The Blue Tax

Republicans have agreed to a tax increase of $800 billion over ten years as part of the negotiations regarding the so-called fiscal cliff. Even as Republicans refuse to call it a tax hike (“revenues,” indeed), there are better and worse ways to go about this unpleasant business, and one simple reform would raise all that money and more: eliminating the federal deduction for state and local taxes. While we would prefer no tax increase at all, eliminating this deduction would be a sensible reform of the tax code, and could be paired with tax cuts elsewhere for a fiscally neutral simplification of our byzantine tax code.

Estimates suggest that eliminating this deduction would raise as much as $900 billion over ten years, though it may well turn out to be less as taxpayers modify their behavior in light of the new incentives. That won’t balance the budget with deficits running that much or more every single year, but it is nothing to turn the national nose up at, either: $900 billion would completely offset the estimated deficit for 2013. Progressives should welcome eliminating the deduction in that the new tax burden would fall much more heavily upon those earning $200,000 or more. As Reihan Salam points out, households in the $200,000-and-up range would pay an average of $5,166 more without the deduction, while those in the $30,000-to-$50,000 range would pay only $70 more.

A tax reform that more than clears the $800 billion mark, falls most heavily upon the wealthy, and has the support of many conservatives: You would think that the Democrats would be quick to embrace such a thing. But to the great surprise of no one, the party’s house organ has editorialized against it. Writes the New York Times:

The theory behind the deduction was that the amount paid to states in taxes is not really part of an individual’s disposable income, because it is obligatory and, therefore, should not be taxed twice. Over time, the deduction has become the equivalent of a subsidy from the federal government to states that believe in a strong and active government. That may infuriate conservatives in low-tax states like Texas, who hate subsidizing states with different views of government’s role, but it’s actually a good thing for the country.

New York, New Jersey, and Connecticut are among the states with the highest taxes to deduct. Apparently it took a blow close to home to get the editors of the New York Times to notice the problem of double taxation, but then again the New York Times Company suspended its dividend payments back in 2009, so perhaps nobody over there is paying very close attention to the issue. (Chevron and PepsiCo investors will have meditated upon it.) The Times argues that states with income taxes serve their residents better than do states without them, and that the federal government should therefore continue to subsidize the aggrandizement of government at the state and local level.

The Times mistakes correlation for causality, as it usually does when it suits the editors’ politics. Yes, the average person living in Connecticut or Massachusetts remains better off across many metrics (health and education among them) than the average person in Texas or Oklahoma. There are many differences between the New England and Mid-Atlantic states and the deep South and Southwest, and the presence of state income taxes is not the most significant of them. People living on the Upper East Side of Manhattan have above-average incomes and education levels, too, and the city’s income tax has no more to do with that than does the fact that they pay very high rents, drink a great deal of coffee, and read Monocle.

Population matters. Texas, for example, has better standardized test scores for black, Hispanic, and white students than does Wisconsin, but it has lower average test scores across the population as a result of its different demographic characteristics. Likewise, residents of north Philadelphia pay the same wage tax as residents of Rittenhouse Square, but their health and education lags as far behind that of Philadelphia’s better-off residents as the living standards of people living in the South Bronx do those of the denizens of Fifth Avenue. Suburban New Jersey and urban New Jersey hardly feel like the same country, let alone the same state; the same goes for suburban and urban Maryland, Cleveland and its suburbs, interior and coastal California, etc. “Strong and active government” often is part of the problem.

It is impossible to imagine that anybody who ever has witnessed the sausage-making in Albany, Sacramento, or Trenton would wish to subsidize the process with federal money.

States without income taxes tend to have more economic growth and better employment prospects than do states with high income taxes, though that fact should not be oversimplified, either: Texas’s economic advantages include such things as a liberal regulatory environment and a relatively sane legal climate (and, don’t tell the holier-than-thou libertarians, several very large state-run universities producing a steady supply of skilled workers).

We note that the Times is here endorsing a regressive subsidy, one that showers benefits on high earners in states that are often themselves higher in income than the national average. We wonder which other regressive policies the paper might endorse in the interests of the nice people in Greenwich and Millburn.

We have 50 different states for a reason: Texas can have its low taxes and economic growth, and Connecticut can have its high taxes and lavishly subsidized abortions. But there is no reason for the federal government to subsidize Connecticut’s high taxes — or Texas’s crony-capitalist “economic development” schemes. The tax code is not here to provide a national carrot and stick. It is here to raise money, which Congress and the New York Times believe the government needs more of, so long as it does not derail any gravy trains in Albany or Sacramento.

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