Oregon Business Taxes - A Comparison

The talk of the effects of the tax measure on business location goes on and speculation about businesses fleeing continues to crop up - something I blogged about not too long ago.  So it is interesting to see a new Ernst & Young report, commissioned by the Council on State Taxation.  In it, they do an interesting thing, try and see how much businesses play in a state relative to what they receive in state services.  Here is their description:

An Alternative Measure of Business Taxation

This study provides estimates of the taxes paid by businesses in each state, an important first step in any evaluation of short-run business tax changes or longer-run tax reform. To enable comparisons across states, the study also expresses business taxes as an effective tax rate on private sector economic activity (taxes as a share of gross state product).

...

The basic rationale for business taxes, recognizing that the economic burden of business taxes are ultimately borne by consumers or owners of factors of production (including workers), is to pay for government services that directly benefit businesses. This section provides a comparison of business taxes to these benefits in each state.

If state and local business taxes were equal to the value of the benefits business received from state and local public services, they could be considered a payment for services and taxes would not influence business location decisions or impact competitiveness. However, if state and local business taxes exceed the value of the benefits received from government services, the difference represents an excess cost to business that will reduce profitability in the absence of shifting the tax through higher prices or lower payments to labor. When such excess costs exist, they can affect a company’s choice of locations.

To estimate these excess costs, the estimates begin with state-by- state estimates of state and local spending that directly benefits business, which were developed by economists at the Federal Reserve Bank of Chicago with an adjustment to the education spending component to reflect the uncertainty about who benefi ts from education expenditures, business or households. Due to the large expenditures for education in every state, the ratio of business taxes to government expenditures for services benefiting business is sensitive to assumptions about who benefits from public spending for education. The estimates presented in this study present a range of estimates, assuming that 0%, 25% or 50% of education expenditures directly benefit business.

In nearly every state, the business tax burden exceeds the value of government services that
directly benefit business, regardless of the assumption made about education spending.

Except, of course, for Oregon which offers businesses one of the best values for money of any state in the Union. Only Maryland and Nevada offer a better ratio. Here is the figure (this is tax-benefit ratio, so lower numbers mean more benefits per tax dollar):

The darker bar assumes that businesses receive about 50% of the benefits of education expenditure.  This seems reasonable to me-educated people make up the workforce.  In this metric businesses recieve more in the value of the services provided to them by the state than they pay in taxes.

And what of business taxes overall?  Well Ernst & Young measured total business tax as a percentage of Gross State Product (GSP) - the value of all the goods and services produced in the state - and found that Oregon is in a three way tie for the lowest in the country.  So according to E&Y we have the lowest business tax burden in the country (Delaware and N Carolina are the other two):

Now, these figures are for fiscal year 2009, so Oregon's relative position will slip but, at least according to E&Y, we have one of the most business friendly tax structures in the US.

Fred Thompson: Once More on Taxes, Oregon and Economists

Note, this document with tables and was long and complicated to plunk directly into the blog, so I had to resort to Scribd.  


Fred Thompson checks in with some final thoughts on the tax battles...

Fred Thompson 4/6/10

Oregon's New Taxes and Economic Growth

The anti-tax forces are coming out full force to try and defeat the legislature's new taxes. I don't like what the legislature did - squandering perhaps the best opportunity to enact wholesale tax reform in favor of some band-aid, narrowly targeted new taxes - but I support them nonetheless as I believe the reality of deep cuts (in K-12 education particularly) would have been much worse for the future of the state.

There is no doubt that taxes are distortionary and create dis-incentives: in this case dis-incentives to start and invest in businesses and to locate and work in the state. Income taxes are particularly sensitive in this case, as Oregon already has some of the highest in that nation. By being an outlier, Oregon stands to loose out on skilled and entrepreneurial people who choose where to live (an argument for the diversification of revenue streams). Randall Podenza makes a good case against the taxes by emphasizing the dis-incentives that they create. Though I have some quibbles, particularly in looking at developing countries and their corporate tax rates and levels of investment - this is apples to oranges, and studies that show that taxes are distortionary are not particularly novel or helpful. The key is the cost of the distortion v. the cost of inaction in the face of a revenue crisis.

This is what is missing from this analysis: we understand the potential costs of the taxes, but what of the benefits (or perhaps more accurately - what of the costs of not adequately funding state services, particularly education)?

The rhetoric of the anti-tax types is now rising to absurd levels. Take, for example, today's op-ed in the Oregonian by Robert Millen, in which Mr. Millen paints a gloom-and-doom scenario: a little extra tax burden on top income earners will cause them to flee the state and destroy Oregon's economy! Please.

Millen states: "Recent studies indicate that this has occurred in the high-tax states of New York, Connecticut and New Jersey, all of which have experienced a net loss of high-income earners and the jobs their businesses generate." Which is a rehash of one of the most spurious arguments being employed, that since states in which raised marginal tax rates on high-income earners saw the number of millionaires decrease proves that the rich flee in droves to avoid taxes.

The problem with this is the fact that we are in the midst of the worst economic downturn since the great depression. There is a very good reason that there has been a net loss of high income earners especially, in this case, in the vicinity of Wall Street.

Millen goes on to state: "When our government raises taxes on the rich, their income tends to decline. For example, the last time the top rate was 50 percent, in 1986, the top 1 percent of income earners paid about 25 percent of all income taxes." This is not a statement about absolute incomes as he asserts, but of relative incomes, and of course the tax system is an integral part of relative income distribution. S0 the causal link is nowhere to be found - income inequality in the US has been increasing (why is a matter of some debate but a big factor has been the returns to higher education) so this statistic is completely irrelevant to the current discussion of marginal income taxes.

So what of a real cost-benefit analysis? Well, research on the effects of marginal income tax rates and growth in the US is minimal and flawed in general, due to the practical challenges of overcoming confounding factors that prevent the uncovering of a true causal link. For example, are high-tax, low-growth states low-growth because of high taxes or high-tax because of low-growth?

Nevertheless, I'll leave you with one (admittedly dated) study of the costs and benefits of taxes:

“The Effect of State and Local Taxes on Economic Growth: A Time Series--Cross Section Approach.” L. Jay Helms The Review of Economics and Statistics, Vol. 67, No. 4. (Nov., 1985), pp. 574-582.

Abstract

“Results based on pooled time series and cross section data are presented, which indicate that state and local tax increases significantly retard economic growth when the revenue is used to fund transfer payments. However, when the revenue is used instead to finance improved public services(such as education, highways, and public health and safety) the favorable impact on location and production decisions provided by the enhanced services may more than counter balance the disincentive effects of the associated taxes. These findings underscore the importance of considering the incentives provided by a state's expenditures as well as by its taxes.”

Emphasis mine. The point is that the new higher corporate and high-income taxes are costs to businesses and entrepreneurs, if they are spent well, the also create benefits to the same. In addition, those investments in the health, education and infrastructure of the state are vital to long-term growth and prosperity.

So, though I would have preferred for the legislature to have set about trying for wholesale reform of the state tax system, repealing the tax increases, flawed as they are, would be a mistake in my opinion. Hopefully in the future, the state can address its revenue system in comprehensive manner, until then, we cannot dis-invest in the future of the state and its children.

A State and Local Tax Primer

NOTE: Apparently the figures are too hard to see so scroll down for a Scribd version of the original document.

A couple of weeks ago I wrote an initial post trying to better understand the facts in the Oregon tax debate so that I, and my readers, can make informed judgements about the suggested changes to Oregon's tax structure.  It is a pretty complicated thing to make any real blanket statements about, so I decided to do what any good economist does - go to the person with the comparative advantage.  In this case, Fred Thompson.  Take it away Fred:

A STATE AND LOCAL TAX PRIMER

 

Most states are in fiscal hot water, regardless of their tax structures

Figure one shows the year-over-year quarterly changes in state revenues from major tax sources for all fifty states. Because this is a sum, it tends to smooth out inter-state variations owing to differences in tax rates and bases, income recognition policies, and the like. The figure also suggests that the portfolio effect from relying on a variety of tax types is pretty small.

Figure 1

 

State tax revenues are volatile; Oregon’s are more volatile than most.

Figure 2 shows year-over-year quarterly changes in total state revenues over the past ten years. While the fluctuations are less dramatic than in Figure 1, the revenue trend is nevertheless characterized by a lot of volatility. These fluctuations are largely driven by underlying changes in the real economy. Another way of putting it is that the systematic component of state revenue growth is driven by changes in GDP. Variations in state product is one explanation for state-specific deviations from the systemic component of state revenue growth; differences in state tax structures and tax administration is another; the rest is random noise.

Generally speaking the more progressive the overall tax structure the greater its volatility. States that rely heavily on a progressive personal income tax, for example, tend to have more volatile revenue growth than states that rely on more regressive tax sources. That is the bad news. The good news is that the elasticity of revenue with respect to income is approximately ergodic. You tend to obtain about the same results over a moment in time that you get over a period of time. What that means is that revenue structures that are more volatile because they are more progressive, also tend to grow revenue faster over time, even without increases in tax rates or coverage.

Figure 2

 

Oregon state relies heavily on progressive personal income taxes, as seen in Chart 1.

Chart 1

Moreover, while Oregon’s PIT is characterized by a flat marginal tax rate, its pattern of exemptions, exclusions, and deductions renders it highly progressive on average, especially where the household is treated as the unit of analysis, rather than the individual. (I’d like to see the state eliminate the first step of its PIT and expand the EITC, but that is a subject for another time).

 

Oregon is a low tax state

That claim is true whether one looks at state taxes alone or state and local taxes combined (although that claim would have to be somewhat qualified, if one were to take local user fees into account – these are now the highest in the US by most measures). It is also true whether one looks at average taxes paid or taxes as a proportion of disposable income.

One might ask, how did that happen? It wasn’t very long ago that Oregon was near the top of the tax tables – in the top quartile in terms of taxes paid per capita and the top decile in terms of tax take as a share of disposable income. The answer is fairly straightforward: caps on the rate of growth in the property tax (Measures 5 & 47), the inability of the state to increase taxes (see Figure 3), and changes in corporate-income tax assessment that were supposed to be revenue neutral that weren’t. Oregon also spends more of its tax revenues on tax rebates than any other state (the Kicker).

Figure 3

A State and Local Tax Primer

Publish at Scribd or explore others:

Oregon's Taxes

From Kari Chisholm comes this graphic produced by the (partisan) Oregon Bus Project:



A nice simple breakdown of where the money comes from and where it goes.