September 18, 2012
September 18, 2012
Patrick Emerson PhD ,
OSU Economist
Oregon Economics Blog
I am following with some interest the latest foray in to state ‘tax reform’ by the governor. I think it is a good time to repeat what I have said and documented in these pages many times: A sales tax will not provide revenue stability in any significant way. This is not hard to see, just look across the Columbia and you will see a sales tax dependent state that is struggling with revenues as much or more than is Oregon. No surprise this as income and consumption are very highly correlated.
But Oregon is much less tax friendly to small business. The gap arises in large part because of the way small businesses are structured and the way Oregon taxes the two most common types of corporate structure.
Traditional corporations pay corporate income or excise taxes. Those rates top out at 7.6 percent. Many small businesses are structured as what the Internal Revenue Service calls S corporations. These businesses do not pay corporate tax, but owners, whether a sole proprietor or shareholders, pay taxes at the personal income tax rate. Owners of sole proprietorships and partnerships also pay at the individual rate. In Oregon that rate tops out at 9.9 percent.
Um, what? If I am a small businessperson and my income comes from the revenues of my business, why should that income be taxed at a lower rate than someone who works for a third party? They say earlier that:
The amount of taxes paid by businesses varies widely, according to circumstances. For example, Oregon’s lack of a sales tax improves its score in tax rankings, but sales taxes are a relatively small expense for many businesses.
But this is nonsense – if I am a small businessperson, I pay an income tax on the income I earn from my business, just like everyone else, but then I don’t have to pay a consumption tax so my overall tax burden is quite modest, just like everyone else. Comparing the individual income tax rates to those of C class corporations makes little sense. Those corporations pay lower taxes, but their employees pay income taxes.
Which is really all to say that don’t fall into the trap of thinking of a sales tax as that much different from an income tax, you have to think of these two together when thinking of the overall tax burden on individuals.
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I believe the best solution is a constitutional amendment holding state government spending and revenue collection to a certain fixed percentage of state Gross Domestic Product (say calculated on a rolling 5 year average). This would more firmly place state government on the same page as its people than is currently the case, as state government would have most incentive to foster economic growth at lowest cost and set away rainy day monies. Currently, local and state governments both seek to expand by raiding the stagnating incomes and wealth of its people, putting state government on a different page than people.
One reason the governor is looking at tax reform, other than he loves big government and top down economics (thinking he’s better than the tattered history of centrally planned economies); is local governments have raised property tax rates so much over the course of the past two decades they now are encountering “tax compression” what with real market property value assessments having dropped for some homes with the housing meltdown. However, compression should be easing soon as housing prices begin to recover allowing property tax revenues to grow at the routine 3% per year allowed under property tax law.
So, government should live within existing tax rates rather than raiding the incomes of financially struggling Oregonians, and tax compression should start easing for local governments soon (especially with the U.S. Federal Reserve providing record amounts of monetary stimulus).