An Extreme Tax Makeover for Washington?

An excellent op-ed in today's Herald-Bulletin gives options for reforming Washington's tax system. The main recommendation, from author Marilyn Watkins, is, in some ways, quite ambitious:

How about a new high income tax that exempts the first $200,000 of family income, then begins at 3 percent and jumps to 5 percent on incomes over $1 million? It could be coupled with a reduction in either the sales or property tax. That way, most families would see their total tax bill decline. Only four out of 100 households would pay the new tax, and it would be those that have seen their incomes grow fastest and their federal taxes fall the most in the past decade.

Watkins herself describes this as not very ambitious at all, and she's right in the sense that much broader reforms are needed to bring Washington's tax system into the 21st century. Sadly, these ideas are politically very ambitious, and they shouldn't be.

November Initiatives Could Ding State Budget

The ink is not yet dry on the ballot initiatives that will face Washington voters this fall. For tax and budget watchers, that means the jury's still out on whether two budget and tax related measures will qualify for the ballot. But the bad news is that either of them would cost a bundle.

One proposal, authored by anti-taxer Tim Eyman, would not directly cut taxes, but would earmark some existing revenues:

Eyman's measure, in part, would direct 15 percent of all taxes collected on the sale of new and used vehicles into an account that would support traffic programs to synchronize traffic lights, open car pool lanes and pay for more highway crews to clear accidents.

This, of course, would reduce the pot of revenue available to fund all other priorities.

So if Eyman wants to pay for new spending priorities without a tax hike, is this a pain-free move? Eyman thinks so:

Eyman said he's comfortable paying for the measure by cutting whatever the Legislature decides are its lowest priorities.

But given recent forecasts that the state faces a six-year budget deficit of $2.7 billion, it's worth asking whether the legislature's "lowest priorities" will already have gone under the knife by the time Eyman's initiative takes effect.

Earmarking revenues for specific spending needs, as Eyman's initiative would do, is generally a bad idea because it reduces the flexibility of lawmakers to allocate monies as they see fit. In the context of a looming budget shortfall, it's even worse-- because it allows voters to address spending shortfalls in specific areas without having to identify what "low priority" spending areas should get the shaft.

If more revenue for transportation is needed, it should be up to the legislature to find it. It may well be that the best way to fund transportation is to take money away from other spending areas rather than by enacting a tax hike-- but elected officials are paid to make exactly this sort of hard decision. They should do so instead of shunting off these decisions to voters.

P-I Editorial Board: Raise the Federal Gas Tax

Yesterday's lead editorial in the Seattle Post-Intelligencer makes the case for a higher federal gas tax, arguing that a hike of up 50 cents per gallon could be necessary. The rationale?

A federal gas tax increase of 50 cents or more would assure that there will be a market for new technologies.

Unpacked, this means that paying 50 cents a more for regular gas will make people a little more inclined to investigate alternatives. Those alternatives may still be more expensive than conventional gasoline-powered cars, but they'll be a bit less expensive.

And this seems obviously true. There are three caveats for Washington state consumers, though:
1) Inevitably, a gas tax will hit low-income families hardest. In the state that already has the most regressive tax system in the nation, this is no small concern.
2) From a different fairness perspective: as a nation, we've spent the entire Interstate Age encouraging people to live a spread-out lifestyle focused on the automobile. Cheap gas and free highways have made suburbanization happen. Suddenly hiking the gas tax amounts to pulling the rug out from under folks for who living in the suburbs is currently affordable. Nothing less forever, and people have to have known this, but it's still worth remembering that some low-income people would have to uproot because of such a change.
3) All you have to do is read the headlines this week to know that people are quite sensitive about gas prices. This means there's probably a cap on how high gas taxes can go before people start saying no. And if the feds impose a new 50 cent tax, that will make it much harder for Washington lawmakers to find political support for an additional state gas tax. In this light, Washington policymakers should be keeping an eye on federal activity on this front so they can stay in front of the federal trend.

You don't have to have a pessimistic view of human nature to believe that the only way humans are gonna reduce their reliance on fossil fuels is if you just beat them over the head with a (metaphorical) stick of this kind. It's simply too easy, even at $4 a gallon, for most people to maintain their car-centric lifestyle. So the P-I is probably right in their call for a higher gas tax.

But Washington policymakers should start thinking fast about whether such a move would paint the state's already-distorted fiscal structure further into a corner.

Washington Has a Rainy Day Fund

The budget signed into law by Washington Governor Chris Gregoire this week includes a provision creating a rainy day fund. The new law requires lawmakers to deposit 1 percent of general fund revenues into a special rainy-day account each year. The money's not in a proverbial lockbox-- lawmakers can still use the money any time they want to as long as 60 percent of the legislature agrees, and when the economy goes south a simple majority is all they need to do so--but the creation of a regular source of inflow to this fund creates an important symbol for lawmakers.

To find out more about rainy day funds, check out ITEP's policy brief here.

Who Pays the B&O Tax?

With more and more states discussing, or even enacting, gross receipts taxes, there's a growing focus on who really ends up paying this tax. Most people agree that Washington's Business and Occupation (B&O) tax generally gets passed on to consumers in the form of higher retail sales prices. But a new state court ruling reminds Washingtonians that it doesn't always have to be this way.

The Court's ruling basically reaffirms what people have always said about the B&O tax, which is that it's absolutely OK for businesses to pass on the whole tax to consumers by increasing their retail prices, but also affirms that it is absolutely not OK for businesses to treat the B&O tax like a sales tax and actually tack it on to the final sales price of, say, a car.

This is exactly what Appleway Chevrolet tried to do to Herbert Nelson when he bought a used Volkswagen Cabriolet. After Appleway and Nelson agreed on a sales price, Appleway then added the B&O tax on top of it-- effectively making it a sales tax. The amount in question is not large (the B&O tax the dealership added was about $70), but the principle is clear. The $70 B&O tax the dealership paid is a cost of doing business. They could have increased the asking price of the car by $70 to effectively pass it on to Nelson, but once they set the price they were no longer able to tack it on.

The exception in this case only serves to prove the rule: despite the legal fact that businesses pay the Washington gross receipts tax, Washington consumers effectively pay the tax every time they make a purchase in Washington State. It's an invisible sales tax.

Washington Booze Taxes: A Little Bit Lower

On June 30, 2007, the state excise tax on liquor sales will be a little bit lower. A temporary tax of 42 cents per liter expires at the end of this biennium. The temporary tax, which brought in just under $10 million a year, is peanuts in the grand scheme of things: in fiscal year 2004, Washington collected about $190 million in alcoholic beverage taxes.

And state taxes are only part of the picture. Washington is one of less than 20 states that are "control states," meaning the state government is in charge of selling alcohol to consumers. Control states typically charge consumer not just a state excise tax, but also a "markup" that takes the place of the profit-seeking markup on booze purchases in non-control states. The $190 million in excise taxes for FY04 is dwarfed by the $400 million or so in "markup" revenues the state collected that year. (Although it's unfair to think of the entire $400 million markup as a government "tax"; some, if not all, of that markup would end up as profit for liquor store owners if Washington allowed private companies to sell liquor.)

Why worry about this? For starters, liquor taxes are regressive, hitting low-income Washington consumers much harder, as a share of income, than middle- and upper-income families. To be sure, alcohol taxes, like cigarette taxes, serve a social function, helping to reduce consumption of the taxed item. But for those who still choose to imbibe, it's the low-income drinkers who will be hit hardest.

And most observers of Washington's historical tax policy debates will suspect that the real reason why Washington relies so heavily on alcohol taxes-- and has chosen to balance its budget in recent years through temporary tax hikes on alcohol like the one scheduled to expire on June 30-- is because lawmakers have refused to discuss bringing the tax system into the 21st century by introducing a broad-based personal income tax. From this perspective, the expiration of this $10 million excise is a good thing simply because gives policymakers a chance to get this choice right the next time the economy slows down, and enact tax hikes based on the defensible principle of "ability to pay" rather than the indefensible principle of "screw the poor."

Tobacco Lobbyists Take Aim at Snuff Tax

If you don't know exactly what "snuff" is, you're probably a happier person for it. It's a form of non-cigarette tobacco product that (apparently) the kids in Washington State just love. And state lawmakers have heard plenty this spring about how snuff ought to be taxed.

The issue: right now, Washington taxes snuff based on its value. Any non-cigarette tobacco product faces a Washington State tax equal to 75 percent of its value. The problem with this, according to lobbyists for the fancier brands of snuff, is that it amounts to a "tax subsidy" for cheap snuff. If you buy snuff that costs (making this up) $1.00, the tax on snuff is 75 cents. But if you buy snuff that costs $2.00, the tax is double that-- $1.50. Therefore, the lobbyists say, the current tax structure gives snuff consumers an incentive to buy the cheap stuff. The alternative, as proposed in SB 6092, is to impose the same $1.88 tax on each ounce of snuff sold. So the cheapest and swankiest snuff would face basically the same tax.

The only problem with this is that value-based taxes are a pretty good idea-- and economists routinely point out the shortcomings of per-unit taxes like the one SB 6092 would impose. The main problem is that collections from a per-unit tax will only increase when consumption increases. And if current smoking trends are any indicator, snuff consumption is probably not gonna increase any time soon.

Value-based taxes, on the other hand, automatically grow with prices and with the economy. So as snuff prices grow with inflation, state revenues from the current snuff tax will grow too. From a revenue perspective, then, the proposed tax shift seems like a bad deal in the long run.

From a prevention standpoint (usually just as important on tobacco tax issues), it's hard to know what the impact would be. A tax change that make low-quality snuff more expensive and high-quality snuff less expensive will definitely make people less likely to use the lousy stuff. But it's hard to know whether it will discourage snuff consumption in the aggregate. A lot probably depends on whether underage kids (always the target population for prevention efforts) tend to use the cheap stuff or the expensive stuff.

But this sure sounds like a sop to lobbyists for the high-end snuff-makers. It means more tax will be paid on cheap snuff, and less tax will be paid on the good stuff. One guy offering testimony described it aptly:

T.K. Bentler of the Washington Association of Neighborhood Stores said the proposal was no different than shifting the tax burden on a $1 million house to someone with a $250,000 home. “It just doesn’t make sense from a policy perspective why you want to shift that burden,” Bentler said.

Car Tax Lessons for Washington?

No tax has been more vilified in Washington than the late, great "car tax." So it's interesting to see a form of car tax being floated as a local revenue-raising option in Indiana.

The developing debate over how Indiana local governments ought to be funded has centered, so far, on the local property tax and the conditions under which locals should be allowed to levy income taxes to pay for property tax cuts. But there's a new game in town: Rep. Chet Dobis suggests allowing local governments in northwestern Indiana the option of levying a "wheel tax" of up to $50 per vehicle to pay for an expanded commuter rail system.

As a fellow Dem, Rep. Linda Lawson, helpfully points out, the car tax "is one of the most hated taxes... the people in my community... would be just outraged if we gave them another tax." And that certainly seems to be true wherever you look. Opposition to the car tax almost single-handedly got former Virginia Governor Jim Gilmore elected and helped to give California Governor Gray Davis the boot. And if Connecticut voters aren't currently buying Governor Jodi Rell's plan to repeal that state's car tax, it's not because they like paying taxes on their cars.

But that's not, in itself, a sufficient reason to deny the car tax a place in a state's revenue system. Anti-tax sentiment is easy to channel, and the ease with which the car tax can be vilified is at least partially due to the number of syllables it takes to pronounce it. ("no car tax," "no death tax," "no food tax," all lend themselves very well to soundbites and slogans.)

You can also make a good case that a properly functioning property tax should take account of all kinds of property that most states currently don't tax, whether it's your car or your stock portfolio or that $3,000 Rolex. Property is wealth-- plain and simple. When states decide (as most have) that they're not gonna tax the value of your Rolex or your car or your stock portfolio, what's left is the one kind of "wealth" that is least recognizable as such-- homes. For many people, homes aren't a luxury and they aren't wealth-- at least not usable wealth.

So I've got a fair amount of sympathy for recognizing that the property tax should apply to things other than homes. Having said that, the wheel tax proposal seems like the wrong way to go, for three reasons:

1) The proposed wheel tax would be a flat-dollar amount. Maybe $10, maybe $50. But the biggest Bentley would pay the same tax as the tiniest Toyota. By comparison to the more sensible approach of taxing cars based on their value, the wheel tax proposal would be sharply more regressive-- a much worse deal for low-income families-- because $50 is a much bigger share of income for someone earning $10,000 a year than for someone earning $100,000 a year.

2) Car taxes can be written off on your federal income taxes (if you itemize) if they are based on the value of the car. If they're just a flat dollar amount, they can't. So the choice to impose the flat wheel tax basically means deciding that Indiana doesn't want the federal government to pick up part of the tab. A flat-dollar wheel tax leaves federal money on the table.

3) A "flat-dollar" tax is about as slow-growing a revenue source as you can invent. The only thing that can make revenues go up from year to year is an increase in the number of cars. (By contrast, income and sales tax collections increase, more or less, automatically with inflation.) The amount this tax brings in from each existing car actually shrinks a little bit each year: $50 a year in 2007 is worth a little bit less, after inflation, in 2008, a little bit less in 2009, etc.

As another lawmaker points out, Dobis deserves "all the credit in the world" for bringing up what is being described as a "political third rail." (Seems like Indiana has more third rails than the New York subway...) And it would be a good thing if this proposal resulted in some enlightened deliberation over the future of Indiana property taxes. But it's certainly not the fairest-- or most sustainable-- way to fund Indiana's transportation funding needs.

Of course, Washington has retreated pretty fast from its car tax: the former annual 2.2 percent statewide tax on a car's value got repealed more than six years ago, although some local value-based taxes remain in force. But it would be nice if the ongoing property tax debate could be extended to think more generally about what the property tax really ought to apply to. It's hard to argue that cars universally ought to be excluded from taxation.

For a bigger-picture study of Washington's property tax, check out this report from the Washington Budget and Policy Center.

The "Circuit Breaker" Solution

At the state capitol, the property tax reform ideas are flying fast. But one of the best ideas-- a property tax "circuit breaker" credit targeted to fixed-income families-- is getting less ink than it should. A new policy brief from the Washington State Budget and Policy Center will hopefully help change that.

The brief shows that a circuit breaker credit could help reduce property taxes for low-income Washingtonians by up to 15 percent without further endangering the state's ability to fund public services.

Read it on the Budget and Policy Center's website here.