Tax wealthy at the risk of losing them from state

Tax Day arrived last week with Tea Parties and a flurry of conflicting stories on the plight of the American taxpayer. Locally, the Legislature’s $800 million tax hike served as the partiers’ political piñata.

More than usual, taxpayers are grumpy. The Pew Research Center finds only about one-fifth Americans say they trust the federal government, one of lowest confidence levels in five decades.

Despite designer-labeled gimmicks like the new “Making Work Pay” tax credit, two-thirds of Americans believe they are overtaxed, according to the latest Rasmussen Reports poll. It breaks down this way: 81 percent of Republicans, 73 percent of unaffiliated voters, and half of the Democrats.

Now consider this. The center-left Tax Policy Center reports that 47 percent of Americans pay no federal income tax at all. Although some critics faulted the reports for not including Social Security and Medicare taxes, including them doesn’t change the story much. The highest-earning 40 percent of U.S. households pay 86 percent of all federal tax liabilities (not just the income tax). The top 10 percent pay 55.4 percent. Those are the largest shares posted in three decades.

Curtis Dubay, an economist with the conservative Heritage Foundation, succinctly writes, “Passing the point where less than half of taxpayers pay (federal income tax) would mean a majority of voters could vote themselves more government benefits without incurring any of the costs.”

I can think of nothing more corrosive to civic unity than a tax system that exempts half the population from sharing in the common obligation to pay for public services. For good reasons, lawmakers this year largely preserved job-creating business incentives and avoided a general sales tax increase. If we had an income tax, though, I’m sure they would have jacked up rates on the wealthy. Once the tax is in place, as we see in California and Oregon, taxing the rich becomes the politically expedient move for revenue hungry legislators.

The short-term gain comes with long-term losses.

The Christian Science Monitor recently reported that eight of the nine states with “millionaire’s taxes” (high tax rates on the rich) lost population in the last decade. On the other hand, eight of the nine states without an income tax saw population growth. Jobs follow wealth.

It’s possible we’ll get a chance to vote on some form of a “high earners” income tax this fall. As I’ve said before, I don’t think Washington voters are in the mood for it.

Moreover, the fairness argument made by income tax boosters here looks much weaker when considered, as it must be, in the context of an integrated state-federal tax system. The progressive federal income tax essentially offsets regressive state taxes.

Besides, if lawmakers were as concerned as they profess to be about the impact of taxes on working families, they would have skipped the beer, candy and cigarette taxes, which fall hardest on lower income consumers. Exempting microbrews, even if it makes sense to help local producers, just looks bad.

The feds may also have reached the end of the progressive income tax line. As politicians have repeatedly relied on debt and deficits to disguise profligate public spending, the income tax as a percentage of the economy has fallen. The administration is looking for another way to tap the taxpayer.

Leading Democrats and Obama economic advisers endorse a value-added tax (VAT), a European-style revenue system. The discussion implicitly acknowledges that the burden of paying for expanded government will be borne by the middle class. The VAT is, essentially, a sales tax imposed at each stage of production — each time value is added to the product — ultimately landing on the final consumer.

It’s a bad idea. It poaches on the sales tax base, traditionally reserved for the states. Though largely hidden from the consumer, it’s regressive. Particularly when combined with the federal income tax, it is a ruthlessly efficient cash-generating engine that ultimately will expand, not shrink, government spending. And it’s imperative that spending be constrained.

Last week’s taxpayer rallies were about the future more than the present. More clearly than many political leaders, the tax protesters recognize that a reckoning is at hand. When it comes, they know who gets the bill.

Richard S. Davis, president of the Washington Research Council, writes on public policy, economics and politics. His e-mail address is richardsdavis@gmail.com.