Policy Advocates Blinded By Desired Outcomes

Posted by Bob Lord

Citizens for Tax Justice does great work. Virtually all of their research papers and policy statements are spot on.  But not this one: State-by-State Figures on Obama’s Proposal to Limit Tax Expenditures.

The tax code is wildly rigged in favor of those at the top. There is no question in my mind that the wealthy should pay more in taxes, not just because we need the revenue, but because we'll never reverse the massive concentration of wealth and income at the top unless the tax rates at the top increase significantly.

So does that mean any proposed tax increase that would be borne disproportionately by the rich is a good idea? Absolutely not.  

In its report, CTJ analyzes the effect of Obama's proposal to limit the tax benefit of the deduction for state and local taxes, charitable deductions and certain other deductions to 28%. This would reduce the federal tax benefit of the deduction flowing to taxpayers whose marginal tax bracket is greater than 28%. 

Although the CTJ report is not a position paper, the clear implication left is that the Obama proposal makes sense because it would raise much needed revenue and would impact only those at the top 3.6% of taxpayers. 

But unfair tax increases are bad policy, no matter how uniquely they impact those most able to pay. And the Obama proposal, when applied to the deduction for state income tax, is flat out unfair.

In essence, the Obama proposal says that whatever income goes to the specified deductions, including state income tax, will be taxed at the taxpayer's marginal rate, but will generate a deduction as if the taxpayer were in the 28% marginal bracket. Thus, in the case of state income tax, a taxpayer who is in the top bracket, 39.6%, will pay tax at an 11.6% rate on the income he pays over to his state to satsify his state income tax liability. So, if he pays $10,000 in state income tax, he'll pay $1,160 in federal income tax on the income used to pay that state income tax, even though he never sees the income or exercises any control over it.

That's absurd. A taxpayer has no control over his state income tax liability. He gets no economic benefit from the payment of state income tax. A resident of California who makes $540,000 and pays $40,000 in state income tax is no better off, economically, than a resident of Florida resident who makes $500,000 and pays no state income tax. But under the Obama proposal, the California resident would bear a heavier federal income tax burden, if everything else were equal.

In this regard, the Obama proposal makes no more sense than partially denying a business a deduction for the amount it pays to its workers. It's an artificial inflation of income, plain and simple.

Want to make it easier for ALEC to make mischief at the state level by getting conservative legislators to reduce state income tax rates at the top? Then the Obama proposal is for you.

Ironically, the CTJ Report confirms how the Obama proposal would impact wealthy taxpayers state by state. No surprise here. Residents of states that impose higher income tax rates, like New York, Maryland and California, would be impacted in larger numbers than residents of low or no income tax states.

Now, consider that the high income tax states generally pay more in federal tax than they receive in federal benefits, while the low and no income tax states generally receive more in federal benefits than they pay in federal tax. How does the Obama proposal affect that imbalance? it very obviously makes it worse. That's bad tax policy at work.

To be fair, the CTJ report does acknowledge the argument in favor of keeping the deduction for state income tax where it is, but only in the last paragraphs. And their email blast announcing the report fails to mention any arguments against the Obama proposal:

The most significant revenue-raising proposal in President Obama’s fiscal 2014 budget plan, which he delivered to Congress on April 10, is to limit the tax savings from itemized deductions and certain other deductions and exclusions for high-income taxpayers. The limit would be 28 cents for each dollar deducted or excluded and would raise more than half a trillion dollars in needed revenue over the upcoming decade.

A new report from Citizens for Tax Justice (CTJ) analyzes the proposal and models its effects on taxpayers nationally and state-by-state. Findings include:

– Only 3.6 percent of Americans would receive a tax increase under the plan in 2014, and their average tax increase would equal less than one percent of their income, or $5,950.

This is a shining example of policy advocacy guided by outcome, not by good policy.