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Thursday, May 17, 2012

North Carolina Tax Modernization Efforts

"to be rather than to seem"
About a year ago, SB 658 was introduced in the North Carolina legislature. It is entitled the "21st Century Tax Modernization Plan" (great title!). Apparently, it didn't move.  But, there are other efforts in the state focused on modernizing the tax system.  I'll share a few statements from the bill and the other efforts that I find interesting in terms of needed steps to modernization of any tax system.

First, the introduction to SB 658 provides:
"The General Assembly of North Carolina finds the following:
(1) North Carolina's current tax structure has not been comprehensively revised since the Great Depression. The tax structure adopted then, while amended extensively over the years in a piecemeal fashion, no longer reflects North Carolina's 21st Century economy.
(2) Over the years, the multiplication of credits, allowances, special rates, and exemptions has progressively narrowed the base of the State's individual and corporate income taxes, with the result that the rates for those income taxes are now among the highest in our region and among our peer states.
(3) North Carolina's current tax structure undermines the State's competitive position and acts as a deterrent to new business investment and the creation of new jobs.
(4) The State's reliance on temporary and expedient tax changes to meet budget shortfalls has created a tax structure that is unpredictable for taxpayers and a revenue stream that is unstable for the State."

NC State University's Institute for Emerging Issues has a brief position paper - Statement of Principles:Tax Modernization in North Carolina with some suggestions in line with principles of good tax policy and modernization. IEI suggests that notes competitive disadvantages to not modernizing its tax system and that the sales tax base has eroded over the years. Their suggestions to achieve a system that is "competitive, stable, adequate and fair:"
  1. Broaden the sales tax to "many services and previously exempted tangible items" (other than medical services and prescription drugs) with a relief mechanism for low-income individuals. At the same time, the rate should be lowered.
  2. Use federal AGI as the base for the state income tax "with minimal deductions and exemptions" while also lowering the rates to be competitive with nearby states.
  3. Be sure there is adequate funding for local services.
And, I found a presentation by Michael A. Hannah, Esq., CPA, counsel to the NC Senate Finance Committee, entitled "Tax Modernization in North Carolina — One Step to Economic Growth and Fiscal Stability" presented to the Tax Policy Subcommittee of The North Carolina Economic Development Board on 2/10/12. It has a lot of data on changes in the NC economy and tax collections. For example, in the past 40 years, employment in manufacturing dropped 24% and employment in services sector increased 25%. As Mr. Hannah notes on slide 17 - "First We Need to Understand What the Problem Is!"

His presentation also notes that some incentives have not achieved their goals or even bigger goals of increasing the state's economy relative to the nation. For example, he notes: "While NC has spent billions on economic development over the years through tax credits, incentives, etc., we have not seen per capita income in relation to the U.S. average grow as a result" (slide 3).

The presentation also notes that credits are expensive to administer and many businesses would just prefer lower rates. He also notes that more credits have been claimed for new machinery than for job creation (slide 5). It is a good presentation to provide an overview to the state's economy and tax system, its weaknesses (such as the eroding sales tax base and increasing tax rate), and the need to act so the state won't be left behind other states.

The themes from North Carolina's talk of tax modernization are similar to modernization needs in most states.  Focal points for modernization should be:
  1. Broaden/modernize the sales tax base to cover today's types of personal consumption while lowering the rate and phasing out application of the sales tax to business purchases.
  2. Simplify personal income tax by eliminating special deductions, exemptions, rates and credits and lowering the rate.  States should also encourage Congress do to the same with the federal income tax and then they can start the state income tax calculation with federal taxable income.
  3. Review all incentives to see if they are meeting their intended purpose (also be sure they even have a stated purpose). Consider if any deemed worthy should be in the tax law or run by a state agency. For more, see my February 2012 testimony delivered to CA Committee on Revenue & Taxation and Committee on Accountability and Administrative Review.
  4. Ensuring that the goals of state and local governments are aligned as evidenced from their tax and budgeting systems. For example, local governments may need to share in income tax revenues to be help support state economic growth goals.
What do you think?  What tax modernization is needed in your state?

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