North Carolina continues to attract national attention for the success of its state-level tax reforms. That means new opportunities to promote key elements of the reform agenda.
This observer touted one of the least-publicized pieces of that agenda during a recent trip to Baton Rouge.
It’s no surprise that Louisiana policymakers might look to the Tar Heel State for ideas. “As I travel around the country, people say, ‘I want to be Texas. I want to be Florida. But I want to do it like North Carolina.’” Grover Norquist, president of Americans for Tax Reform, shared that observation during his latest conversation with Carolina Journal Radio. “What North Carolina has done is [it has] been a model for other states.”
The N.C. tax model certainly generated questions from Louisiana reformers. Taxes topped the list of items tackled during a March 28 policy summit sponsored by the Pelican Institute. That New Orleans-based think tank focuses on free-market, limited-government solutions to state-level public policy challenges.
Sitting alongside a top tax economist from the American Legislative Exchange Council, your author helped field 90 minutes of questions about taxation during the summit’s opening session. Afterward, one lawmaker took me aside to share details about his plan for reforming Louisiana’s personal income tax.
The Pelican State has a three-tiered tax system now. Taxable income up to $12,500 faces a 2 percent tax rate. The rate jumps to 4 percent for income earned up to $50,000. Beyond that threshold, the rate climbs again to 6 percent.
Republican state Rep. Jerome “Zee” Zeringue of Houma wants to simplify that structure. (His is one proposal circulating in Baton Rouge. Another bill incorporates a group of tax reforms mirroring Pelican Institute priorities.)
Just as North Carolina collapsed a three-tiered personal income tax structure into a single flat tax in 2013, Zeringue wants to eliminate all but one rate — 4 percent — for Louisiana. Though he would get rid of the lowest tax rate, no one would see a tax rate increase.
Rather than raise the rate from 2 percent to 4 percent on taxable income up to $12,500, Zeringue would eliminate state taxation completely on income of up to $12,500. In other words, he sets a zero tax bracket that extends up to the existing threshold for the 4 percent rate.
Our brief discussion in a Baton Rouge hotel ballroom did not delve into other details of Zeringue’s 16-page proposal. Nor did this layman attempt to offer the lawmaker detailed analysis. I did suggest that he consider highlighting the impact of his proposed zero tax bracket. That change could get lost in the debate about scrapping the top marginal rate of 6 percent.
The zero tax bracket recurs frequently during discussions of North Carolina’s flat-rate income tax. Those concerned that a flat tax forces low-income and high-income earners to pay the same tax rates tend to ignore the zero tax bracket. That bracket has a much more significant impact on tax burdens at the lower end of the income scale.
Individual taxpayers in this state will pay a flat 5.25 percent rate on this year’s income. An individual enjoys a standard deduction of $10,000, while a married couple filing jointly can deduct $20,000. That standard deduction effectively sets a zero tax bracket. For a childless married couple with no other deductions or credits, that means an income tax bill of $262 (an effective tax rate of roughly 1 percent) for $25,000 of household income.
The bill jumps to $5,250 (4.4 percent) for a similarly situated couple earning $120,000. A couple earning $1 million pays $51,450 (5.1 percent). In addition to the increase in effective tax rates as income level rises, the $120,000 household pays 20 times as much tax as the $25,000 household while making 4.8 times as much income. The $1 million household earns 40 times as much income as the $25,000 household and pays nearly 200 times as much income tax.
It is undoubtedly true that other exemptions and credits change those ratios. But if those changes benefit higher-income households or hurt lower-income households, then policymakers ought to consider changing the exemptions and credits — not the basic structure of the flat tax.
A zero tax bracket linked to a standard deduction helps individual taxpayers as well, although the effect is not as pronounced. An individual earning $25,000 would pay $787 (3.1 percent), as opposed to $5,775 (4.8 percent) for the $120,000 single earner and $51,975 (5.2 percent) for the single million-dollar earner.
Let’s apply Zeringue’s rate and zero tax bracket proposals to the same taxpayers used in the previous example. The individual with $25,000 in income would owe $500 (2 percent), the $120,000 earner would pay $4,300 (3.6 percent), and the million-dollar single taxpayer would face a tax bill of $39,500 (just under 4 percent). The $120,000 earner would pay more than eight times as much tax as the $25,000 earner. The million-dollar earner would pay nearly 80 times as much.
I reminded the Louisiana lawmaker that his zero tax bracket would ensure higher earners pay progressively higher tax rates. That’s true even though taxpayers would see only one flat rate. That fact could help him counter flat-tax critics’ standard argument that higher earners ought to “pay more” than those at the lower end of the scale.
One final observation: If Louisiana lawmakers adopt Zeringue’s ideas, that state’s flat tax rate will be roughly 25 percent lower than North Carolina’s. Its zero tax bracket will be 25 percent higher. The Tar Heel State might need to play catch-up.
Mitch Kokai is senior political analyst for the John Locke Foundation.