Governor should ground tax proposal

Governor should ground tax proposal

Gov. Jerry Brown wants to increase sales and income taxes in a quest to “find another $10 billion” in revenue. He will have to craft a plan soon to get it on the 2012 ballot. To help California’s struggling economy, any tax proposals should be rooted in sound economics, which appear to be lacking in the governor’s ideas.

When economists assess a state’s tax system, they look at three factors: tax burden, tax structure and tax distribution. California falls short in all three.

The typical Californian pays about 11 percent of their income for state and local taxes, the sixth-worst burden nationally. Forty-four other states have lower taxes, which puts California at a huge disadvantage in attracting human, physical and financial capital — the ingredients of economic growth.

At 10.3 percent, California imposes the third-highest top marginal personal income tax rate in the United States. Only Hawaii and Oregon have higher top rates at 11 percent.

California has the highest state sales tax rate at 7.25 percent and the second-highest combined state and local average sales tax rate.

California’s 8.84 percent flat corporate income tax rate is the highest corporate rate in the West and ninth-highest nationally. In fiscal year 2009, California’s corporate income tax receipts per capita were fifth-highest nationally.

And despite Proposition 13, California’s property taxes remain quite high. Property taxes as a share of homeowners’ median income were 15th-highest nationally in 2009.

So whether you’re a worker, consumer, entrepreneur or property owner, taxes are high in California. Adding another $10 billion burden, as Brown desires, would be rubbing salt in the wound. Instead, the tax burden should be cut.

California’s tax structure is also damaging. In fiscal year 2010, 63 percent of general-fund tax revenue came from taxes on personal and corporate income. Contrary to popular belief, governments don’t tax money, they tax activities.

When California taxes income, it is actually taxing work effort, entrepreneurship, investment, and saving — activities necessary for job growth. With California stuck at 12 percent unemployment, more taxes on income, as the governor is considering, is the worst possible approach.

Instead, California should change its tax mix toward consumption-based taxes — taxing what people take from society not what they contribute to society. Studies show income taxes impose an efficiency cost on society up to five times greater than consumption taxes.

The progressivity of California’s personal income tax is also a major structural problem. California imposes seven personal income tax rates, more than all but five states.

This progressivity disproportionately penalizes income-producing activities and helps drive California’s “revenue roller coaster.”

Progressivity magnifies the inflow of tax revenue during “booms” and exaggerates reductions in revenue during “bust years.” A single tax rate on consumption would smooth revenue over the business cycle (both because of the single rate and also because consumption tends to be less volatile over time than income). State budgeting would be more predictable with a shift in tax structure from graduated income taxes to flat consumption taxes.

Regarding distribution, in 2008, the richest 7 percent of California earners (adjusted gross incomes greater than $150,000) paid 71 percent of the entire state personal income tax. Ninety-three percent of earners paid only 29 percent. This lopsided distribution creates tremendous fiscal stresses because it produces a large group of Californians who pay little or nothing and, consequently, demand ever-more government spending. Brown’s recent proposal to increase the standard deduction would exacerbate the distributional problem.

California’s heavy tax burden, faulty tax structure, and lopsided tax distribution combine to put the state at a severe competitive disadvantage. When lawmakers talk tax reform, Californians should ask if the measure lowers the burden, lessens reliance on income taxes, reduces progressivity, shifts taxes toward consumption, broadens the tax base or spreads the distribution. If not, they should strongly oppose the measure. Californians have a duty to reject any proposal that makes current problems worse and prolongs the slump.

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Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.