Tag Archives: Sara Teachout

The hidden costs of Vermont’s outdated tax system

There was a bunch of stuff going on at the Statehouse on Friday. The gun bill was moving through the Senate Judiciary Committee; two House committees were mulling possible taxes to pay for an improved health care system; and all committees were rushing to meet the crossover deadline for non-financial legislation.

To me, the most important thing going on — well, the thing with the biggest potential long-term impact — happened before the Senate Finance Committee, which heard testimony about systemic problems with Vermont’s tax system, and how they contribute to our current fiscal mess.

In a nutshell, a major part of our budget trouble has to do with a narrow tax base for our income and sales taxes, and sales tax revenue lost to the rising tide of Internet retail. And we’re not talking a jot and a tittle; we’re talking tens of millions in foregone revenue.

In other words, if our tax system were up to date, our budget would only need a little tweak instead of major surgery. And the Democratic majority wouldn’t be constantly scouring for ways to scare up some additional money; it’d be flowing in just like always, enough to cover our expenses.

You can see why I wanted to be there.

Senate Finance chair Tim Ashe (D/P-The Big City) called the hearing because of his concerns over our creaky tax system.

“This discussion is about realignment of our tax structure in line with how our economy works today. …We need to be thinking about the future. It’s not about taxing Vermonters out of the state or any of that; it’s saying, how do we avoid an annual crisis management approach? It’s not about taxing this or that person more or less; it’s, are we taxing the right things? Once you determine that, then you determine the rates that are fair and reasonable.”

As part of this work, the committee is taking a fresh look at the fabled 2011 Blue Ribbon Tax Commission’s report, which I’d thought had been relegated to the Dustbin Of Perpetual Ignorage. The commission had some pretty sound ideas for a better tax structure — but ideas that promised to raise many a hackle in the Statehouse.

Among many other things, the Commission called for imposing the sales tax on most services as well as goods, and repealing many sales tax exemptions. This would allow for a 1.5 cent cut in the sales tax rate. On the income tax, it recommended moving to Adjusted Gross Income as the definition of taxable income, plus the elimination of pretty much all tax deductions. Tax rates would have been adjusted downward to make the changes revenue-neutral; but it would have made for a much simpler and fairer income tax system. If Senate Finance is resurrecting the report under Ashe’s leadership, then that’s a good thing as far as I’m concerned.

Teachout's teach-in.

Teachout’s teach-in.

Sara Teachout of the Joint Fiscal Office presented a series of charts highlighting portions of the tax system; all are available online here.

On the sales tax, she showed that American consumption patterns have reversed in the past six decades. In 1952, 60% of our consumption was in goods and 40% in services. Today, goods consumption has fallen to roughly 35%, with services up to 65%.

You can see how that would create a problem, when your state’s sales tax is applied only to goods.

And then there’s Internet retail. It was about 0.5% of total retail purchasing in the year 2000; it’s up to 8% now, $80 billion annually nationwide, and seems certain to continue its inexorable rise.

You can see how that would create a problem when there’s no structure to enforce state sales tax on Internet retail. And the Internet is a double whammy for Vermont’s economy and tax collections; not only is there the direct impact of lost sales tax revenue, but there’s the broader impact from lost retail sales at local brick-and-mortar stores. That means less economic activity, plus fewer jobs and lower incomes in the retail sector.

Ashe estimates the loss in sales tax revenue at about $50 million per year. Please note: this is not new revenue; this is revenue we used to take in but we’ve now lost. As the Senator puts it:

We get blamed for overspending, but $50 million would have just been coming in. Instead, we have to fill the gap. That’s the part where we keep raising revenue and people say, ‘Why are you doing that?’ It’s not a desire to raise taxes; it’s a replacement strategy.

Now let’s look at the income tax. Vermont has one of the narrowest income tax bases in the country because of the way we calculate taxable income and our generous rules on tax deductions. As I’ve noted earlier, the average million-dollar earner in Vermont claims more than $500,000 in deductions. Nice work if you can get it.

A proposal now before a House committee would cap itemized deductions at 2.5 times the standard deduction. This would substantially increase taxable income for top earners, and generate more modest tax hikes for the upper middle class. Total revenue is estimated at $35 million per year*.

*Correction: I misread the source for this figure. It’s actually about $15 million per year. It’s part of a proposed House tax package that would raise $35 million.

I may be more of a policy geek than the vast majority of Vermonters, but perhaps you see why I’m so interested in this work.

Sen. Ashe is not necessarily in favor of the itemized deduction cap; he would prefer a broader, deeper consideration of Vermont’s tax structure.

What I would not want to do is have the House and Senate entertain that, and then have that not be satisfactory to put us on a sustainable path, and have to do something else very substantial a year or two later. So the question is, can you configure our revenues in a way where we won’t have to come back for a while? Can we buy 20 years of revenue structure with what we do next? That’s the thing that’s important to me.

Philosophically, I don’t like the radio-dial approach that most legislatures take, which is ‘This year we go up a little, next year we go down.’ Predictably is worth something.

Indeed, Ashe predicts that the preponderance of this year’s budget-balancing will come in spending cuts, not revenue hikes. That’s mainly because of a timing issue built into the system: spending cuts take effect right away, while changes to the tax code take months — up to a full year, in fact — to take effect and start generating new money. But in spite of this year’s very crowded legislative agenda, he is hoping to clear the groundwork for a full consideration of tax issues in the near future:

I would like the [Finance] Committee to do what it can to choose a path this session. That path may be articulating what the future ought to look like, as the Blue Ribbon panel did. Maybe not in the same way, but to say, ‘This is what we intend to do, the broad outline of a tax structure for the future,’ take it on the road, let it get beat up a little bit, have it evaluated by others, and come back next year.

Go big, or go home. I wish him the best in his endeavor, which does seem awfully optimistic and (dare I say it) progressive. On the other hand, I wouldn’t want his best to become the enemy of the good; if there are positive steps to be taken this year, and I see the deduction cap as an obvious positive step, then I don’t want to put it off in hopes of getting pie in the sky next year.

Happy budget fun times

The two House committees in charge of the state’s purse strings got together for a joint meeting Wednesday afternoon, and heard a solid hour of sobering news. The state has a substantial budget gap that seems to be widening by the day, and there is little appetite for the scale of cutbacks or tax increases necessary to close it. The two panels: Ways and Means, which acts on taxation and revenue; and Appropriations, which makes the spending decisions. In a tough budget year like this one, each of the two panels wanted to gain a better understanding of the challenges facing the other.

The bulk of the session was a walkthrough of proposed expenditures and revenues for the coming fiscal year, led by Joint Fiscal Office budget guru* Sara Teachout.

*Not necessarily her actual title. 

Sara Teachout of the Joint Fiscal Office, pointing to a large flatscreen display full of dispiriting numbers.

Sara Teachout of the Joint Fiscal Office, pointing to a large flatscreen display full of dispiriting numbers.

She began the session by outlining one of the little-known worms in the budgetary apple: cuts in spending would take effect on July 1, the start of FY 2016, but many of the potential revenue enhancements would not. For example: If the state eliminates a tax deduction on personal income, that revenue would not be realized until April 2016, when 2015 tax returns are due. That’s three-quarters of the way through FY 2016.

Much of Teachout’s presentation was a repeat of her tax-budget tutorial I heard at a recent Ways and Means meeting; I wrote three reports on the meeting, which can be found here, here, and here. (If you don’t want to wade through all three, do the last one first.) She did offer more detail at this joint meeting, including a very specific listing of the real costs of various tax expenditures and deductions. (All of her documents are posted on the Ways and Means webpage.)

There was some limited discussion after Teachout’s teach-in. Most significantly, Ways and Means chair Janet Ancel restated her support for a cap on tax deductions: “Speaking for myself, it’s the right thing to do if we’re looking for new revenue.” Rep. Mary Hooper, a member of the Appropriations Committee, noted that a cap on deductions “spreads out the impact, rather than zeroing in on specific exemptions or deductions.”

As I reported previously, Vermont’s tax rules allow the average million-dollar earner to claim hundreds of thousands of dollars in deductions. That’s why top earners pay an effective income tax rate of 5.1% instead of the statutory rate of 8.95%.

Two years ago, the House approved a cap on itemized tax deductions at 2.5 times the standard deduction; the measure died, mostly because of Governor Shumlin’s opposition. This year, he has signaled his openness to changing deductions and expenditures, even as he remains steadfast in opposing increases on his Big Three taxes: income, sales, and rooms & meals.

The cap would, IMO, greatly enhance the fairness of our state tax system. Currently, top earners pay a lower proportion of their earnings in state and local taxes than people in any other income group.

There was also some support in the room for looking at some of the sales-tax exemptions. For example, the state could impose a ceiling on clothing purchases — making them tax-exempt only below a certain dollar amount.

Rep. Mitzi Johnson, Appropriations chair, said her committee will “begin a conversaiton soon to lay out targets [for spending cuts].” She noted the importance of the joint meeting for gaining a clearer picture of “where the revenue could be coming from.”

The meeting was one more small step in what promises to be a long, grinding process leading to decisions that will make at least some constituencies unhappy. As one Statehouse observer told me — only half jokingly — “it might take until July” before they can work everything out.

The moral imperative for health care reform, revealed in a handful of statistics

At the January 27 meeting of the House Ways and Means Committee, Sara Teachout of the Joint Fiscal Office distributed three fairly simple charts that tell the story of our unfair state income tax system in bold relief. I’ll be examining those charts in an upcoming post, but right now I want to focus on a small slice: the deduction for medical expenses.

The first chart lists the most frequently claimed tax deductions across the top, and income classes down the left side. It tells a fascinating story about who benefits from which deductions, and how much. But today I’m concentrating on the first two columns, shown below:

Medical deduction chart 1

A couple of explanatory points. First, this data is from 2011, predating Vermont Health Connect and the Affordable Care Act. Second, I should explain the rules for deducting medial expenses. You can’t deduct health insurance premiums, just actual medical and dental expenses. You can only deduct medical expenses if they total more than 10% of your gross income, and only the portion above 10% is deductible. It’s a very high standard; you’ve gotta have some serious medical bills and no insurance (or really bad insurance) to qualify.

As you might expect, “Total Medical” is the outlier among deductions; it’s the only one claimed more often by the poor and working poor than by the wealthy. There are two simple reasons for this. The first is that the poorer you are, the less likely you are to have health insurance. The second, obviously, is the lower your income, the fewer bills it takes to qualify.

It’s no giveaway, though; if you’re making $25,000 a year, then medical bills over $2500 are enough to throw you into severe financial difficulties. A tax break on a portion of those bills won’t make you whole.

These columns reveal the hidden cost of our old health care system — the human and social cost, and the actual financial cost. Vermont is foregoing a large amount of potential tax revenue because so many people incur medical bills that eat up a significant portion of their earning power.

I don’t know if these numbers were factored into Gov. Shumlin’s calculations on single-payer. I sure as Hell hope so, because it’s a cost that’s every bit as real as a payroll tax.

As for the human and social costs, the top three lines indicate that more than half the total value of medical deductions was taken by those with incomes under $50,000. These are people who cannot afford a significant unplanned expense, because they’re barely making ends meet in good times.

Here’s the same slice from a second chart that shows the total number of filers in each income class, and the number who took a medical deduction. This shows that more than 50% of those claiming a medical deduction earned less than $50,000, while virtually no wealthy people claimed one.

Medical deduction chart 2

Now look at that top line. More than half the low-income filers qualified for medical expense deductions. That’s nearly 5,000 individual stories of illness and deprivation, of life-changing financial crises, most likely including thousands of bankruptcies. How many people lost their jobs and their homes, and saw their lives go into a tailspin, because of an uncovered illness or injury in 2011 alone?

So far, health care reform has dramatically reduced the ranks of the uninsured in Vermont. These figures show how crucial that progress is, for the stability of our society and the very lives of our most vulnerable.

These figures are also a powerful argument that we need to keep it up. We shouldn’t have thousands of poor and working-class Vermonters qualifying for this deduction. There should be none, or very few at most. That’s the goal of, and the moral imperative for, universal health care.

Searching for revenue in all the right places

Warning: This post is full of public-policy geekery. You should not operate heavy machinery during or immediately after reading. Still, I hope you’ll stick around; you’ll learn some useful stuff.

I spent Tuesday morning at a hearing of the House Ways and Means Committee, as it conducted an item-by-item overview of tax expenditures and tax deductions. The subtext is the state budget situation, with its projected $100-million-plus gap. Committee members engaged in a lot of poking and prodding, in search of ways to goose income or reduce outgo.

“Tax expenditure,” for those not in the know, is the technical term for a tax exemption. “Expenditure” is a nice insightful term; in granting an exemption, the state is forgoing tax revenue. In essence, it is spending that money without ever receiving it. In granting a sales tax exemption on food, for example, we are “spending” the uncollected revenue for a social purpose — making food more affordable, and limiting the regressive impact of the sales tax. The Earned Income Tax Credit, given to the working poor, is a tax expenditure. It’s the largest one, in fact, accounting for 49% of the foregone revenue from expenditures. (The second-highest, at 32%, is the Capital Gains Exclusion, which almost entirely benefits top earners.)

As for the sales tax exemption on major equipment at ski resorts… Well, you tell me what social purpose that serves. Beefing up resort owners’ profits, is my guess.

I learned a lot of interesting stuff about expenditures and deductions. The most crucial stuff is about deductions, and I will write about them in a subsequent post. For now, some notes on expenditures.

(For those interested in a whole lot of detail, the Joint Fiscal Office’s 91-page report on state tax expenditures is available online.

Sen. Tim Ashe, chair of the Senate Finance Committee, has his eyes set on the ski-equipment exemption as part of a broader reconsideration of the financial arrangements between the state and resort operators. Auditor Doug Hoffer recently reported that Vermont’s leases of public land to the resorts are outdated and don’t generate as much revenue as they could.

Ashe agrees. “Circumstances have changed dramatically in the industry,” he told me. “The lease conditions haven’t kept pace.” He sees an opportunity to reopen the leases as part of a “recalibration” of the state/resort relationship. On the government side, that might include more lucrative leases and an end to the equipment exemption. On the resort side, it might include changes in state regulation.

The door seems to be open. But as Sen. Ashe puts it, “Is the legislature interested in recalibrating the relationship?” This, and many other taxation issues, may not be settled until the session’s closing days, when the House, Senate, and Governor try to agree on a balanced budget acceptable to all parties.

Ashe also told me that his committee “went through every tax expenditure in the tax code” last year. Some were eliminated, all others were more clearly defined. This year, Ashe has introduced a bill that would require a determination that each tax expenditure is achieving its intended purpose. That might touch on some of the corporate tax breaks, such as the exemption for research and development. At the Ways and Means hearing, it was said that large corporations can simply assign a portion of their entire R&D expense to Vermont, whether or not the work was actually done here. There was some sentiment on the committee to rein in that exemption — define it more narrowly, or tie it more directly to job growth in Vermont.

Most tax expenditures are relatively uncontroversial. Purchases of home heating supplies — oil, gas, propane, wood — are exempt from sales tax. This is a big item, but who’d want to repeal it?

There was surprise around the table that the sales tax exemption on food is very broadly defined. It includes soda, candy, and nutritional supplements. That’s a lot of foregone revenue for stuff that is either harmful to health, or whose benefits are questionable. And it’s ironic, at a time when we’re considering a tax on sugar-sweetened beverages. But it’s difficult to draw a hard and fast line. Is a CLIF Bar “candy”? Pop-Tarts? Yogurt-covered almonds? Kettle corn? Vermont Maple Syrup?

So that’s a can of worms that no one will likely want to open.

One item that might be revisited is the exemption on clothing sales. Vermont used to cap the exemption at purchases of $110 or less. That cap went out the window when the state adopted something called the Streamlined Sales and Use Tax Agreement, a mutually agreed-upon standard for rules on sales taxes that includes 44 states and the District of Columbia.

At the time Vermont adopted the SSUTA, it did not include limits on clothing purchses. It has since been amended, and Vermont could reimpose a limit so that, say, fur coats would be subject to sales tax.

However, Sara Teachout of the Joint Fiscal Office warned the committee that much of the potential revenue would be unrealized because so many clothing purchases are conducted online. And I’m sure brick-and-mortar retailers would scream if lawmakers considered limits on the clothing exemption.

The terms of some tax expenditures are outdated, or in imminent danger of becoming so. For example, there’s a sales tax exemption for newspapers. But does it apply to digital subscriptions? No one in the hearing room had a clue.

There’s an exemption for movie theaters’ purchases of films — on the grounds that ticket sales are taxed, so taxing the film purchases would be a form of double taxation. But these days, virtually all theaters are showing digital movies. They don’t get cans of film; they get a “black box” that contains a playable (but not reproducible) digital copy of the movie. That copy is set to expire and become unplayable at the end of a movie’s run. Can it be said that the theater is actually buying anything?

Mobile and modular homes have a partial tax exemption. But these days, almost all home building includes modular elements, pre-constructed at a factory. Has the tax code kept pace with the industry?

Those were the most interesting tidbits about tax expenditures, at least to my eyes. The JFO’s report includes a wealth of information; for each expenditure, there are figures for the total estimated cost, the number of taxpayers who take advantage, and a short explanation of the reasons for the expenditure.

Coming in the near future: tax deductions — the #1 creator of unfairness in Vermont’s income tax system.  This may become the battleground over how, or whether, to raise additional revenue and limit the scope of necessary budget cuts.