I’m no mind reader. So it’s hard to tell whether a recent attack on proposed N.C. tax cuts represents a case of willful ignorance or deliberate misdirection.
Either way, the jab from a vocal left-of-center advocacy group demonstrates a poor understanding of the state’s tax system.
Here’s the basic critique: Lowering North Carolina’s personal income tax rate would “disproportionately benefit the rich.” The poorest 20% of state taxpayers would see “a shocking zero percent” of the benefit. Meanwhile, three-quarters of the reduction would benefit the “richest 20%” of income earners. As a kicker, “the wealthiest group, the top 1%, would see their tax bill plummet by almost $16,000.”
Answering this critique requires some basic understanding of North Carolina’s personal income tax structure.
First, and most important, we have a flat-rate tax. Any income subject to taxation faces a tax of 5.25%. Without any other deductions or credits, this means a household earning $10,000 in income would face a tax bill of $525. Households with five times as much income — $50,000 — would face a tax liability of $2,625 (five times $525). Households with 10 times as much income — $100,000 — would face a $5,250 tax bill (10 times $525). Those earning 100 times as much — $1 million — would owe $52,500 (100 times $525).
Note that under this simplified version of North Carolina’s system, the $1 million household owes 100 times as much tax as the $10,000 household, 20 times as much tax as the $50,000 household, and 10 times as much tax as the $100,000 taxpayer. Those with higher incomes pay a proportionally larger bill to fund the same state government.
Pool the tax bills of the four taxpayers together ($60,900), and you’ll see that the $1 million household covers more than 86% of the tab. The $100,000 taxpayer covers less than 9% of the cost, the $50,000 taxpayer more than 4%, and the $10,000 household less than 1%.
I mentioned that this is a simplified version of North Carolina’s system. Two other key provisions of existing state tax law improve the picture for those at the lower end of the income scale.
The first is the standard deduction. It’s sometimes called the zero tax bracket. This is a set amount of money subtracted from your income before you calculate your tax bill. Under current law, that deduction stands at $10,750 for a single taxpayer and $21,500 for a married couple.
If we treat our four households above as married couples, the impact is significant. The $10,000 household now owes zero state income tax. (Couples earning up to $21,500 owe no income tax at all.) The $50,000 household owes $1,496. That’s 43% less than the bill with no standard deduction. The $100,000 household owes $4,121 (a 21% reduction). The $1 million taxpayer owes $51,371 (2% reduction).
Each household owes less, but the impact is more dramatic for those with less income. Pool the tax bills together again ($56,988), and the $1 million taxpayer now pays 90% of the bill, with the $100,000 taxpayer paying 7% and the $50,000 household less than 3%.
Add kids to the mix, and the benefits are even greater for those with lower incomes. The other key provision of existing tax law allows married couples with up to $120,000 in income to claim deductions for their children. Deductions can be as large as $2,500 per child, with the benefit phasing out as income grows.
We’ve already shown that our $10,000 household owes zero state income tax. Under current law, a married couple with two children owes zero tax on the first $26,500 of income. A family of four with $30,000 owes $183. Adding two children to our $50,000 household leads to a tax bill of $1,286. For the $100,000 family of four, the tax burden is $4,016. The $1 million family of four sees no difference from a childless couple at the same income level. Both households owe $51,371.
This is all part of the existing state tax system. The state Senate’s proposed changes, under attack now from the political left, would skew the tax burden even more in favor of those with lower incomes.
The flat tax rate would fall immediately from 5.25% to 4.99%, eventually dropping again to 3.99%. The standard deduction would grow by $2,000 for individuals and $4,000 for married couples. The child deduction would grow by $500 at each step of the current sliding scale. Married couples earning between $120,000 and $140,000 could claim a $500 per-child deduction for the first time.
A family of four’s threshold for zero tax burden would climb from $26,500 of income to $31,500. That move would wipe out the current $262 tax bill for families at the new threshold, along with the income tax burden of every family in the state earning between $26,500 and $31,500.
Regardless of the political left’s complaints, no one should find it “shocking” that taxpayers with the lowest incomes see no change. They were already exempt from income taxes. The Senate would extend that exemption to cover more taxpayers.
Yes, those with higher incomes would see larger dollar amounts of tax relief. But that’s because they pay much larger tax bills under the current system. No family of four making up to $31,500 would owe a dime of state income tax under the Senate plan.
For a family slightly above that threshold ($35,000), today’s tax bill of $446 would drop to $139 by the time the flat rate dips below 4%. That’s a 69% reduction in the family’s state income tax bill.
For our $50,000 household, the bill would drop from $1,286 to $778 (a 40% reduction). The $100,000 family would see its bill drop from $4,016 to $2,852 (29% reduction). For the $1 million household, the bill would drop from $51,371 to $38,882 (24% reduction).
Yes, the $1 million family would see a larger tax cut dollar for dollar. But its relative tax burden would grow compared to those at lower incomes. Under current law, the $1 million family earns 28 times as much income as the $35,000 household and owes 115 times as much income tax. Under the Senate plan, the $1 million household would owe 280 times as much as the family with $35,000.
As for the “plummeting” tax bill of the highest earners, we should note that a taxpayer would have to make roughly $1.28 million to secure a $16,000 tax cut. Even with the cut, a taxpayer with that income would owe more than $50,000. That’s $50,000 more than any family of four making up to $31,500. It’s 360 times as much as the $35,000 family.
Perhaps critics have not taken time to study the Senate tax plan. Once they examine the facts, their claims about disproportionate benefits fall flatter than the flat-rate tax.
Mitch Kokai is senior political analyst for the John Locke Foundation.