California's budget deficit problems could have been solved with Governor Brown's plan to extend higher taxes enacted during Governor Schwarzenegger's tenure. And with another $13 billion deficit looming for 2012, it seems that California must do something about taxes or else face more education and social services cuts. Capitalizing on this recent crisis, a group of California political insiders and California billionaires have joined together to form the Think Long Committee for California. They've drafted a tax proposal, to be placed on the 2012 ballot for voters, that requires a lot of scrutiny.
The Think Long proposal includes requiring a sales tax on all services except health care and education starting in 2013. The sales tax on everything would also drop by half a percentage point. Then, starting in 2014, California would simplify the personal income tax system. Joint filers whose income totaled $45,000 or less would pay no income tax, income between $45,000 and $95,000 would pay a 2 percent income tax, and any income above $95,000 would pay a 7.5 percent income tax. The state would also eliminate all income tax deductions except mortgage interest, property taxes, charitable donations, and research and development. Finally, the plan would lower the state's corporate tax rate from 8.84 percent to 7 percent, while raising taxes on out-of-state firms.
The proposal is projected to raise an additional $10 billion annually for California. It does this primarily through extending the sales tax to new services and closing income tax deductions. The proposal begs the question though; from whom will this $10 billion come from? Taxes on in-state corporations and higher incomes will be lowered by this proposal. While closing tax deductions is a great way to prevent wealthy individuals from skirting their tax obligation, we must wonder who is going to be paying these new sales taxes?
Sales taxes are regressive taxes. A regressive tax is a tax that involves a smaller rate when the share of income increases. So lower income individuals pay a larger proportion of their wealth than a higher income individual. Sales taxes are regressive because they apply a flat, fixed tax rate to all individuals. A flat, fixed tax rate is regressive because it takes more money away from lower income individuals than higher income individuals.
Here is an example, lets say one individual has $10 and another individual has $100. If the sales tax is 10 percent, then the $10 individual pays $1 towards the tax while the $100 individual pays $10 towards the tax. Indeed, the higher income individual is paying $9 more than the lower income individual. Proponent of flat taxes and sales taxes, such as the Think Long coalition, stop the analysis here and declare that the sales tax or flat tax is progressive. But to stop there would be misleading. We must also now consider the value of the $1 to the lower income individual and the value of $10 to the higher income individual. It is clear that to an individual with only $10, $1 is very valuable and losing that to taxes means that individual is left with only $9 left to purchase the good. While the $100 individual is left with $90 to purchase the very same good. Losing $10 is a lot less costly to the $100 person, than losing $1 is for the $10 person. Thus, we can conclude that a sales tax or a flat tax is a regressive tax because it costs lower income people more of their income than it costs higher income people.
Now that we have clarified how a sales tax affects consumers, we can see that the Think Long coalition's proposal for a tax overhaul includes imposing a regressive tax on more services, thus increasing the tax costs to lower income families in California, while at the same time decreasing taxes for corporations and the wealthy. That is how a group of billionaire's and political insiders want to raise $10 billion for the state. The Think Long coalition will refute this fact by pointing to the elimination of all income tax for joint filers who are making less than $45,000. But that is a red herring. That is part of the proposal in order to distract people from the expanded sales tax that will take a larger chunk of wealth away from lower income individuals than higher income individuals.
Californians should not be confused by the Think Long tax proposal. Lower income individuals did not get us into this budget crisis. It was the work of negligent politicians and big corporations gambling with the economy that got us here. Those two groups shouldn't be rewarded with lower taxes, just like low income families shouldn't be punished with higher taxes. California does need tax reform to adequately and sustainably close the ongoing budget deficits. But whatever tax reform is enacted needs to be a progressive tax.
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