Yes. A graduated tax plan is fairer — and in use in most states
By RALPH MARTIRE
According to polling data, most voters expect state government to: provide a quality public education, care for vulnerable members of society, make infrastructure investments that promote economic growth, and provide safe, clean communities. The catch is, taxes pay for the services residents demand. This is a significant catch indeed, since no one really likes paying taxes, and for that reason, elected officials avoid the subject as if it were a virulent disease.
In Illinois, this neglect has been anything but benign. As it turns out, flawed tax policy is the common denominator behind many of the most vexatious challenges confronting state government today — from its recurring General Fund deficits, to its outsized, $132 billion plus unfunded pension liability and woefully — as in over $7 billion —underfunded education system.
Ah, but there’s hope. Illinois has a new governor — JB Pritzker — who’s advocating the Illinois Constitution be amended to reform, of all things, tax policy. Specifically, the governor wants to remove the Constitutional restriction that state income taxes be imposed at one flat rate across all income levels, and instead allow said tax rates to correspond to ability to pay. Hence, higher income levels would be taxed at a higher rate than would lower income levels. This is known as a “graduated” income tax. It’s also sound, fair, modern tax policy.
First, consider fairness. It’s textbook tax policy that a fair tax varies based on ability to pay — imposing greater burdens on more affluent than on low or moderate income folks, when tax burden is measured as a percentage of income. This venerable principle goes all the way back to 1776 and Adam Smith, the father of capitalism. Smith, in his seminal work, the “Wealth of Nations,” wrote that tax policy in a capitalist economy should “remedy inequality of riches as much as possible, by relieving the poor and burdening the rich.”
Smith posited that having the affluent shoulder a greater tax burden than other income classes was the fair way to tax in a capitalist economy, because the wealthy would receive a disproportionate share of income growth over time. An analysis of IRS data by Professors Piketty and Saez shows Smith was right. Indeed, they found that after inflation, 108.4 percent of total personal income growth — or more than all of it — went to the wealthiest 10 percent over the 1979-2015 sequence. That means fully 90 percent of all income earners in America averaged earning 8.4 percent less in real terms in 2015 than in 1979.
To respond to that reality and be fair to taxpayers, Illinois needs the flexibility to tax lower levels of income at lower rates and higher levels of income at higher rates — something the state Constitution prohibits. This makes Illinois a tax outlier. Thirty-three of the 41 states in America with an income tax, or 80 percent, have a fair, graduated rate structure. Illinois is one of only eight that doesn’t. That’s a primary reason Illinois consistently ranks as one of the five most unfair, regressive taxing states in the country — imposing tax burdens as a percentage of income on low- and middle-income families that are more than double the tax burden imposed on millionaires.
That’s not only unfair, it also makes no fiscal sense. To work fiscally, taxes have to respond to where the economy is expanding, not contracting. Focusing taxes on low- and middle-income families, a demographic that’s losing income in real terms over time, means tax revenue growth can’t keep pace with economic growth. Hence, not having a graduated rate income tax has contributed significantly to Illinois’ long-term structural deficit.
A “structural deficit” exists when, adjusting solely for inflation and population change and assuming a normal economy, revenue doesn’t increase at a rate sufficient to maintain current service levels from year-to-year. Illinois has had a structural deficit since at least the late 1970s. That means without adding or expanding one service, Illinois’ General Fund nonetheless generates annual deficits that grow over time.
As for deficit scolds who claim Illinois has a spending not a revenue problem — there’s simply no data to support their claim. Since 2009, Illinois General Fund spending on the core services of education, healthcare, social services, and public safety is down by over one billion dollars — without adjusting for inflation. Meanwhile, Illinois ranks last in state workers per capita nationally — despite having the sixth-largest population. The only meaningful increase in spending since FY2000 has been for repaying the pension debt Illinois incurred over the last three decades to disguise its structural deficit.
And no, raising taxes won’t scare millionaires away and won’t tank the state’s economy—in fact it will probably help it. Here’s why. No peer-reviewed study has found that tax policy has a statistically significant correlation to migration choices. Housing costs, location of family members, weather and job considerations are what matter. As for killing the economy, well, the Institute of Tax and Economic Policy in D.C. found that from 2006-2016, the nine states in America with the highest marginal state income tax rates had better growth in state GDP per capita and median wages, and lower unemployment rates, than the nine states in America that have no state income taxes at all — including Texas and Florida.
In fact, given that nine out of 10 workers are earning less today in real terms than 30 years ago, using a graduated rate structure to cut their taxes means they’ll likely spend what they get in tax relief buying stuff in the local economy, since their income-based purchasing power has been declining and they don’t have the capacity to save. This will stimulate economic growth, because around 68 percent of all economic activity is consumer spending. Meanwhile, focusing an income tax increase on wealthier folks won’t diminish their spending, given the dramatic real growth in income they’ve realized over time. The bottom line is clear: Going to a fair, graduated rate income tax will be a positive step forward for Illinois.
Ralph Martire is executive director of the Center for Tax and Budget Accountability and the Arthur Rubloff Professor of Public Policy at Roosevelt University. He can be reached at [email protected]