Shifty Proposal

That idea about getting rid of the state income tax? It's probably not good news for your annual tax bill.

So does getting rid of the state income tax sound like a great idea?

Before you answer, consider this: Unless you are in the top 15 percent of Arizona's tax filers, you probably wouldn't see much of change in your tax bill at all—and if the government made up the difference with new sales taxes, you'd probably be paying more a year.

Despite that math, two of the six Republican candidates running for governor are calling for the abolishment of the state income tax.

Secretary of State Ken Bennett and Arizona Treasurer Doug Ducey have said the state should abolish the income tax. (Another candidate, state Sen. Al Melvin, also wanted to eliminate the tax, but he dropped out of the race last week, citing a failure to garner enough economic support for his campaign in the form of public financing.)

Both Bennett and Ducey offer caveats. Bennett wants to make up the lost revenue by expanding the sales tax to various untaxed services: auto repair, haircuts, legal services and the like.

Ducey said he wants to cut taxes with a goal of "getting it as close to zero as possible." He said it could take as long as two terms, but it will be a priority of his administration.

Since the state's personal and corporate income taxes bring in about $4 billion annually, the idea of getting rid of the revenue source of between 40 and 45 percent of the state's annual budget has been met with considerable skepticism.

Current Gov. Jan Brewer, who is not running for reelection because she's reached her two-term limit, has said it's not feasible.

Economist Dennis Hoffman, of ASU's W.P. Carey School of Business, said that if you get rid of the income tax without a corresponding cut in government, "you have to make up the money somewhere. There's no economic model that I know of that would suggest that Arizona would experience a growth spurt as a result of the elimination of the individual income tax that would create the kind of economic activity that will somehow make this up from the other sources at the current rates. The arithmetic on that argument simply doesn't work."

The other Republicans in the race has been equally skeptical. Former Mesa mayor Scott Smith said eliminating the income tax is "great for a campaign."

"Then you ask the follow up question—which they're rarely asked—'What are you going to do?' Most of them say they're going to grow the economy," Smith said. "The economy is going to grow at 8 percent a year for eight years. Only one problem with that: It's never happened in history."

The idea of scrapping the income tax is outright ridiculed by Frank Riggs, a former California congressman who is making a longshot run for governor.

"It's incredibly irresponsible to use that kind of pandering rhetoric when we clearly have such huge needs as a state," said Riggs, who added that he isn't opposed to some tax cuts.

The idea of eliminating the income tax is made even more daunting by the fact that the state, having come out of one the deepest financial crises in its history, is facing big budget deficits in just a few years. The Joint Legislative Budget Committee projects that the state is once again facing a structural deficit of $438 million in the fiscal year that begins this week that will require the state to tap into the rainy-day fund and use other gimmicks for just to balance the books. The 2016 deficit, after draining the rest of the rainy day fund, is estimated to be $137 million and the following year, it balloons to $222 million.

And that's not even taking into account what the budget-balancing cuts of recent years have done to the education system (no more all-day kindergarten, growing class sizes), transportation spending (the state is continuing to divert gas taxes to other spending programs rather than distribute it to local municipalities for road repair), state parks (a sweep of reserve funds and elimination of general fund support), and many other state agencies.

Ducey dismissed the criticisms of the other candidates, saying that he was running "to get big things done. If others want to sit on the sidelines as naysayers and talk about what's not possible, the voters will make their decision about who they want to see as the next governor."

He said he believed that the tax cuts, combined with more cuts to government, would pay for themselves through increased economic growth, although he declined to say what percentage he thought the economy would have to grow by in order to make it possible.

"What we're going to do is maximize growth in the most responsible way possible," Ducey said. "That's why I say this will take a term or two as governor."

While he doesn't have a plan that's been vetted by economists, Ducey said his idea won support in a recent column by the Arizona Republic's Bob Robb, a conservative commentator who said eliminating the income tax might give the state an economic boost.

But Robb (who said that Bennett's proposal to expand the sales tax merited more discussion) seemed mostly skeptical of Ducey's proposal.

"For Ducey, abolishing the income tax seems to be more of an aspiration than an actual proposal," Robb wrote. "He says he will lean in that direction as state finances permit. Given projections of renewed deficits, they aren't likely to permit much."

Bennett told the Weekly he came up with the idea of eliminating the income tax after hearing a presentation about 300 companies that had relocated from California. Only one of them had come to Arizona; many of the others had gone to states that don't have income taxes, such as Texas or Florida.

"That was one of the things that triggered me into thinking, well, why shouldn't Arizona be one of the states without an income tax?" Bennett said.

Former state lawmaker George Cunningham, who worked on budgets for the Napolitano administration, said that Ducey and Bennett are both mistaken if they believe that tax policy makes much of a difference when it comes to the state's economic development.

Cunningham now serves as chairman of the board of the Grand Canyon Institute, a non-profit think tank that studies the state's economy. GCI commissioned an institute by ASU economist Tom Rex of the tax reductions in Arizona over the last two decades.

"He concluded that the tax cuts, while reducing the state's revenue by $3 billion to $3.5 billion, had absolutely no impact, either positive or negative, on the state's economy," Cunningham said.

Fred DuVal, the sole Democrat running for governor, makes another argument against eliminating the income tax and creating new sales taxes: It would worsen economic inequality by shifting of the overall tax burden from Arizona's wealthiest residents to the middle class and poor.

DuVal points out that Arizona is below the average of the 50 states when it comes to income and property taxes, but has one the highest sales tax rates in the country.

"The sales tax is inherently regressive and lower-income families pay a much higher percentage of their income to taxes because of it," DuVal said. "So shifting from the income tax to the sales tax is a gigantic shift from a progressive form of taxation to a regressive form of taxation."

Not to get all wonky, but here are some numbers to illustrate why eliminating the income tax would mean a big tax cut for the wealthy and higher taxes on the poor: The vast majority of the income tax is now paid by Arizona's wealthiest residents.

The state's Department of Revenue projects that in 2014, about 41 percent of all revenue collected from the income tax came from the top 3.4 percent of filers, or households that whose federally adjusted gross income was greater than $200,000. (Throw in people who earn more than $100,000 and you've got two-thirds of all revenue coming from the top 15 percent of all earners.)

In other words, cutting the income tax helps those at the top way more than it helps the other 85 percent of taxpayers, who barely pay any income tax at all.

But people at the lower end of the income ladder do pay plenty in sales tax, gas taxes, sin taxes and a variety of other taxes and fees that keep state and local governments running. And those taxes are considered regressive; as the 2013 Who Pays report from the Institute on Taxation and Economic Policy explains, "because spending as a share of income falls as income rises, sales taxes inevitably take a larger share of income from low- and middle-class families than they take from the rich."

The Who Pays report concludes that rely more heavily on sales taxes than income taxes derive a greater percentage of revenue from poor and middle-class than states that rely more heavily on income taxes. Conversely, states that rely heavily on income taxes and have low sales taxes tend to be the least regressive in the country.

Of the top 10 most regressive states, five of them are among the states that Ducey and Bennett tout as models because they have no income tax.

As it turns out, Arizona is already on the list of the most regressive because the income tax is so long and so close to flat that the rich still get a pretty great deal compared to other states with an income tax. Researchers concluded that in Arizona, the poorest 20 percent pay 12.9 percent of their total income in taxes, while the middle 60 percent pay 9.7 percent of their income in taxes and the top 1 percent pay just 4.7 percent of their income.

Bennett said he was sensitive to the issue of shifting the tax burden from Arizona's wealthiest residents to the middle class and the poor.

"I'm not trying to shift the burden to anybody away from the rich or anything like that," said Bennett. "But the only way you improve is to consider alternative possibilities. The first guy who considered an engine to move down the road instead of a horse-drawn carriage, that was radical thinking."

Bennett offered a few alternatives that might alter a shift of the tax burden on the poor, such as a rebate program that would provide a check to Arizona families to cover a portion of the tax. But he conceded that he didn't have a detailed plan, although he said some tax experts—he didn't want to name names—have said he's on the right track.

When I asked Ducey if he was concerned about shifting the burden of taxes from the state's wealthiest citizens to the middle class and the poor, he said was more concerned about changing the tax code, reducing regulations and pushing tort reform to reduce legal liabilities for business owners.

"I'm running to be governor of all the people," Ducey said. "I believe the most fair thing that you can do is provide opportunity for all, good jobs and a chance to get ahead. ... No income tax or less income tax is a better direction."

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