SADOW: How Best To Proceed On Tax Teform

Gov. Bobby Jindal may not have gotten into public policy his version of tax reform, but he did make it into the one of the prime conversational items in this year’s session of the Louisiana Legislature. And now legislators seem cued to take it away in any of a number of directions, as they appear set to begin the discussion today. But which path would be the best?

With over two dozen proposals that do any or all of cutting of eliminating the corporate franchise tax, the corporate income tax, or the individual income tax, and raising the tobacco tax and the sales tax and/or extending its reach, and reducing tax exceptions, plus one renegade proposal to institute a statewide property tax dedicated to funding higher education, this menu demands sorting by best principles as revealed by research into economic behavior. And they are:

  • Broader, the better. Not only in an economic sense is this good, because it’s efficient, but in a political sense because as some people may end up paying more or who otherwise might escape it altogether, it gives greater incentive for them to get involved in governing themselves. You’re more likely to invest more time in evaluating the spending decisions made by government the more of your own resources are at risk.
  • Flatter, the better. The same principle applies here economically, as it means government does not take disproportionately resources from those who do the best job of investing those resources to contribute to society as a whole.
  • Simpler, the better. Reduction of exceptions and administrative superstructures to account for them makes investment decisions in the state easier to evaluate, reduces the cost of government, and discourages skewing of private sector decision-making in directions that are less likely to encourage overall economic growth in favor of fueling a special interest.
  • Least punitive, the better. Taxation that is nothing more than a money grab without a behavioral and financial purpose of expanding wealth for all defeats these purposes and makes for less coherent fiscal policy. Examples of shortcomings in part of current law are tobacco taxes merely for the sake of raising revenue that have no real relationship to the activity of smoking, the corporate franchise tax that is complicated in compliance and a deterrent to capital investing, and the corporate income tax, which reduces incentives to incorporate in order to find preferential tax treatments, raises the possibility of double taxation on dividends, interest, and capital gains, and is the least predictable of all forms of revenue outside of mineral excise taxes.
  • Revenue collection related to needs. A systems needs not to emulate the current paradigm where revenues available drives the roster of needs desired, but instead should do the reverse, where needs are identified and then revenues established to match. This likely means that some, perhaps all over time of individual income taxes can be reduced as revenue sources more logically get linked to needs and only genuine needs are funded.

Reviewing the pertinent numbers, the latest Revenue Estimating Conference numbers on which the budget is to be built accepted the forecast of $340 million in corporate income and franchise taxes, down $34 million from the actual fiscal year 2012 collections, individual income taxes of $2.6572 billion, up $189.1 million, sales taxes of $2.7108 billion, up $130.2 million, and tobacco taxes of $133.2 million, down $2.5 million; and the most recent tax exemption data showed roughly a third of potential individual income (worth $3.777 billion), sales ($3.874 billion), and severance taxes ($527 million) were exempted, altogether totaling over $8 billion forgone or an amount about as great as general fund revenues actually collected.

Keeping in mind those principles, the top priority would be to get rid of nearly immediately in entirety is the franchise tax and corporate income tax, at a current revenue cost of $340 million. Next, almost immediate imposition of a flat tax at the lowest rate of two percent on individual income, using the latest numbers and collection figures, would cost $928 million. Note also this would obviate all corporate income tax exceptions and make those geared to individuals less valuable to pursue. These would achieve the objectives of broader, flatter, simpler, and less punitive.

This creates a fiscal year 2014 “hole” of $1.268 billion. But to reduce confusion, it should kick in halfway through, to align with the federal tax year. While this delays the cuts six months, it does make things simpler. In essence, the hole for this upcoming fiscal year gets reduced to $634 million.

To begin to address this, the tobacco tax could be about tripled immediately without delay, although this will not bring in three times the revenue because of the dynamics involved, and dedicate this to unfunded accrued liability reduction in the state’s pension funds with a sunset in 2029. Let’s assume it about doubles revenue take, to $267 million, which otherwise is removed from the budget to pay down the UAL. With part of that now dedicated, it releases that much to make the immediate hit fall to $367 million, and makes it a less punitive, more constructive kind of tax that can get the two-thirds vote required for passage.

Then, as Jindal had proposed with the assent of the industry counting on the end of income taxation, the severance tax exemption can be halved now, producing $263 million more. It’s also a politically possible tactic to get the two-thirds vote needed, for what liberal Democrat could be against hiking taxes against oil companies?

Now for the upcoming fiscal year the gap is only $104 million. The political consensuses in supporting both the wasteful motion picture investor and solar tax credits seems to be crumbling to the point two-thirds majorities can excise these. While they will waste an estimated $180 million and $13 million, respectively, in forgone state collections under present rules, these figures must be adjusted in the case of the film credit by the typical 75 cents on the dollar they are traded for. Dump these two immediately, and the state is now $44 million to the good for FY 2014.

Of course, next fiscal year (2015) the entire $1.268 billion “cost” comes online and the tax shield value of eliminating the two credits gets reduced (because of a lower rate paid; most claiming these credits now pay that the highest rates that will be reduced by four percent). Assuming that’s now only worth $59 million, the freed revenue total for FY 2015 becomes $679 million.

But it’s here where the last principle comes into play, in a legislative year (2014) where tax matters can’t be dealt with in a regular session, through policy choices matching revenues to genuine need. There are several changes out there that can shave this total considerably, such as again waiving civil service employee salary increases and mandating they pay a greater proportion into their gravy train retirement plans that would bring their compensation more in line with that of nongovernment workers, reform of the Taylor Opportunity Program for Scholars to cap its maximum award, and quit paying nursing homes for empty beds. Together, these would bring roughly the gap to $325 million.

Keep in mind the extra economic activity produced by reform will eat away at that figure a little and increasingly so as the years go by. Costs also may continue to go up, but not likely as quickly as the additional revenues from a more efficient tax system designed to spur better economic growth. Assuming it’s the same figure, a funds sweep can take care of the rest – leading to the 2015 session where more tax reform can be accomplished by taking dedications that overfund that then requires funds sweeps and altering them to get more money into the general fund and away from low-priority purposes, and perhaps the investigation of a statewide property tax. Waiting for the next governor and Legislature to take office, then the biggest leap of all can be investigated – the end of the individual income tax.

(Alternatively, this year also could have reviewed the idea broached by state Rep. Chris Broadwater in HB 576 of levying a state property tax of 5 of the permitted 5.75 mills to pay for higher education, without that displacing other funds. But to reduce the $325 million the bill by as much as $195 million as written could not be dedicated and must be the full amount permitted constitutionally, and the political environment may not be adequately favoring this tax increase to garner a two-thirds majority, even if deferred until 2014.)

So how does the present passel of bills fit into all of this? Start with state Rep. Kirk Talbot’s HB 586, which does the flat tax delayed six months but sets the rate at 1.9 percent; amend it to 2 percent. Also take his HB 178, which has a delay of six months, which eliminates the corporate taxes. These require simple majorities to pass.

Next, take HB 574 by state Rep. Joel Robideaux, which increases tobacco taxes across the board, and amend it to dedicate it to paying down the UAL. Also take his HB 616 which addresses the severance tax and should reduce its exemption by around half. Finally, take state Rep. Roy Burell’s HB 444 and amend the two sections that sunset the film and solar tax credits sometime in 2015 and make them immediate (the bill also includes other proposed eliminations, some of which would be mooted by the ejecting corporate taxation and therefore should be amended out, but puts sunset dates on others, which could be retained). All of these would require two-thirds majorities to pass.

And there it is – five bills with only three receiving minor amendments. The numbers show it actually brings in more revenue the first year, followed by manageable gaps that over time should disappear given the economic growth it will spawn. Politically it’s possible because Republican majorities exist to pass the cuts, and enough Democrats will join to make the two-thirds majorities that push across the tobacco tax increase Democrats historically have stumped for, the raising of taxes on Big Oil far in excess of those raised on Big Solar, and elimination of the tax credit for film despised by the left.

That’s it. All that’s left is the foresight and courage to put Louisiana on the path to surer prosperity and progress, hopefully with the initial steps to begin today.

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