On Wednesday, the Senate Finance committee heard presentations that made the case for more changes to the state’s tax code. While beginning with many of the economic realities in North Carolina—stagnant and falling wages, persistently high poverty, and slow growth— the presentation prescribes the wrong medicine: more cuts to the income tax in favor of applying the sales tax to more goods and services.
It’s a surprising conclusion to reach as prior “reform” efforts based on income tax cuts for the wealthy and profitable corporations have not allowed North Carolina to invest in the state’s economic recovery. It’s even worse with evidence mounting that shifting more of the tax load onto average people is causing real damage.
It’s clear that more tax cuts for the wealthy and profitable corporations aren’t the best tools to address the economic issues highlighted in the presentation. Tax cuts do nothing to address the fact that workers aren’t seeing their wages grow, despite increasing productivity. Tax cuts that primarily benefit the wealthy and profitable corporations do not help alleviate poverty. Instead, such an approach jeopardizes the ability of the state to invest in pathways to opportunity—the schools, research and development, and business start-ups that create a vibrant economy.
We have long advocated for tax reform, and a genuine and thoughtful plan to modernize our tax code is still needed today – not in spite of 2013 tax changes, but because of them. But shifting the state away from the income tax to rely more on sales taxes, as the leadership presented yesterday, will make things worse, not better. It will not help address the ups and downs in revenue collections and will mean that everyday North Carolinians carry more of the tax load while wealthy taxpayers get a tax cut. This is especially true if such tax shifts don’t seek to offset a greater reliance on sales tax with a strong state EITC.
Here is what should be the focus of legislators’ reform efforts:
- Maintain a personal income tax and base that tax on ability to pay. Historically North Carolina’s personal income tax has yielded state revenues that have kept better pace with the growth of the state’s economy and residents’ incomes. Personal income tax revenues have outperformed other, more volatile sources of tax revenue and have enabled North Carolina to better meet demand for public investments and services for the state’s growing population, including in public education, physical and mental health services, and public safety. In contrast, the adoption of a lower, flat income tax has significantly reduced state resources for these areas. By reinstating a tax system that applies a different tax rate to dollars earned above certain income levels and maintaining some of the changes that broadened the income subject to that tax rate, they state would have an additional $390 million for these core public services. And, any potential short-term, recession-triggered volatility in the income tax can be addressed with a strong Rainy Day Fund.
- Expand the base of the sales tax to services, but do so to reduce the rate of the sales tax, not the income tax. Sound tax policy calls for modernization of the state sales tax, which currently exempts many goods, services, and growing industries without reason, such as dry cleaning and landscaping. The service industry is a growing area of the economy and applying the sales tax to more services ensures that our tax code is in line with a changing economy. Some of the revenue gained from a sales tax expansion could be used to drop the overall sales tax rate, rather than to pay for income tax cuts.
- Include a strong Earned Income Tax Credit. Any further expansion of the sales tax should only be done alongside the re-establishment of a state Earned Income Tax Credit (EITC) for working families. A sales tax expansion would hit low-income families the hardest since they spend more of their limited disposable income on necessities than better-off households. The EITC is a proven way to combat poverty and gives children from low-income households a better shot at climbing the economic ladder addressing many of the issues that motivated the presentation in Senate Finance. The state EITC should be large enough to ensure that the tax load doesn’t further shift to middle- and low-income taxpayers when the sales tax is expanded. Furthermore, revenue gained from a sales tax expansion should be used to pay for the state EITC, not income tax cuts.
- Eliminate tax breaks that fail to deliver on economic goals. Special tax breaks for corporations and high-income taxpayers cost North Carolina tens of millions of dollars every year in lost revenue. Yet, most are never evaluated on whether they are meeting their goals, such as job creation or other measures of economic development. Nearly half of companies receiving tax credits designed to spur economic development in North Carolina actually experienced a decline in employment from 1996 to 2006, according to an analysis by UNC-Chapel Hill’s Kenan-Flagler Business School for example. Similar analysis is needed to assess other tax breaks and subsidies, like preferential tax rates for boats and planes. If there is evidence that they are ineffective, legislators should eliminate them.