March 27, 2007

Michigan: Ending the Pop-Up Tax?

Michiganders call it the "pop-up tax." It's what happens when long-time Michigan residents sell their homes. A home that generates, say, $1,000 in property taxes under its current owner suddenly incurs a much bigger tax, say $1,500, after it is sold to a new owner. Michigan lawmakers think there is something unfair here-- and they're right. Unfortunately, they've identified the wrong culprit: it's not unfair that the new owner pays $500 more-- it's unfair that the old owner paid $500 less.

The problem is that Michigan's property tax laws cap the amount by which a home's taxable value can grow from year to year at 5 percent or the rate of inflation, whichever is less. This means that for many homeowners, there are two very different measures of what their home is worth: what the real estate market says (market value) and what the tax system says (taxable value). In a booming real estate market, the 5 percent cap makes taxable value smaller than market value, creating a gap between the (smaller) amount of value you're taxed on and the (bigger) amount your home is actually worth.

And the longer you own your home, the bigger that gap becomes.

Why does Michigan's tax system work this way? The idea with assessed value caps is generally to ensure that homeowners won't face an excessive property tax hike in any one year. When Michigan voters ratified Proposal A back in 1994, this property-tax-cutting proposal included an assessed value cap that basically said no Michigander, at any income level, should have to face more than a 5 percent increase in their property tax liability in any single year for as long as they own their house. And since inflation has been well under 5 percent in almost every year since then, Michigan homeowners at all income levels have seen across-the-board cuts in their property tax liability.

But the free ride ends when you sell your house. As in virtually any other state that imposes assessed value caps, the gap between taxable value and market value goes away when a Michigan house changes hands. This makes perfect sense: after all, the point of the cap is to prevent a homeowner from being taxed out of their home due to big year-to-year increases in property tax liability. But that rationale disappears when homes change hands. In the example I gave above, it's hard to see why a new homeowner should inherit the $500 tax break the previous homeowner received. And, more generally, the best way to ensure that a property tax system is fair is to ensure that what you pay depends on what your home is actually worth.

From the perspective of the new homebuyer, of course, something seems unfair. Why are they seeing a $500 property tax hike? And that's the way the Detroit Free Press article linked above generally frames this question (although the article is pleasantly neutral in its overall treatment of this topic). But the real question is not why the new homeowner sees a $500 tax hike-- it's why the previous homeowner was enjoying a $500 tax cut.

The answer one legislator, Andy Meisner, has come up with is to make the tax cut temporarily transferable. Under Meisner's bill, HB 4440, if the seller got a $500 tax break in his last year in a home, the buyer should get to keep that tax break for his first 18 months in the home. But as a representative of the home builders industry helpfully points out in the FreeP's article, this would create an artificial and totally unjustifiable gap between the tax on existing homes and on new homes. (In the example above, suppose that next door to the home that should be paying $1,500 in tax (but is paying $1,000 thanks to the transferable tax cap), a builder puts up an identical house and puts it up for sale. The two houses are worth the same amount, but the new home will pay $1,500 in tax, while the existing home will pay only $1,000. This means the home builder will have to sell the new home for less than it's really worth just to stay competitive.)

The source of the unfairness here is the 5 percent cap itself. The cap amounts to asserting that no one, at any income level, can afford to see a property tax increase higher than the rate of inflation. While this is certainly true for many fixed-income families, the idea that it's applicable to upper-income folks is simply absurd. But the Michigan system persists in doling out excessive tax breaks to every homeowner-- and efforts to expand the tax cap's benefits by making them transferable will do nothing to make these tax breaks more rational or fair. What some Michiganders are pejoratively calling the "pop-up tax" is, in fact, an entirely justified correction in the tax system-- making an unfair tax less unfair.

The Michigan House passed Meisner's plan earlier this month, and the Senate is now considering it.

Of course, an 18-month solution-- however wrongheaded-- has the virtue of only being wrong for 18 months. But even if lawmakers in the Senate approve the Meisner plan, at the end of the 18 months the "pop-up" problem will still exist. Sooner or later, Michigan lawmakers will have to confront the inherent unfairness of the tax cap approach.

If Meisner's plan is wrong, what's a better solution? One good approach would be to further strengthen the state's property tax circuit breaker credit, which (unlike the 5 percent cap) is explicitly designed to shelter Michigan homeowners and renters from excessive property taxes. The circuit breaker's design asserts that when low- and middle-income Michiganders (for a married couple, someone earning less than $80,000 or so) face property tax bills that exceed 3.5 percent of their income, those property tax bills should be thought of as excessive. The circuit breaker rebates property taxes over the 3.5 percent of income limit.

But the credit has limits. It's capped at $1,200, and it only rebates 60 percent of the "excessive" property tax. Expanding the credit so that it rebates 100 percent of the excess tax, and increasing the cap, would be a good, inexpensive and targeted way of ensuring that middle-income Michiganders won't get taxed out of their homes.

March 23, 2007

Property Tax Issues and Options

In Kansas, two senators are championing a new amendment to the state constitution that would freeze the assessed value of a home upon the homeowner’s sixty-fifth birthday. The proposal, designed to help fixed-income seniors struggling with their property tax payments, is a popular one. While few would argue against the intent of the bill, however, some have doubts about whether the bill is the best way to achieve these goals.

The main criticism of the bill is that it is poorly-targeted. It would help all seniors, including the most wealthy, and not just those struggling to pay their bills. Notably, the AARP came out against the bill, saying “It's not that we aren't concerned about older Kansans and their ability to pay property taxes, we just believe property tax relief should be more targeted”. The issue is that, as the share of property taxes paid by one group (in this case, the elderly) goes down, the share paid by others will likely increase. In the article linked above, Randall Allen, executive director of the Kansas Association of Counties, explained it like this: "It's like a balloon. If you push one end down, the other naturally goes up. If the valuation is suppressed by artificial means, then the tax rate is going to go up because it has to generate the same dollars."

There are multiple ways to increase the cost efficiency of property tax reductions. Some have suggested that the measure should be tied to the value of the home, so that, for example, only houses valued at less than $200,000 would have their assessed value frozen. Such a move would make the amendment much less expensive to the state, while still helping elderly homeowners.

However, an even better solution would be to expand the current Kansas property tax "circuit breaker". A circuit breaker kicks in when property taxes exceed a given percent of the taxpayer's income, providing targeted relief only to those who need it. Circuit breakers directly tie the tax reduction to ability to pay the tax, making the measure much more effective for each dollar spent. For more information, check out the the latest report from the Center on Budget and Policies, which takes a hard look at circuit breaker programs across the country.

March 21, 2007

Republicans Accuse Democrats of Trying to Pay the Bills!

The conservative spin-machine is running at full-speed to portray the Democrats' decision to block additional deficit-financed tax breaks as wildly unfair and disasterous for the economy. (For background about the Congressional budget battle, visit the budget section of our Congressional issues page.)

Take this gem from the Wall Street Journal:

Senator Kent Conrad and his fellow Democrats proposed their five-year budget outline, or at least that part of it they're willing to discuss in public. Mr. Conrad, the Senate Budget Chairman, pulled off the neat magic trick of claiming his budget includes "no tax increase," even as it anticipates repeal of the Bush tax cuts after 2010.

Bull. The Democrats are not trying to repeal any Bush tax cuts. If only we were so lucky. The Dems may let some of the Bush tax cuts expire at the end of 2010, and it was the legislation enacted by the President and Congress during their six years of one-party control that contained that expiration date. The Republicans basically wanted to use procedural mechanisms (rules allowing approval of the tax cuts by a simple majority if they did not increase deficits outside a ten-year budget window) and also wanted to force the issue of tax cuts up for a vote again in the future. Whatever the motivations of the Republicans, they decided that their tax cuts would end at the end of 2010, so any extension of the tax cuts requires new legislation and constitutes new tax cuts.

And the Democrats are not even saying that tax cuts will expire. The budget approved by the Budget Committee in the Democrat-controlled Senate merely says that if the tax breaks are to be extended past 2010, Congress needs to find a way to offset that revenue loss (through decreased spending or increased revenues) rather than just increasing our borrowing.

The idea of borrowing the money to finance a tax cut is absurd and it's incredible that this rule, called pay-as-you-go or PAYGO, is even controversial. What's more incredible is the lengths the Republicans are going to portray this common sense policy as wild-eyed big government liberalism.

For example, the ranking Republican on the Senate Budget Committee, Judd Gregg (R-NH) was reported by BNA (subscription required) as saying

"The Democratic budget as proposed will increase taxes or revenues by approximately $916 billion. It will increase non-defense discretionary spending by approximately $140 billion."

The $916 billion estimate includes the expected five-year cost of extending the 2001 and 2003 temporary tax cuts, extending other expiring provisions, indexing the AMT for inflation, and the interactive effect of the AMT and rate changes.

So, if I get this right, the Democrats are being accused, in an outraged tone, of saying "no" to more borrowing? The Democrats are being blasted because they don't want to increase the budget deficit and the national debt?

The Myth of Bush's "Progressive" Tax Cuts

The Center on Budget and Policy Priorities has a great paper out refuting the claim made by the Bush Administration and its allies that the tax cuts enacted over the previous six years actually made the tax code more progressive. The richest Americans received the largest percent increase in income due to the tax cuts. The largest drop in federal income tax rates in percentage points went to the wealthiest one percent.

We might add that CTJ's latest figures show that if Congress went along with the President's budget proposal, over 50% of the benefits of the tax breaks will actually be flowing the to richest one percent. (Assuming that the AMT is "fixed," which the President's budget does not assume but which is likely to happen, over 53 percent of the benefits would still go to the richest 5 percent and over 40% of the benefits would still go to the richest 1 percent.)

So how can the administration claim that the tax cuts are progressive? Well, they've latched on to one particular statistic that really has nothing to do with the effects of their tax breaks: the percentage of income taxes paid by the richest one percent, which increased from 36.5% in 2000 to 36.7% in 2004.

The Center on Budget explains that this in no way shows progressivity in the Bush tax cuts.

1. The richest one percent saw their share of pre-tax income rise in those years, so of course their share of the income taxes paid is going to rise, and that has nothing to do with changes in the tax code.

2. Taxes paid by the wealthiest one percent did drop a great deal, and their share of income taxes paid was able to rise because the total amount of income taxes paid dropped.

3. These tax breaks are deficit-financed, and when you take into account how we're going to have to pay the bill at some point down the road, it's almost certainly the case that lower-income and middle-income people will lose out more.

A paper from CTJ made this point last year. We found that when you make some very basic assumptions about how the Bush tax cuts will eventually be paid for, that cost will be greater than the benefit Americans receive from the tax cuts. This is true except for the richest one percent, since their tax cuts were so huge and so much bigger than everyone else's.

There's one important point that I would add to this.

The fact that the richest one percent pay over 36 percent of the income taxes does NOT mean that our tax code is wildly progressive because this fails to account for all the other types of taxes - which hit poor people harder.

Social Security taxes, for example, don't even cover income beyond a certain cap (set at $97,500 in 2007) and only cover wages. For many poor and middle-class people, the payroll tax (which includes the Social Security tax and the Medicare tax) is the more significant (or the only) federal tax that applies to them. State taxes are often quite regressive, particularly sales taxes, which take a much larger percentage of income away from the poor and middle-class families than they take from wealthy families.

A couple years back, CTJ analyzed just how much of the total tax burden (meaning federal and state taxes, income taxes and other types of taxes) were paid by different income groups compared to their shares of total income. It turned out that the richest one percent of families had 19.1 percent of all the income in America and paid 20.8 percent of all the taxes in America. From that perspective, our tax system as a whole is essentially flat, or just barely progressive. It would be highly regressive if not for the progressive rates in the federal income tax that counter the regressivity of the federal payroll tax and many state taxes.

March 20, 2007

Can Nevada Offer Property Tax Reform lessons for Other States?

(For those who don't feel like reading below the fold, the quick answer to the title question is:no. At least, not good ones.)

Property tax debates are a striking regularity in states around the nation. But what's equally striking is that no one seems to be able to point to an example of a state that has confronted property tax reform in a universally acceptable way.

But the Miami Herald's Lisa Arthur thinks she's found the solution to states' property tax woes: just do what Nevada did back in 2005. To hear Arthur tell it, Nevada eliminated pretty much every property tax inequity one could think of:
Issue: Homeowners were about to be taxed out of their houses.
Solution: Tax bill annual increases were capped at the lesser of 3 percent or the rate of inflation -- no matter how high a home's value climbs.
Issue: Commercial property owners would shoulder an unfair tax burden without a cap. And as values on their properties and their taxes rose, they would pass the cost to renters.
Solution: Tax bill increases were capped at 8 percent annually for commercial property, including rental property. If a landlord could prove rents are at or below the fair market value set by the federal government, they get the 3 percent cap.
Issue: Snowbirds with second homes would get slammed unfairly if they didn't get the same tax breaks as full-time residents.
Solution: As long as they don't own another home in Nevada, out-of-staters with second homes get the same 3 percent cap as full-time residents. If they rent the home part of the year, the cap goes to 8 percent. If the rent meets the affordability definition, they get the 3 percent cap.
Issue: Newcomers to the state and first-time home buyers who bought into a hot market with escalating home prices would get hit with much higher tax bills than longtime homeowners in the same neighborhood.
Solution: In Nevada, the tax break stays with the property. The new home buyer inherits the seller's tax bill no matter how high the value of the property has climbed or what it sells for.
Put this way, Arthur's got a point. Pretty much every property owner in Nevada has protection against large tax hikes (where "large" means more than 3 percent a year). But Arthur is setting the bar pretty low for a successful property tax reform. Her benchmark appears to be that there's a mechanism restricting the growth of everyone's property taxes to something resembling the growth rate of inflation. Such an oversimplified benchmark overlooks two equally compelling (actually, even MORE compelling) objectives of property tax reform:
1) preserving adequate revenues. Capping everyone's property tax growth at 3 percent will make taxpayers happy, but only until they notice their schools don't have new textbooks anymore.
2) targeting property tax breaks to those who need them. Arthur recognizes the universal refrain of people "being taxed out of their homes," and clearly thinks preventing this is a good goal, but says nothing about the fact that simply capping the growth of everyone's property taxes is a remarkably blunt instrument for achieving this goal. If you're a fixed-income Nevada homeowner whose property taxes were unaffordable before 2005, the 2005 reforms don't help you.

Arthur is right in one important respect: if you cap everyone's property taxes, inequities in property taxes between different property owners will be less noticeable, and complaints about higher property taxes will likely diminish. But the part of the story she misses is that this goal comes with a price: a tax system that is more inadequate over the long run, and one that is even more divorced from ability-to-pay considerations than property taxes normally are. Fairness and adequacy are both important goals-- and the tax cap approach amounts to abandoning both of these goals.

It's understandable that Arthur, and other Floridians, are grasping at straws. Florida's property tax situation seems to be deteriorating by the hour. But here's hoping policymakers in Florida and around the nation check with a few Nevadans before they adopt Arthur's recommendations.

IRS in E-file Embarrassment

I have already argued at great length that the IRS should reform e-filing so that there is one government-provided portal that is simple and free for all taxpayers to use. What he have instead is a crazy situation in which several private companies collectively known as the "Free File Alliance" have contracted with IRS to provide online tax filing and it is currently not free for people with incomes over $50,000. Even we don't love doing our taxes so much that we want to pay to do them.

One member of Congress who feels the same way took the opportunity at a subcommittee hearing today to shine a light on the sort absurd things that happen when you give private companies what are fundamentally government tasks. At this morning's hearing of the Ways and Means Subcommittee on Oversight, Representative Earl Pomeroy (D-ND) told IRS Commissioner Mark Everson about a website,, that is clearly designed to fool people into thinking it is part of the IRS (whose actual website is

The website has links leading to offers for Refund Anticipation Loans (RALs) which are notorious scams that involve taxpayers receiving a loan that they will pay off, usually with ridiculously high interest, after they receive their tax return. One page on the site even shows that these loans can have an interest rate exceeding 93 percent. Congressman Pomeroy then explained that the site seems to belong to company called TaxACT (several, but not all, of the pages seem to indicate this) which happens to be one of the companies in the Free File Alliance!

The IRS actually stopped the Free File Alliance from offering and advertising RALs in the e-filing process. Now that it appears one of the companies is nonetheless involved in an egregious RAL, perhaps the IRS will feel some pressure to go further. Or, if more embarrassments like this materialize, maybe more people will swing around to the view that this is really not something that private companies should be providing in the first place.

March 19, 2007

Sales Tax Base Expansion: The Future of the Sales Tax?

Sales taxes are an important revenue source for almost every state in the US. However, in recent years, these taxes have been showing their age. When the majority of the state sales taxes were created in the 1930s, the majority of purchases made were on on physical goods, like a telephone or a radio. By 2003, in contrast, sixty percent of personal consumption was spent on services, but most states don't apply the sales tax to services. This omission hurts not just the states' financial stability , but also the fairness of their tax codes. It's probably not fair, for example, that in most states people who do their own laundry pay sales taxes when they buy a washer or dryer (a physical good), but people who have their clothes laundered by someone else (a service) pay no sales taxes at all.

The more goods and services the state sales tax applies to, the lower the sales tax rate can be to generate any given level of revenue. The political ramifications of taking on previously untaxed service businesses may make some policymakers wary. Nonetheless, as states shift from manufacturing economies to service economies, it's essential that tax structures change, too. Thankfully, some far-sighted lawmakers have seen the need for this important tax reform measure. Several proposals in states across the country look to include at least some services in the state sales tax base.

One component of an overall tax proposal in Maine would expand the sales tax base to include a variety of personal and real property services. In Maryland, a state house committee on Wednesday debated House Bill 448, which would expand the sales tax base to include luxury services like interior decorating and other personal services. In Michigan, Governor Jennifer Granholm has also proposed a measure to expand the sales tax base. Expect more states to follow in this increasingly popular (and long overdue) reform for tax adequacy and fairness. For more on the benefits of expanding the tax tax base, check out ITEP's policy brief.

March 08, 2007

Why I Don't Watch CNBC

...Because they allow people to spout drivel like this:

KUDLOW: Gentlemen, can you give me a lightning-fast one thought response ....
on... AMT reform.
Mr. STEVE MOORE (The Wall Street Journal):
Well, Bob Reich, this is a big, big tax time bomb that's about to explode. But I don't understand the politics of this, Larry. I mean, this is the Democrats' problem. They created the AMT 30 years ago. Bill Clinton raised the AMT back in 1993. Bill Clinton vetoed a bill that would have repealed the AMT back in 1999. This is Charlie Rangel's problem. It's Hillary Clinton's problem. Why would George Bush come up with proposals? I want to see what the Democrats come up with.
These are serious, serious charges. Let's take them in order:
1) "They created the AMT 30 years ago. " Absolutely true, but hardly something to be ashamed of. The Democrats did, in fact, create the AMT back in 1969. It was designed to act as a backstop to the regular income tax, to ensure that a small number of super-wealthy tax avoiders paid their fair share. And it did a bang-up job.
2) "Bill Clinton raised the AMT back in 1993." This is your classic half-truth. President Clinton did push through an increase in the AMT rate-- as an eminently sensible accompaniment to an increase in the regular top rates. The two tax structures (regular and AMT) were calibrated to work in tandem. To keep these parallel structures working in tandem, the rates ought to follow each other: if the regular rate goes up, the AMT rate should to. Moore conveniently omits this fact, and also forgets to mention that Clinton shepherded through an increase in the AMT exemptions to help shelter middle-income people from the AMT. Did I say "half truth?" This is a third of a truth, max.
3) "Bill Clinton vetoed a bill that would have repealed the AMT back in 1999. " See point #1. He vetoed it, and he was right to veto an effort to simply repeal this important backstop to the regular tax.

Equally frustrating is that the talkshow guest spouting this claptrap, the Wall Street Journal's Stephen Moore, was paired with a lefty adversary, Robert Reich, who certainly knew that Moore's blame game exercise was nothing but spin-- and chose not to debunk Moore's arguments. Why? He was too busy trying to say something entertaining. Reich and Moore are apparently regular guests on Kudlow's show-- Kudlow refers to them as his "dynamic duo" repeatedly-- so the two of them have to work together and riff off each other. It's not a debate-- it's performance art.

You can scream at the TV all you want, but it won't stop the lies.

And that is why I don't watch CNBC.

March 06, 2007

South Carolina: "Cockamamie Reasoning" on Cigarette Tax

The Greenville News' Paul Hyde wants to see a cigarette tax hike in South Carolina-- and wants to see it fail:
Some opponents of a cigarette tax — here in South Carolina, for instance — have argued, lamely, that the cigarette tax shouldn’t be increased because the state would come to rely on a tax revenue source that’s bound to decline...The obvious response to that argument is: So what if the tax declines? It’s undoubtedly a good thing that fewer people would be smoking.
States also may see a decline in some health-care costs related to smoking. So the decline in cigarette tax revenues would not matter that much. Based on the experience of other states, South Carolina could expect cigarette tax revenues to decline. State leaders could plan accordingly.The decline in revenues would be slow and cigarette taxes represent only a small portion of the state budget.
Hyde is right about one thing: forward-thinking lawmakers ought to be able to see the long-term decline of cig tax revenues coming. Lawmakers who've got their eye on the long-term sustainability of South Carolina's fiscal structure should recognize that the cig tax is a quick fix that will need to be supplemented in the long run-- useful to help achieve the dual purpose of discouraging teen smoking and bringing in a few bucks in the short run, but not a long-term solution.

This is all true-- and if state lawmakers are really thinking in terms of a two-part strategy (cig tax now, structural tax reform later on), then it's not the worst idea ever. But how many lawmakers in South Carolina (or in any other state) are that forward-thinking? Most observers of state tax politics would probably agree that state lawmakers aren't thinking ten years down the road-- they're thinking about how they can get through the current fiscal year while ruffling the fewest feathers. They'll absolutely take the cigarette tax revenues if they can get them now, but won't use this short-term fix as a springboard for longer-term reform.

If Hyde overestimates the willingness of lawmakers to think long term, he completely ignores the question of popular support for tax hikes. Even in the best of times, there is a limited appetite for tax hikes-- lawmakers only get so many chances to reform the system, and if elected officials use their political capital to push through a cigarette tax hike this year, it will be that much harder for them to enact needed structural tax hikes next year or the year after. In year 2 or year 3 after a cig tax hike, lawmakers will have to explain to voters that the first tax hike they enacted wasn't enough, and that they have to do another one.

This is the sort of thing that breeds anti-tax sentiment, and it's the main reason why lawmakers should think long-term, not short-term, when dealing with tax increases. They may only get one bite at the apple.

It's nice to see that Hyde is confident in the political will and long-term vision of South Carolina lawmakers and voters. Here's hoping he's right on both counts.

"Funny Money" in South Carolina Budget Proposal

"Put your money where your mouth is." As a guide to everyday life, this hoary old phrase means simply that if you believe in something, you should be willing to act on that belief. In politics, the implication is that if you think a state spending program is worth funding, you should figure out a way to pay for it. The editorial board at the State newspaper calls South Carolina lawmakers to task for not following this adage in their proposed budget:

Ask most House members about the budget they’ll debate this month, and chances are good they’ll rattle off a list of popular new programs the bill includes...What representatives probably won’t tell you is that they’re only committed to funding those programs and positions for one year.

Oh, they’ll probably pay for them next year too — if our economy keeps growing at a steady clip. But if things slow down, those programs and all the people who will have
been hired to carry them out — and many more — are toast. That’s because the Ways and Means Committee’s budget pays for them with nonrecurring, or one-time, funding. Unlike recurring money, which is what economists expect our current taxes to generate next year, this is money that has already been collected, but not spent; in other words, it’s money no one can realistically expect to be available in future years — money that should be used to buy school buses or pave roads or take care of other one-time purchases.

Using nonrecurring money to pay for recurring programs is one of the most irresponsible things our lawmakers do. And they do it year after year. That’s the main reason we had to lay off government workers and slash our Highway Patrol and our prison staffs and industrial recruitment efforts to the bone at the turn of the century: The economy tanked, and the irresponsible budgeting caught up with us.

The House's "funny money" approach is mirrored, of course, in Governor Mark Sanford's proposal to fund income tax cuts (which will cost more and more each year) with a cigarette tax hike (which will bring in less and less each year). So House budget writers are, at least, in good company. But South Carolinians should recognize that for all the good and productive areas of public investment the House budget has identified, it's all smoke and mirrors until the legislature--and the governor-- puts their money where their mouth is.

March 05, 2007

North Carolina: Easley Tax Plan Too Good to Be True?

Another entry in the "no-tax floor" sweepstakes this week-- and a harsh reminder of the limitations of this approach to low-income tax relief. North Carolina Governor Mike Easley released his budget proposal for the upcoming fiscal year last week. The headline, from a tax perspective, was a plan to cut income taxes for more than a million low-income families. As the Asheville Citizen-Times covered it:
More than 1.2 million North Carolina taxpayers will get a break if Gov. Mike Easley’s budget proposal released on Thursday becomes law. Easley wants to eliminate the state income tax for nearly 600,000 low-income taxpayers and cut taxes in half for an additional 630,000.
Here's the Greensboro News-Record on how the plan would work:

Those who would pay no income taxes under Easley's plan include single people who make less than $5,000, married couples making less than $10,000 and those filing as head of household making less than $7,500.

Those who would have their income tax bill cut in half include single people making between $5,00 and $12,500, married couples making between $10,000 and $25,000 and heads of household making $7,500 to $20,000.

This all sounds great. But the folks at the North Carolina Budget and Tax Center put their heads together and figured out that the numbers didn't quite add up. In particular, BTC researchers noticed that the folks who would be "taken off the rolls" under the Easley plan are, in large part, paying no income tax to begin with.

Look at married couples: Easley proposed to exempt all married couples earning less than $10,000 from income tax. This is great-- but it's already part of the tax law. A married couple with no kids can claim a standard deduction of $6,000 in 2007, plus a $2,500 exemption for each spouse, which means a total of $11,000 of income is sheltered from tax. A couple with kids currently enjoys an even higher no-tax floor.

You can do the same math for single people (Easley proposes a $5,000 floor; current law gives singles a $3,000 standard deduction and a $2,500 personal exemption, so singles already have a $5,500 floor.) and heads of household. So, the BTC folks sensibly asked, if married couples, singles, and heads of household aren't being taken off the rolls, exactly who is? The answer, according to an ITEP analysis: dependent filers. Kids with lawn mower money and/or trust funds, as well as elderly dependents. And a lot less of them than Easley's office has claimed. A BTC report released today spells out the details.

None of this is to say that Easley's plan is a bad one. The early press on the BTC report screams that Easley's plan is "flawed," but the most important flaw is in the administration's math. The goal of reducing incomes taxes on low-income families is a fine one, but the administration seems to have made a few math errors in constructing their claims about it.

The BTC report identifies a number of ways in which Easley could make his income tax plan better targeted, most important of which would be making any low-income credits refundable. This means that the credit could be used to offset not just income taxes but the sales and property taxes that hit low-income working families the hardest.

If the design problems with the Easley plan take the wind of the administration's sails, that would be a shame. The BTC's report has more good than bad to say about Easley's plan, and the administration's heart appears to be in the right place.

But the Easley plan does raise important questions about the "no-tax floor" approach to low-income tax cuts. Focusing on "taking people off the rolls" arguably puts too much emphasis on reducing a low-income family's income tax from $10 to zero, and does nothing to solve the much more important tax problems facing such families, primarily sales, excise and property taxes. A quick glance at the North Carolina result from ITEP's Who Pays report shows that the income tax is the least problematic tax out there from a tax fairness perspective.

Here's hoping BTC's eagle-eyed number-crunching leads to a better result (say, an EITC for North Carolina) rather than deep-sixing Easley's stated goal of providing low-income tax relief.