HB 563 makes permanent reductions to Idaho’s top individual income tax rate and the corporate income tax rate, effective 1/1/2012. The Division of Financial Management (DFM) estimates the amount of foregone General Fund revenue to be $35.7 million in FY 2013, $37.5 million in FY 2014, $39.2 million in FY 2015, $40.6 million in FY 2016, and $42.3 million in FY2017. Estimates are not available beyond FY 2017.
Corporate income tax rate reduction
Idaho’s corporate income tax rate is reduced from 7.6% to 7.4%. This rate reduction is estimated to reduce Idaho General Fund revenue by $4.8 million in FY 2013, $5.0 million in FY 2014, $5.1 million in FY 2015, $5.3 million in FY 2016, and $5.4 million in FY 2017.
For context, Idaho’s baseline corporate income tax forecast for FY 2013 (before considering the impact of HB 563) is $182.4 million. HB 563 represents a 2.6% reduction in the Idaho corporate income tax.
Because of the interaction between state and federal income taxes, a portion of the reduction in Idaho corporate income tax will be offset by increased federal income tax. Federal income tax rates vary from 15% to 35%, depending on the corporation’s taxable income. A corporation facing a 35% federal rate would lose 35% of its Idaho tax saving to higher federal income tax. A corporation facing a 15% federal rate would lose 15% of its Idaho tax saving to higher federal income tax.
Individual income tax rate reduction
Idaho’s individual income tax has its top income tax bracket of 7.8% reduced to 7.4%. This rate reduction is estimated to reduce Idaho General Fund revenue by $30.9 million in FY 2013, $32.6 million in FY 2014, $34.1 million in FY 2015, $35.4 million in FY 2016, and $36.8 million in FY2017.
For context, Idaho’s baseline individual income tax forecast for FY 2013 (before considering the impact of HB 563) is $1,295.0 million. HB 563 represents a 2.4% reduction in the Idaho individual income tax.
Unlike the Idaho corporate income tax, where every corporation receives the same 0.2 percentage point reduction, the Idaho individual income tax rate reduction only impacts taxpayers in the top income bracket. Idaho indexes its income tax brackets for inflation, so the income levels associated with the brackets change over time. For tax year 2011 the top income tax bracket (7.8%) applied to taxable income over $26,760 in the case of single taxpayers and married taxpayers filing separately, and to taxable income over $53,520 for single head-of-household taxpayers and married taxpayers filing jointly. The Idaho Tax Commission has not issued the taxable income brackets for tax year 2012.
Taxable income does not represent a taxpayer’s actual gross income, but rather gross income less deductions and personal exemptions. In tax year 2011 the personal exemption amount was $3,700. The standard deduction varied depending on filing status, $5,800 for single taxpayers, $8,500 for single head of household, and $11,600 for married filing jointly. Idaho routinely adopts the federal amounts for personal exemptions and standard deductions. For a married couple with two children claiming the standard deduction the top bracket starting taxable income level of $53,520 corresponds to gross income of $79,920. If a taxpayer claims itemized deductions the taxable income brackets would correspond to a higher level of gross income.
Although the overall reduction in the individual income tax, at 2.4%, is smaller than the 2.6% overall reduction in the corporate income tax, it is not spread uniformly. It is concentrated at upper income levels. Specifically, any single taxpayer with gross income below $36,260 and any married (filing jointly) taxpayer with gross income below $72,520 receives no tax reduction. Taxpayers with more dependents (and therefore more personal exemptions) would have higher gross income before receiving an impact from HB 563. In practice this means over 80% of Idaho individual income taxpayers receive no tax reduction from HB 563. According to the fiscal analysis by DFM, just 17% of Idaho individual income taxpayers will receive any tax reduction from HB 563.
Although no distributional analysis has been released by the State of Idaho, it is relatively simple to illustrate the disproportionate impact of HB 563 via the following two tables:
These tables show that the highest percentage reductions (up to a 5.1% reduction in Idaho individual income tax) are reserved for the highest income Idaho taxpayers. A family of four with gross income at or below $79,920 receives no tax reduction, at $100,000 in gross income the reduction is 1.6%, and at $1,000,000 in gross income the reduction is 4.9%. And yes, there are Idaho taxpayers with gross income above $10,000,000 who will enjoy the maximum percentage savings of 5.1%.
The situation is similar for single taxpayers, with the difference being that the minimum gross income for any tax savings is lower ($36,260), and the percentage reduction in Idaho individual income tax ramps up faster (1.6% at gross income of $46,260 and 3.8% at gross income of $100,000). This is due to the smaller standard deduction and fewer personal exemptions.
There is also an interaction between Idaho’s state individual income tax and the federal individual income tax, but it is complicated by the federal alternative minimum tax (AMT). Idaho taxpayers who itemize their deductions may see a portion of their savings from HB 563 offset by higher federal income tax (due to the lower itemized deduction associated with the lower Idaho income tax), but this is cancelled by the AMT as the taxpayer’s income increases since the AMT does not allow a deduction for state income taxes.
The net effect of the AMT is an exemption phase-out (for married filing jointly) that starts at about $150,000 in gross income and is complete at about $440,000 in gross income. What this means is that Idaho itemizing taxpayers with income below $440,000 will lose some of their Idaho tax savings associated with HB563 to higher federal income tax. Idaho itemizing taxpayers with income above $440,000 will not have an increased federal income tax bill as a result of savings associated with HB 563.
Eliminating Idaho’s top individual income tax bracket will make Idaho’s income tax less progressive and Idaho’s overall tax structure more regressive. The following two tables illustrate Idaho’s tax incidence for the major taxes across income categories, before and after considering the impacts of HB 563:
These tables show the high degree of regressivity of Idaho sales and excise taxes, the more moderate regressivity of Idaho property taxes, and the progressivity of Idaho income taxes. Idaho’s overall tax incidence (including the federal offset due to the partial deductibility of state taxes) is moderately regressive. The changes embodied in HB 563 will make Idaho’s income tax less progressive, and overall taxes more regressive.
There is no change in the share of income paid in taxes for the bottom 80% of Idaho families (the second 20% from the bottom remain at 8.7%), and within the top 20% the largest decreases occur at the highest income levels (the top 1% of Idaho families see a decrease from 6.3% of their income paid in taxes to 6.1%). Before HB 563 families in the second 20% from the bottom paid 38% more of their income in taxes than families in the top 1% of the income distribution. After HB 563 families in the second 20% from the bottom will pay 43% more of their income in taxes than families in the top 1% of the income distribution.
HB 563 was pitched as a way of making Idaho more competitive in attracting jobs and economic growth to the state by reducing the top income tax rates. There is no credible evidence to support this claim. If anything, the evidence points in the other direction – on the whole, higher tax rate states do as well or better than low tax rate states. Regardless, it will be impossible to isolate the impact of HB 563 on Idaho’s future economic progress (or lack thereof). There are simply too many factors all in play to make such a determination.
HB 563 will become another datapoint available to future researchers examining questions of state tax rates and state economic performance. Quite a few states are making adjustments to their tax structures in the wake of the Great Recession, with movements occurring in both directions (some increasing taxes, some decreasing taxes). Given the lags involved in going from law changes to economic responses to analysis of outcomes, it will probably be a decade or more before this round of policy actions appears in credible research studies and reports.
It is possible to assess HB 563 in terms of how it affects Idaho’s tax and revenue structure from a fiscal policy standpoint. The Idaho Center for Fiscal Policy (ICFP) uses a set of principles derived from the National Conference of State Legislature’s “Principles of a High-Quality Revenue System” (NCSL Principles) to assess tax and revenue related issues. ICFP has condensed the NCSL Principles into four broad categories: efficiency, equity, adequacy, and stability.
HB 563 does not have a material impact in terms of efficiency or stability of Idaho’s tax and revenue structure. It does impact the equity and adequacy of Idaho’s tax and revenue structure. As previously shown, HB 563 makes Idaho’s income tax less progressive and Idaho’s overall tax structure more regressive. This makes Idaho’s tax structure less equitable.
HB 563 also impacts the adequacy of Idaho’s tax and revenue structure. It removes an estimated $35.7 million in General Fund revenue in FY 2013, and the impact grows over time as Idaho taxable income increases. Idaho has made significant cuts to a wide array of public services in recent years, ranging from education to public health to general government.
As examples, the past two fiscal years (FY 2011 and FY 2012) have seen the first ever cuts in overall K-12 education funding since WWII, higher education General Fund levels in FY 2012 were below the level of funding in FY 2001, almost $35 million in General Fund cuts to Medicaid were made in FY 2012 (yielding almost $100 million in total cuts when reductions in federal matching funds are factored in), and 4 years after overall General Fund cuts began in FY 2009 the FY 2013 General Fund budget remains over 5% below the FY 2008 level.
It is widely acknowledged that Idaho had a relatively frugal spending policy prior to the Great Recession, and the cuts that were made in response to the revenue collapse were characterized as necessary, regrettable, and temporary. HB 563, by cutting income taxes without providing any revenue offset, ensures that a portion of the spending cuts will not be reversed. It reduces the adequacy of Idaho’s revenue stream relative to the public services Idaho has historically provided.
PDF of this post: HB 563 – IMPACT AND ASSESSMENT