,000 jobs is certainly an impressive number, the reasoning Laffer used to arrive at that figure is far from convincing.

Laffer begins his argument by pointing to the “Laffer-ALEC State Competitiveness Index,” which is basically a wish list of fifteen conservative policies he would like to see states enact (low income taxes, low corporate taxes, low minimum wage, etc).  Tennessee ranks 8^th overall on the Laffer-ALEC Index, and if the Index has any predictive power whatsoever, that means Tennessee’s economy should be doing pretty well.  But as Laffer admits, the reality is exactly the opposite.

Tennessee’s low economic and employment growth is particularly puzzling to Laffer because in a series of prior reports, he’s argued that states without income taxes (of which Tennessee is one) are outperforming the rest of the country.  So how then does Laffer explain Tennessee’s disappointing growth?  He decides to ignore a slew of factors that affect state economies in today’s complex world, and instead place all of the blame in one place: the state estate tax.

According to Laffer’s reasoning, if Tennessee had jettisoned its estate tax one decade ago, employment and economic growth more broadly would have sped up to a rate exactly equal to the average among all states not levying an income tax.  The natural result of this would be 220,000 more jobs in 2010, as well as $36 billion in additional yearly economic output.

Laffer says he can think of “no reason to believe” that things wouldn’t have played out this way.  But as ITEP explains in its brief, differences in economic growth rates are influenced by a range of factors that don’t appear to have even crossed Laffer’s mind, like differences in natural resource endowments, educational attainment, and infrastructure quality.  The unavoidable conclusion is that Laffer’s choice of scapegoat in Tennessee had a lot more to do with his ideology than with any sort of rigorous economic analysis.

For a closer look at Laffer’s deeply flawed argument in favor of repealing Tennessee’s estate tax, be sure to read ITEP’s full brief.

Photo of Art Laffer via  Republican Conference Creative Commons Attribution License 2.0

North Carolina’s two major newspapers, the Raleigh News and Observer and Charlotte Observer, published editorials in support of the state’s estate tax in the wake of a hearing last week called to eliminate it.  From the News and Observer: “The estate tax is hardly a burden on those few inheritors who have to pay it. It is a modest but valuable asset to government revenue, and there is nothing unfair about [it]."  And, from the Charlotte Observer: “Some Republicans support abolishing the federal estate tax. They should explain why the extremely wealthy should be able to avoid paying any taxes on unrealized capital gains.”

Washington State’s special legislative session started yesterday. The media is reporting that the session will be a contentious battle over how the state should close its $1 billion budget gap. (Hint: the answer’s in the Washington State Budget and Policy Center’s proposal to tax capital gains income. )

An article from The Miami Herald reveals some ugly details surrounding the $2.5 billion in business tax cuts just passed by the Florida legislature.  As the Herald points out, “those benefiting had plenty of lobbyists … AT&T, which has 74 Florida lobbyists, spent $1.68 million on lobbying last year, more than any other company.”  Not coincidentally, AT&T and Verizon – both champion tax dodgers – were among the biggest winners.  A last-minute amendment to the legislation could give the telecommunications industry a tax break as large as $300 million.

A great op-ed in the Kansas City Star asks why Governor Brownback wants taxes in Kansas to be like Texas, reminding Kansans that Texas ranks low in everything that really matters, from high school graduation rates to household income to crime.

Dolly Parton’s Dollywood Co. and Gaylord Entertainment Co. have struck a deal with Nashville, Tennessee Mayor Karl Dean that, if approved, would result in an estimated $5.4 million in property tax breaks for their planned water and snow park.  Ben Cunningham of the Nashville Tea Party was right to point out that the plan amounts to a “giveaway” to companies that plan to move to the city anyway and that it’s time to stop “giving in to this kind of corporate extortion.”

Photo of Dolly Parton via Eva Rinaldi Creative Commons Attribution License 2.0

There are few areas of policy where lawmakers’ shortsightedness is on display as fully as it is with the gasoline tax.  Now, with a series of twenty six new charts from the Institute on Taxation and Economic Policy ( ITEP), you can see the impact of that shortsightedness in most states as shareable graphs.

Overall, state gas taxes are at historic lows, adjusted for inflation, and most states can expect further declines in the years ahead if lawmakers do not act.  Some states, including New Jersey, Iowa, Utah, Alabama, and Alaska, are levying their gas taxes at lower rates than at any time in their history.  Other states like Maryland, Oklahoma, Massachusetts, Missouri, Tennessee, Arkansas, and Wyoming will approach or surpass historic lows in the near future if their gas tax rates remain unchanged and inflation continues as expected.

These findings build on a 50-state report from ITEP released last month, called Building a Better Gas Tax.  ITEP found that 36 states levy a “fixed-rate” gas tax totally unprepared for the inevitable impact of inflation, and twenty two of those states have gone fifteen years or more without raising their gas taxes.  All told, the states are losing over $10 billion in transportation revenue each year that would have been collected if lawmakers had simply planned for inflation the last time they raised their state gas tax rates.

View the charts here, and read Building a Better Gas Tax here.

Note for policy wonks: Charts were only made in twenty six states because the other twenty four do not publish sufficient historical data on their gas tax rates.  It’s also worth noting that these charts aren’t perfectly apples-to-apples with the Building a Better Gas Tax report, because that report examined the effect of construction cost inflation, whereas these charts had to rely on the general inflation rate (CPI) because most construction cost data only goes back to the 1970’s.  Even with that caveat in mind, these charts provide an important long-term look at state gas taxes, and yet another way of analyzing the same glaring problem.

Example:

Note to Readers: Over the coming weeks, ITEP will highlight tax policy proposals that are gaining momentum in states across the country.  This week, we’re taking a closer look at proposals which would reduce or eliminate state inheritance and estate taxes.  If you haven’t already, be sure to read our inaugural article in the series on proposals in some states to roll back or eliminate income taxes, which are the uniquely progressive feature of our tax system.

Whether state or federal, inheritance and estate taxes play an important role in limiting concentrated wealth in America. Warren Buffett views the estate tax as key to preserving our meritocracy, and the great Justice Louis Brandeis famously warned that we could have concentrated wealth or we could have democracy, but not both.  While the federal estate tax is often the source of passionate debate, these taxes are particularly important at the state level because they help offset some of the stark regressivity built into most state tax systems.  Unfortunately, lawmakers in some states have bought into the bogus claims of the American Family Business Institute (a.k.a. nodeathtax.org), Arthur Laffer, and others in the anti-tax, anti-government movement that repealing estate and inheritance taxes will usher in an economic boom.

Nebraska – Governor Dave Heineman has proposed repealing Nebraska’s inheritance tax entirely, determined, it seems, to pile on to the tax cuts already enacted earlier in his term.  (Inheritance taxes are very similar to estate taxes, except that inheritance taxes are technically paid by the heir to the estate, rather than by the estate itself.)  Unfortunately, in addition to worsening the unfairness of the state’s tax system, the Governor’s proposal would also kick struggling localities while they’re down, since revenue from Nebraska’s inheritance tax flows to county governments.

Indiana – Senate Appropriations Chairman Luke Kenley recently made the same proposal as Nebraska’s governor: outright repeal of the inheritance tax.  Kenley has floated the idea of using sales taxes on online shopping to pay for the repeal, but while Internet sales taxes are good policy on their own, this change would amount to an extremely regressive tax swap overall.  Indiana’s inheritance tax is already limited, however, and exempts spouses of the deceased entirely, as well as the first $100,000 given to each child, stepchild, grandchild, parent, or grandparent.

Tennessee – Governor Bill Haslam’s inheritance tax proposal may be less radical than those receiving attention in Nebraska and Indiana, but not by much.  Rather than repealing the tax entirely, Haslam would like to increase the state’s already generous $1 million exemption to a whopping $5 million.  It’s surprising, to say the least, that one of Haslam’s top tax policy priorities should be slashing taxes for lucky heirs inheriting over $1 million.

North Carolina – Efforts to gut the estate tax in North Carolina haven’t gained backers as visible as those in Nebraska, Indiana, and Tennessee.  But there are rumblings that repeal could be on the agenda of some legislators, as evidenced by the vehemently anti-estate tax testimony that a joint House-Senate committee heard from the American Family Business Institute this month.

Tennessee Governor Bill Haslam recently announced that Amazon has agreed to begin collecting sales taxes in Tennessee starting in 2014.  The former Governor had told Amazon during backroom negotiations that it would not have to collect sales tax at all, despite the company’s plans to establish a “physical presence” in the state through the opening of multiple distribution centers.  This is Amazon’s third such agreement with a state.  Here’s our quick take.

• Governor Haslam is absolutely right in saying that "this isn't a new tax; this tax was already due. This was just a question of Amazon collecting it themselves."  Tennessee residents have always been required to pay tax on purchases made over the Internet, but that law is essentially unenforceable without the cooperation of retailers.
• Traditional “brick and mortar” retailers in the Volunteer State have a legitimate complaint when it comes to the two-plus year lag-time before Amazon must begin collecting sales taxes.  Amazon’s exemption from Tennessee’s sales tax laws is extremely poor policy, and really should end the moment the company begins operating the distribution centers it plans to build. 
• This is by no means a comprehensive solution to online sales tax evasion in Tennessee.  According to Governor Haslam, Amazon accounts for about ten percent of retail sales currently escaping taxation.  Other online and catalogue vendors that make up the other 90 percent will continue to dodge their sales tax collection responsibilities for the time being.
• This development in Tennessee should hasten a national solution in the form of federal legislation.  A state’s ability to enforce its sales tax laws cannot come down to its particular negotiating skills and leverage.

Until that federal solution is reached, states do have options.  Tennessee’s ability to force Amazon to collect sales tax hinged on the company’s decision to build distribution facilities in the state – therefore giving the company sufficient presence to fall within reach of Tennessee’s tax collectors.  But states where Amazon lacks a distribution center can also take steps to require tax collection by enacting what’s known as an “ Amazon law” – a provision requiring companies partnering with existing in-state businesses to collect sales tax.

UPDATE 8/12/11: It appears there may now be a third path forward. The Tennessean reports that Gov. Haslam recently began negotiations with Amazon in order to have the company collect sales taxes. Such a deal would likely involve giving the company hefty subsidies.

Traditional “brick and mortar” retailers are becoming increasingly frustrated that Amazon.com and other online retailers aren’t collecting sales taxes owed on their customers’ purchases.  Online shopping makes up a significant (9%) and fast-growing share of all retail sales, and many online retailers are using their exemption from collecting sales taxes to expand that share. 

Against this backdrop, a group representing some of Tennessee’s most powerful retailers recently threatened to file suit if Amazon.com is not required to collect sales taxes – just like traditional sellers – when two new distribution centers in the state are up and running.

The saga in Tennessee began when former Governor Phil Bresden struck a backroom deal with Amazon while on his way out of office.  The deal reportedly included a promise that the Internet giant would not have to collect sales taxes in Tennessee, even if the company established distribution centers in the state (which by most accounts would constitute “ physical presence” and therefore require that the company collect taxes).

But a regulation that would have cemented the deal failed to make it onto the books, and now Amazon is on less certain footing in claiming that it does not have to collect taxes because the new distribution centers are technically owned by a subsidiary, not Amazon itself.  This line of argument is basically identical to one the company tried to use in Texas, so far unsuccessfully.

At this point, there are two separate paths forward for making Amazon collect sales tax just like most other retailers.  First, lawmakers could pass legislation clarifying that the company is in fact subject to the state’s sales tax collection requirement.  Legislation that would have done exactly that stalled in the last session while its sponsors waited for legal guidance from the state’s Attorney General (he eventually confirmed that the legislation would have been constitutionally permissible).  The sponsors are apparently interested in pushing for the legislation again in 2012.

The second path would go through the courts.  The Retail Industry Leaders Association – which includes such heavyweights as Wal-Mart, Best Buy, and Home Depot – recently announced that it may file suit if the state does not force Amazon.com to begin collecting sales taxes once the company’s new distribution centers begin operating.  While details of the suit remain sparse, it would presumably try to show that Amazon.com does in fact have a physical presence in the state, all claims about “subsidiaries” to the contrary.  If the courts agree on that point, Amazon will likely be required to collect sales tax.  The legal requirement that sellers collect the tax is not optional and could only be waived through actual legislation, not just a secret agreement with the Executive Branch.

Ultimately, the legislative path is more straightforward than going through the courts, but if Amazon is able to scare enough lawmakers into opposing the legislation, it’s oddly reassuring to know that big box retailers are prepared to fight for a more even-handed application of the state’s sales tax laws.

Photo via Markuz and Brent Nashville Creative Commons Attribution License 2.0

Good Jobs First (GJF) released three new resources this week explaining how your state is doing when it comes to letting taxpayers know about the plethora of subsidies being given to private companies.  These resources couldn’t be more timely.  As GJF’s Executive Director Greg LeRoy explained, “with states being forced to make painful budget decisions, taxpayers expect economic development spending to be fair and transparent.”

The first of these three resources, Show Us The Subsidies, grades each state based on its subsidy disclosure practices.  GJF finds that while many states are making real improvements in subsidy disclosure, many others still lag far behind.  Illinois, Wisconsin, North Carolina, and Ohio did the best in the country according to GJF, while thirteen states plus DC lack any disclosure at all and therefore earned an “F.”  Eighteen additional states earned a “D” or “D-minus.”

While the study includes cash grants, worker training programs, and loan guarantees, much of its focus is on tax code spending, or “ tax expenditures.”  Interestingly, disclosure of company-specific information appears to be quite common for state-level tax breaks.  Despite claims from business lobbyists that tax subsidies must be kept anonymous in order to protect trade secrets, GJF was able to find about 50 examples of tax credits, across about two dozen states, where company-specific information is released.  In response to the business lobby, GJF notes that “the sky has not fallen” in these states.

The second tool released by GJF this week, called Subsidy Tracker, is the first national search engine for state economic development subsidies.  By pulling together information from online sources, offline sources, and Freedom of Information Act requests, GJF has managed to create a searchable database covering more than 43,000 subsidy awards from 124 programs in 27 states.  Subsidy Tracker puts information that used to be difficult to find, nearly impossible to search through, or even previously unavailable, on the Internet all in one convenient location.  Tax credits, property tax abatements, cash grants, and numerous other types of subsidies are included in the Subsidy Tracker database.

Finally, GJF also released Accountable USA, a series of webpages for all 50 states, plus DC, that examines each state’s track record when it comes to subsidies.  Major “scams,” transparency ratings for key economic development programs, and profiles of a few significant economic development deals are included for each state.  Accountable USA also provides a detailed look at state-specific subsidies received by Wal-Mart.

These three resources from Good Jobs First will no doubt prove to be an invaluable resource for state lawmakers, advocates, media, and the general public as states continue their steady march toward improved subsidy disclosure.

Many gubernatorial candidates campaign on a platform of tax cuts, and few, outside of Minnesota Gubernatorial Candidate Mark Dayton, promote tax increases.  In such a political climate, perhaps the best that voters can hope for are candidates that promise to maintain progressive tax structures. 

California

One such candidate, California gubernatorial candidate Jerry Brown, recently hammered his opponent, Meg Whitman, for supporting a regressive tax cut that would benefit only taxpayers who have capital gains income.

In 2008, 93% of taxpayers who paid capital gains taxes in California earned over $200,000.  While other gubernatorial candidates fight over who will cut taxes more, it is refreshing to see a candidate like Brown refuse to endanger the state's budget by cutting taxes for the wealthiest.

Illinois

Illinois current Governor Pat Quinn is having it out against Republican Bill Brady to see who will move into the Governor's Mansion next year. Brady proposes to eliminate the state's estate tax and the sales tax on gasoline, saying that this will send a message to business that  "Illinois is open again for business and we're here to stay for the long term." Quinn, on the other hand, supports an increase in the state's income tax to help solve the state's enormous fiscal woes.

Maryland

While fiscal prudence may call for hard decisions, campaigning calls for easy sound bites.  Former Governor and current Republican candidate for Maryland Governor Robert Ehrlich wants to repeal Governor O’Malley’s 2007 sales tax increase.  Ehrlich’s proposal would cost the state treasury over $600 million. While Ehrlich himself raised taxes during his tenure, the former Governor is trying to re-brand himself as the anti-tax candidate. 

Like Ehrlich, current Governor O’Malley is also seeking to distance himself from his past constructive and successful tax policies.  However, O’Malley refuses to rule out future tax increases, signaling that he has not forgotten how he expanded health coverage and increased education funding these last four years.

Michigan

The “Michigan Business Tax” has fallen out of grace with Michigan’s gubernatorial candidates.  Both Democrat Virg Bernero and Republican Rick Snyder favor eliminating the business tax and replacing it with some other revenue source. Synder’s plan would partially offset the revenue loss from the business tax cuts by instituting a flat 6% corporate income tax.  Still, Synder recognized the plan would remove $1.5 billion from the state’s coffers. 

Bernero’s plan does little more to make up for the lost revenue.  His proposal includes collecting taxes on internet sales, although he refuses to commit to any gas or service tax increase. Instead, Bernero also seeks to cut state programs and lower costs.  While it is disappointing to see both candidates propose tax and funding cuts, Bernero has pledged to support state funding for anti-poverty and unemployment programs.

Pennsylvania

Despite massive state budget shortfalls in Pennsylvania, both gubernatorial candidates, Republican Tom Corbett and Democrat Dan Onorato pledged, abstractly, not to raise taxes. Neither candidate seems to be sticking to such a pledge. Onorato was gutsy enough to suggest imposing a new tax on shale severance.  Onorato’s proposed tax would allow the state to remain competitive with neighboring states.  Onorato’s Republican counterpart, Tom Corbett, has maintained that he will not raise taxes, but he is reportedly open to increasing payroll taxes. So apparently, Corbett’s pledge only applies to big business.

South Carolina

South Carolina voters are guaranteed to see a new Governor in Columbia that is going to slash budgets instead of raising revenue. Both the major candidates, Democrat Vincent Sheheen and Republican Nikki Haley, are saying that they won't raise taxes despite the fact that the budget is in disarray (falling to mid-1990's levels) and the federal government can't be relied on for more stimulus money to help prop the state up. Sheheen has said, "We can't keep funding everything at the levels of two or three years ago. We can't keep funding everything, period."

Perhaps it comes as no surprise, but Haley does have some pet projects she'd like to see improved despite claiming that South Carolina must live within its means. She says, "When your revenues are down, the last thing you cut is your advertising, so we need to make sure the Commerce Department is strong. We need to strengthen our technical colleges." No matter who wins this election, it's going to be difficult to improve technical colleges and the Commerce Department when money is so tight and lawmakers aren't leaving many options.

Tennessee

Tennessee politicians realize the state has serious budget shortfalls.  Unfortunately, the only question facing Tennessee voters this November will be how much to cut state programs and who to reward with tax cuts.

Last week, the current Democratic Governor Phil Bredesen announced plans to cut next year’s state budget by up to $160 million.  Democratic gubernatorial candidate Mike McWherter lauded the plan, while Republican gubernatorial candidate Bill Haslam criticized the cuts for not being large enough. 

However, the candidates do have differing ideas about creating jobs through tax cuts.  McWherter proposed a $50 million state tax break for small businesses that would reward qualifying companies for creating the next 20,000 jobs.  In contrast, Haslam proposed creating regional economic development centers.  McWherter’s plan is based on a similar program in Illinois, which Democratic Governor Pat Quinn instituted and Republican gubernatorial candidate Bill Brady would like to expand.

ITEP’s new report, Credit Where Credit is (Over) Due, examines four proven state tax reforms that can assist families living in poverty. They include refundable state Earned Income Tax Credits, property tax circuit breakers, targeted low-income credits, and child-related tax credits. The report also takes stock of current anti-poverty policies in each of the states and offers suggested policy reforms.

Earlier this month, the US Census Bureau released new data showing that the national poverty rate increased from 13.2 percent to 14.3 percent in 2009.  Faced with a slow and unresponsive economy, low-income families are finding it increasingly difficult to find decent jobs that can adequately provide for their families.

Most states have regressive tax systems which exacerbate this situation by imposing higher effective tax rates on low-income families than on wealthy ones, making it even harder for low-wage workers to move above the poverty line and achieve economic security. Although state tax policy has so far created an uneven playing field for low-income families, state governments can respond to rising poverty by alleviating some of the economic hardship on low-income families through targeted anti-poverty tax reforms.

One important policy available to lawmakers is the Earned Income Tax Credit (EITC). The credit is widely recognized as an effective anti-poverty strategy, lifting roughly five million people each year above the federal poverty line.  Twenty-four states plus the District of Columbia provide state EITCs, modeled on the federal credit, which help to offset the impact of regressive state and local taxes.  The report recommends that states with EITCs consider expanding the credit and that other states consider introducing a refundable EITC to help alleviate poverty.

The second policy ITEP describes is property tax "circuit breakers." These programs offer tax credits to homeowners and renters who pay more than a certain percentage of their income in property tax.  But the credits are often only available to the elderly or disabled.  The report suggests expanding the availability of the credit to include all low-income families.

Next ITEP describes refundable low-income credits, which are a good compliment to state EITCs in part because the EITC is not adequate for older adults and adults without children.  Some states have structured their low-income credits to ensure income earners below a certain threshold do not owe income taxes. Other states have designed low-income tax credits to assist in offsetting the impact of general sales taxes or specifically the sales tax on food.  The report recommends that lawmakers expand (or create if they don’t already exist) refundable low-income tax credits.

The final anti-poverty strategy that ITEP discusses are child-related tax credits.  The new US Census numbers show that one in five children are currently living in poverty. The report recommends consideration of these tax credits, which can be used to offset child care and other expenses for parents.

Earlier this summer the Census Bureau released data that revealed which states can be considered "low tax" states. We took a closer look at the data and found that while a handful of states could be considered low tax states overall, their taxes are not low for poor and middle-income families.

In fact, in six states — Arkansas, Arizona, Florida, Tennessee, Texas, and Washington — there is a fundamental mismatch between the Census data and how these supposed low tax states treat people living at or near the poverty line. One of the major reasons for this is that these states have largely unbalanced tax structures. Florida, Tennessee, Texas, and Washington rely heavily on property and sales taxes because they don't have a broad-based personal income tax. (For more on a Washington ballot initiative to introduce an income tax, see our Digest article below.) Despite having income taxes, Arkansas and Arizona rely heavily on sales taxes, thus making their tax structures balanced on the backs of low- and middle-income taxpayers.

Since the passage of the 1986 Tax Reform Act, federal tax law has given state lawmakers a clear incentive to rely on income taxes, instead of sales taxes, to fund public investments. This is because state income taxes can be written off by federal taxpayers who itemize their deductions, and sales taxes generally cannot. Even with temporary legislation in place that does allow a sales tax deduction, states that rely heavily on sales taxes — and not at all on income taxes — are essentially choosing to ignore what amounts to a federal "matching grant" for states that rely heavily on progressive income taxes.

A new joint report from ITEP and United for a Fair Economy's Tax Fairness Organizing Collaborative quantifies the cost of this choice in seven states that currently have no broad-based income tax — and that make up the gap by leaning heavily on the sales tax. The report shows that collectively, these seven states could reduce the federal taxes paid by their residents by $1.7 billion a year if they enacted a revenue-neutral reform that replaces sales tax revenue with a flat-rate income tax, and that the same states could save their residents $5.5 billion a year in federal taxes by enacting a similarly revenue-neutral shift to a graduated-rate progressive income tax.

Read the report.

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.

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.”