Gov. Ducey says to think big but acts small on taxes
On tax reform, Gov. Doug Ducey says to “think big.”
However, if one of the goals is to reduce the economic damage from Proposition 208’s high marginal income tax rate, Ducey is actually proposing to act small. And tactically wayward.
Proposition 208, approved by voters last November, establishes a 3.5% income tax surcharge on individuals earning more than $250,000 and couples earning twice that. The proceeds are earmarked for K-12 education.
The surcharge is in addition to the previous maximum rate of 4.5%, giving Arizona a top marginal rate of 8%. That’s one of the highest in the country, and well above that of our neighboring states, excepting California.
Arizona has had one of the best performing economies in the country, measured by personal income and job
growth. As a general rule, states with high marginal income tax rates lag the national average on these scores. There are exceptions, but there’s little reason to believe that Arizona will be an exception rather than the rule.
So, there is stirring interest in doing something to counteract the anticipated negative effect of Proposition 208 on Arizona’s economy.
Ducey and Republican lawmakers are talking about “tax reform.” They claim that the motivation isn’t to counteract Proposition 208, but it clearly is.
And they shouldn’t be coy about it. The negative consequences of one of the highest marginal tax rates in the country should remain on the public policy agenda, despite Proposition 208’s narrow approval.
In his budget, Ducey creates a placeholder of $200 million a year for tax cuts for each of the next three years, for a total of $600 million.
That sounds like a lot. But even if directed entirely at the high-income earners subject to Proposition 208’s surcharge, it wouldn’t fully offset it. The Legislature’s budget staff estimates that the surcharge will bring in around $827 million a year.
Politically, the tax relief won’t be aimed entirely, or even primarily, at the high-income earners subject to the surcharge. It will have to be across the board, offering relief to all income brackets.
Spread that way, Ducey’s placeholder amount wouldn’t have much of an effect on rates. The $200 million would reduce existing rates by less than two-tenths of a percentage point. The full $600 million would reduce them by roughly half a percentage point.
So, after three years, Arizona’s top marginal rate would be only reduced from 8% to 7.5%. Arizona would still have one of the highest marginal tax rates in the country. We would still have a much higher rate than our neighboring states, except California. All of the anticipated negative economic consequences of Proposition 208’s surcharge would remain.
Truly thinking big would involve respecting Proposition 208’s commitment to more K-12 education funding, but exceeding it from tax sources that don’t have same threat to the state’s economy that the surcharge poses.
This column has been floating ideas about how to do that for several years now.
A 1% sales tax would raise around $1.2 billion, or nearly $400 million a year more than Proposition 208.
The current sales tax is, as a general proposition, limited to the final sale of a retail good. That’s a relatively slower growing sector of the economy. Expanding the sales tax base could bring in big bucks.
For a really big think, the state’s income and sales tax could be replaced with a business gross receipts tax. The state could reap all the money it is currently receiving, and then some, with a low, single-digit rate.
Economists right and left tend to agree that the best tax regimen consists of low rates on broad bases. Nothing would meet that criterion better than a business gross receipts tax.
There is a political opening for a grand bargain on tax reform and state finances. Proposition 208’s additional funding for education probably can’t be spent without the Legislature passing a one-year exemption from the state Constitution’s aggregate K-12 spending limit and referring a permanent exemption from the limit to the ballot.
Most of the education establishment sat out the Proposition 208 election. Combining more money from less economically damaging sources with aggregate spending limit relief has the potential to obtain the support of a broad coalition.
An attempt should be made not only to think big, but act big.
A 1% sales tax would raise around $1.2 billion, or nearly $400 million a year more than Proposition 208.