If nothing else, 2009 certainly saw its share of movies featuring the undead – New Moon, Zombieland, and Daywalkers all spring to mind.  Now, that trend seems to be infecting state legislative debates, as tax policies or tax policy proposals thought to be dead seem to be springing back to life to terrorize unsuspecting citizenries.  

In Georgia last May, Governor Sonny Perdue rightly vetoed a measure that would have cut in half the taxes businesses and individuals pay on long-term capital gains, costing the state as much as $400 million per year, largely to the benefit of the most affluent of Georgians.  This past week, though, Lieutenant Governor Casey Cagle announced his intention to resurrect the measure in an attempt to spur economic growth.  

The undead are also threatening Vermont.  As part of its FY 2010 budget agreement, the Vermont Legislature enacted a variety of tax changes, including a reduction in the state’s capital gains exclusion from 40 percent of such income to an exclusion capped at $5,000.  While the Legislature was forced to enact such changes over the veto of Governor Jim Douglas, it’s worth noting that, as recently as 2008, the Governor had backed repealing the deduction outright and using the influx of revenue to reduce marginal tax rates, which the legislature did, to some degree, via the FY10 budget agreement.  Yet, in his State of the State address earlier this month, Governor Douglas proposed restoring that 40 percent exclusion to life.

Given the nation’s economic woes, it’s only natural for elected officials to seek ways to boost employment and to foster economic development.  Still, capital gains tax cuts are not the elixir of life for state economies.  As ITEP observed in its examination of state capital gains preferences last year, “extensive economic research demonstrates that there is little connection between lower taxes on capital gains and higher levels of economic growth, in either the short-run or the long-run.”

For more on tax and budget debates in Georgia and Vermont, visit the Georgia Budget and Policy Institute and the Public Assets Institute.

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.

It's probably not often that they are mentioned in the same breath, but both Hawaii and Vermont took steps this week towards using progressive tax increases to help close anticipated budget gaps. In the Aloha State, the Legislature approved a measure that, among other changes, would raise income tax rates for married couples with incomes over $300,000 (and for single people with incomes above $150,000). Governor Linda Lingle has already threatened a veto, but the Legislature may have the votes needed for an override.

The road ahead is a little less certain in the Green Mountain State. The House earlier this month passed legislation to raise additional revenue and the Senate is on the verge of doing so, but substantial differences will have to be resolved before any bill reaches the Governor's desk. The centerpiece of the House's approach is a temporary income tax surcharge that would last three years and that would raise rates by one-tenth of a percentage point for lower-income Vermonters and by one-half a percentage point for upper-income residents. Conversely, the Senate seeks to reduce income tax rates and to generate revenue for the state budget by boosting alcohol and tobacco taxes.

Hawaii and Vermont do share at least one thing in common -- a major flaw in their tax codes in the form of preferences for capital gains income. To date, Hawaii legislators have chosen to leave this flaw in place. Vermont's Senators would pare it back, but use the revenue resulting from such an improvement to reduce income tax rates, particularly for upper income taxpayers. Yet, as recent columns in the Honolulu Star Bulletin and Burlington Free Press observe, both states could improve tax fairness and their fiscal outlooks by repealing those preferences and devoting the funds directly towards deficit reduction rather than further tax cuts. For more on state tax preferences for capital gains income, see this report from ITEP.

As state policymakers craft their budgets for the upcoming fiscal year, they must confront a pair of daunting challenges, one fiscal, the other economic. The budget outlook for the states is, at present, the most dire in several decades. In this context, then, states must find ways to generate additional revenue that create neither additional responsibilities for individuals and families struggling to make ends meet nor additional distortions in the economy as a whole.

For nine states -- Arkansas, Hawaii, Montana, New Mexico, North Dakota, Rhode Island, South Carolina, Vermont, and Wisconsin -- one straightforward approach would be to repeal the substantial tax breaks that they now provide for income from capital gains. In tax year 2008 alone, these nine states are expected to lose a total of $663 million due to such misguided policies, with individual losses ranging from $10 million to $285 million per state. A new ITEP report explains that repealing these tax preferences would help states reduce their large and growing budgetary gaps, enhance the equity of their current tax systems, and remove the economic inefficiencies arising from such favorable treatment.

This report explains what capital gains are, how they are treated for tax purposes, and who typically receives them. It also details the consequences of providing preferential tax treatment for capital gains income for states' budgets, taxpayers, and economies in nine key states. Lastly, it responds to claims about both the relationship between capital gains preferences and economic growth and the role capital gains taxation plays in state revenue volatility. (Appendices to the report provide detailed state-by-state estimates of the impact of repealing capital gains tax preferences.)

Read the report.

As we've argued in past Digest articles, there are good reasons for relying on gas tax revenues to fund transportation -- at least when an effort is made to offset the tax's stark regressivity. To the extent that the gas tax falls most heavily on those people who drive the furthest distances, or who drive the heaviest vehicles, there are certainly some advantages to the gas tax. But when the people driving the furthest distances are doing so because they can't afford to live near their places of work, for example, that advantage becomes much less appealing. In this light, recent news regarding the funding of transportation has been both good and bad. While states are seemingly beginning to come around to the idea that gas taxes will need to be raised to provide an adequate transportation infrastructure, interest in offsetting the tax's regressivity has yet to pick up steam.

Support for increasing the gas tax has gained some notable momentum in New Hampshire and Massachusetts as of late, and in Oregon, the Governor even included a small gas tax hike in his recent budget proposal. Utah has taken the idea to another level, as top officials are reportedly considering both increasing and restructuring the state's gas tax. In Vermont, however, while raising the gas tax has gotten some attention, the more prominent proposal has been to simply obtain permission from the federal government to continue using federal highway dollars without having to match that money with state funds (of which it has none). But while there are persuasive reasons for considering aid to the states as one form of stimulus for our troubled economy, one has to wonder why some Vermonters are apparently more averse than these other four states to the idea of paying for their own transportation network.

Unfortunately, while there has been an increasing acceptance of the fact that existing gas tax revenues are inadequate in many states, little notice has been given to the idea of offsetting the stark regressivity of gas tax hikes with low-income refundable credits. This idea was recently made a reality in Minnesota, and has been proposed by the Commonwealth Institute in Virginia as well. Notably, eight states already offer similar credits to offset the regressivity of the sales tax (usually designed specifically to offset the tax on groceries). Nineteen states and D.C. offer refundable EITC's, which while not designed specifically to offset regressive taxes, could perhaps be used in a similar matter. In states in need of additional transportation dollars, coupling any transportation related tax increases with the enactment of a low-income refundable credit, or the enhancement of an existing credit, should be a top priority.

Vermont is among the states considering replacements for its property tax, but like much about the Green Mountain State, legislators there take a very different approach than their counterparts elsewhere around the country. According to the Burlington Free Press, members of the House Ways and Means Committee have agreed to review a bill later this month that would repeal the existing residential property tax that is earmarked for education and replace it with an income tax dedicated to the same purpose. Municipal property levies and the statewide property levy for non-residents would be unaffected.

Anyone compiling a list of similarities between Hawai'i and the Cayman islands can now add "aspiring tax haven" to "sparkling beaches" and "mild climate." Late last month, Hawai'i Governor Linda Lingle signed into law a measure that will cap the premiums tax paid by so-called captive insurance companies in the hope of luring more of those companies to the Aloha State. (A captive insurance company is a subsidiary of a larger company that insures that larger company's property or employee benefits.)

Using tax policy to try to influence business location decisions is questionable enough on its own, but it's especially troubling in this case, since captive insurers can enable major corporations to avoid millions of dollars in federal taxes annually.

As reported earlier this year, Wells Fargo, by establishing a captive insurer in Vermont, will receive "tax breaks totaling at least hundreds of millions of dollars over the next 30 to 40 years"; ADM, Heinz, Alcoa, and Sun Microsystems may already be following suit. So, policymakers in Hawai'i may think that they're bringing more jobs to their shores, but what they're really doing is using scarce tax dollars to make federal taxes scarcer still.

Beer drinkers in Vermont have it easy. When Vermonters buy a bottle of wine, they pay the state's sales tax ... but if they buy a six-pack of beer it's exempt. But thanks to new legislation, starting in January the state's sales tax will apply to beer as well ... ensuring that all alcoholic beverages are taxed the same way. Vermont is cleaning up its sales tax laws as part of its membership in the Streamlined Sales Tax Project, a coalition of state government officials seeking to close what's arguably the most threatening sales tax loophole in the nation ... the inability of states to tax Internet-based sales. An ITEP policy brief explains why this sort of sales tax simplification is a necessary step as the state seeks to tax all retail sales fairly in the 21st century.

Vermont is one of a growing number of states that have moved away from a purely local property tax toward a statewide tax that shares revenue between poor and wealthy taxing districts. This is a good move for those seeking to make the property tax a more equitable funding source. But property taxes are as unpopular in Vermont as in many other states, and a number of anti-tax lawmakers are proposing to repeal the statewide tax-- with no replacement funding source. The Vermont League of Cities, taking a slightly more responsible tack, announced this week that it also favors repeal of the statewide property tax, but endorses replacing at least some of the lost revenue with an increase in the personal income tax. Meanwhile, the property tax debate has spilled over into the gubernatorial election, with incumbent Governor Jim Douglas proposing a cap on local budget growth. A helpful overview of the Vermont property tax debate is here.