Indiana now enjoys what economists call a “structural surplus” in its state tax revenues. This means that the several-hundred-million-dollar surplus is a permanent affair when viewed against current expenditures. It would be astonishing if this did not lead to calls for a tax cut, and so it has. Leaving aside the important question of the optimal level of funding of government, it is useful to better understand the arguments about how taxes are cut, and the risks and benefits involved.
There is a lot of misleading information about our state tax system, which unsurprisingly seems to bolster one side or the other. For example, our total state and local tax burden is relatively low, and is currently an economic development advantage. From the other side, we hear of a study by an advocacy/policy think-tank that says Indiana has among the most regressive state tax systems. I found three fatal errors in their work in about five minutes. There are doubtless more, and we should ignore that study. Quite simply, Indiana has probably the best tax system in its history.
This is not to argue that there are not problems with our tax system. Among the problems is the corporate tax rate for firms that organize as limited liability companies. Quite simply, businesses avoid higher tax rates by organizing themselves as limited liability companies. This is why collections of corporate taxes are plummeting when they should be growing. It is imprudent and inequitable to tax the same activity differently. There is room for improvement in other areas as well, like inheritance and local option taxes, but that is for another column.
Uncertainty about the future also weighs heavily on any tax cut debate. The national economy remains weak, which threatens future revenues. Our forecasters do a superb public service, but they cannot help but err in predicting the future. More worrisome is the high likelihood that our public employee retirement plans are less solidly funded than we believe. Moreover, anyone who believes they know the cost of the Affordable Care Act on state budgets doubtless also believes in pink unicorns.
A tax cut will boost private sector employment, earnings and investment. Whether it comes from income or sales taxes, we should expect a modest, but welcomed impact equivalent to about one extra modest month of job creation next year. We need more private sector jobs, but there is also meritorious government spending as well that goes unfunded. We cannot have all we want, and we look for leadership on the matter. Gov. Mike Pence has been criticized for failing to lead on budget issues. I disagree. Allowing the legislature to work through a budget is exactly the type of leadership of which we need more, not less.
Taxpayers of Indiana should expect a tax cut next year. That is the reward for prudence. Continuing this prudence suggests the cut be modest and phased in slowly so that we may better understand what the uncertain future holds.