Tax reform season is upon us.
With his press conference at the Legislative Building Tuesday, Senate President Pro Tem Phil Berger, R-Rockingham, started what will likely be the most contentious legislative debate in decades.
Tax reform will set Republicans against Republicans and businesses against businesses. Community groups and non-profits will form strange alliances, and North Carolinians who pay little attention may soon find that an arcane tax debate affects their family budgets.
For more than 20 years, legislators, business leaders and pundits have been calling for state tax reform. There are many reasons why.
The prevailing argument for reform is that the current tax system, created in the manufacturing and agricultural economy of the 1930s and tweaked incessantly since, does not align with the economy of 2013.
Primarily, the sales tax is fully applied to all tangible goods sold in the state unless a specific law exempts those goods from the tax – agricultural fertilizer – or lowers the tax rate – food. The sales tax does not, however, cover services unless a specific law includes a service, such as cable TV.
The problem is obvious. The sales tax, which produces more than one-quarter of state revenue – approximately $5.3 billion a year – does not cover the growing services economy but does cover the shrinking tangible goods market.
The state’s corporate income tax was created in an age when multi-state corporations were less dominant; therefore, calculating a corporate tax bill was straightforward. Today, giant multi-state corporations create collection problems in North Carolina. In short, today’s income tax law does not align with today’s corporate structures.
And, then there is the problem with the franchise tax and how it does not cover the growing number of limited liability companies.
The bad alignment of tax law to economy is like a bad alignment in a golf swing. One bad thing leads to many other bad things.
First among them is the unfairness of the current tax system. Some businesses get huge tax breaks because one session of the legislature decided to tweak the law in their favor. Or, as service providers, they need not collect sales taxes on their fees. Or, they get tax incentives to operate here while other businesses pay higher taxes to make up for what the incentivized company didn’t pay.
In short, it is a system where there are a lot of winners and a lot of losers, all in defiance of the state constitutional mandate for fair and equitable treatment of taxpayers.
The poorly aligned tax structure also leads to unreliable tax collections. One year the state treasury is up, the next year it is down. We even have an informal nickname for the state’s revenue flow — the “April surprise” – because the Department of Revenue can’t reliably predict collections until late April.
Well-run $20 billion-a-year institutions don’t typically get surprised by revenues just nine weeks before the end of their fiscal years.
Then there is the spending side of the problem. Our tax system encourages bad spending practices. In boom years, legislators spend every dime. In bust years, they start cutting programs, not always cutting the best programs, just those that have the least political support at that moment. The unreliable revenue flow, which emanates from an out-of-date tax structure, has led to unstable tax rates and uncertain government services.
Tax reform, as we note above, won’t be easy to accomplish. We can count at least seven other attempts in the past 20 years. But it is needed.