Tax Analysts Blog

Have State Income Taxes Run Their Course?

Posted on Jan 23, 2013

Both the corporate and individual federal income taxes turn 100 this year, and many in the tax community are taking this momentous occasion to question whether either tax still works in the modern economy. (Tax Analysts is having a conference on a similar topic in the coming months. Details will be available soon.)

Unfortunately, federal tax reform is unlikely; a few state governors seem to be asking the same question of their state income taxes. Most notably, Louisiana Gov. Bobby Jindal has proposed eliminating the state’s corporate and individual income taxes as well as the franchise tax. According to sources in the state, this is not just a proposal the governor is floating. Gov. Jindal is serious about his proposal and will stand behind it.

Gov. Jindal is not alone. Nebraska Gov. Dave Heineman, in his state of the state address on January 16, called for the elimination of the individual and corporate income taxes. The governor said, “Our current tax system needs to be modernized and transformed. It’s been nearly 5 decades since Nebraska had a serious debate about our overall tax system. Life has changed drastically since the 1960s, when we were operating in a completely different economic environment.”

North Carolina Gov. Pat McCrory (R) said in his inaugural address on January 12 that “Government must work with business as partners-- not against them as adversaries-- to identify and eliminate burdensome taxes, rules and regulations that stifle economic growth.” Republican lawmakers in the state already have a plan to revamp the state’s tax system, which would include eliminating the corporate and individual income taxes, and replacing the lost revenue with a new business license fee and expanding the sales tax.

Kansas Gov. Sam Brownback (R) recommended in his state of the state address on January 15 that the state “take another step on our path to no state income tax” by reducing the current income tax brackets of 3 and 4.9 percent to 1.9 and 3.5 percent, respectively. Finally, Oklahoma, which tried to eliminate its income tax last year, might consider trying again.

If any states are successful at eliminating their corporate or individual income taxes, they would join seven other states that have done the same. But, of course, no state can eliminate a major revenue stream and not replace it. For example, Gov. Jindal has indicated he would raise the sales tax by 2 percent across the board to pay for the elimination of the income taxes.

The corporate income tax is inefficient and a not sufficiently stable source of revenue for states. It should be eliminated. The individual income tax is likewise not a particularly stable source of revenue for states, and while counterintuitive, progressive tax systems do not work well at the state-level. Income redistribution, to the extent that it should be a goal at all, should not be undertaken at the state-level. So in a perfect world, yes, the state individual income tax should be eliminated as well.

A colleague recently noted (though speaking of the federal income tax) that there is an inherent limitation in the income tax because it is tied to labor and capital, both of which are increasingly mobile. But given that the public views progressivity as important (regardless of whether it works at the state-level) and a progressive income tax as fairer than a regressive sales tax, it seems unlikely there will be broad popular support for any effort to eliminate state income taxes.

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