Wisconsin Senate Majority Leader Devin LeMahieu has introduced a plan to transition the state over four years to a flat 3.25% individual income tax from the current four-bracket structure with a top rate of 7.65%.
LeMahieu and Badger Institute President Mike Nichols on Wednesday sat down in the majority leader’s Capitol office to discuss the proposal for the Institute’s Free Exchange podcast. The following Q&A has been edited for length and clarity.
Mike: So, we’re here to talk about the flat tax, Senator. And I want to confess right up front to our listeners that we, at the Badger Institute, are big fans of a flat tax, big proponents of it. We have done quite a bit of research in recent years and, in the last year, about what we think would be positive impacts.
Before we get into the specifics of it, though — tax rates and tax savings and revenue issues and all that stuff — why now? I mean we’re the home of the progressive income tax since 1911. First workable income tax in America. Leaders on the progressive tax, right?
Most of America followed along for so many years with a progressive tax. Why now? Why flat now?
Devin: When we were working on the last budget, we saw the effects of the federal government’s overspending with our revenues going up, so we had a nice surplus to work with in the last budget.
The governor wasn’t working with us on how to reduce taxes, so we sort of had to guess on what he might sign. So, we reduced taxes on the second and third tax brackets. But that builds more of a disparity between the top tax bracket and then the second and third.
We’re now in an even better position with a projected almost $7 billion surplus just going into the budget (that doesn’t include new revenue to work with) in the next two-year biennium budget. So, this is essentially a unique time, a generational time where we have the resources to invest in transformational tax reform in the state of Wisconsin.
So, we can’t just keep ignoring the top tax bracket because then it becomes even more and more untouchable. So, now is the perfect time not to just hit middle-income and lower-income families, but to hit all hardworking individuals in the state of Wisconsin.
Mike: Aren’t those top two rates even higher than a lot of our neighbors in a lot of other states? The top rate, as you know but our audience might not, is really — absent the states on the coasts — higher than any other state in America other than Minnesota. But that second rate is pretty high too, isn’t it?
Devin: Right. That second rate, which we’ve been working on over the last couple of budget cycles, it’s still at 5.3%. The state of Illinois, which has a flat tax, their flat tax is at 4.9%. The state of Michigan, one of our neighbors across that big body of water, they’re at 4.25%, which is lower than our second tax bracket.
Mike: So we’ve got three contiguous neighbors — Michigan, Illinois, and Iowa — which all have flat taxes. Even Illinois. And we have 14 that already have, in the country, a flat tax or are moving toward a flat tax . . . but there are three other states that basically have flat taxes too, Senator, I think. And I’m talking like Mississippi is one of them because they just have a couple of brackets and the top rate kicks in at super low-income levels.
And then there are also nine states in this country — if you count New Hampshire, which is kind of a little bit weird — that have no (individual income) taxes at all. So, to our way of looking at it, I guess, a majority of states in this country either have no tax or have a flat tax. So, it’s not like it used to be 50 years ago or even 20 years ago where you’re just sort of an anomaly if you’re talking about a flat tax. We would not be alone.
Devin: Well, to your point, even those that do have a little bit of a progressive income tax, the vast majority of our income tax revenue is at a rate higher than even a lot of those states that actually do have different tax rates in them. At 5.3% (the second highest rate) we’re still higher than, I believe, 31 states’ top tax bracket.
So, the vast majority of states have a lower top tax bracket than where our second to top tax bracket is, which kicks in pretty low in Wisconsin’s income.
Mike: What’s wrong with that?
Mike: What are the negative impacts of that?
Devin: We need to be competitive to attract talent into the state, attract them to grow, start businesses, bring their families here. If you live in Kenosha, if you’re successful, why would you not move to Illinois and pay 2.5% less?
Mike: Is there still an understanding in this building of what pro-growth taxes mean after all these years of progressive income taxes and, frankly, static scoring of tax proposals?
Devin: That’s a very loaded question.
First, we’ll start off with the static scoring . . . The nonpartisan Fiscal Bureau, they do a fantastic job. What they do, other states should emulate. They have to score any type of proposal that we have that has an appropriation or any type of spending. They have to score it statically. They can’t score it dynamically, so statically just means if you cut taxes by $200 million, you’re going to have $200 million less in revenue.
But what they can’t look at is the dynamic impact of it is that my tax proposal substantially cuts income taxes. But that much more money is left in the economy then. Families have that money.
And the benefit of going over a four-year plan is it gives that — as you’re ratcheting down, there’s more and more money going back into the economy that’s going to be spent on goods, so your income tax (revenues) rise. It gives an opportunity for people to move into Wisconsin, stay in Wisconsin, so that revenue, income revenue, will go up. It gives an opportunity for businesses to pay their employees a little more, so then there’s more income revenue being generated.
Mike: (The Legislative Fiscal Bureau writes) about two things: What the savings are — right, Senator? — for I guess average taxpayers. Then they’ll talk about revenue implications. Can you talk about that just a little bit in general terms?
Devin: The average taxpayer, which is somewhere between $70,000 to $80,000 per year, when the tax is phased in, that’s going to be a little over $1,000 annual savings, so that’s real money. The average family will have an extra $1,000 to spend on eggs. Can I say eggs right now, which are like $6 a dozen? . . . Putting propane into their propane tanks in winter to heat their houses.
The cost, if we want to look at the first two years, which is the current budget that we’ll be working on here in a couple of months, I believe the cost for the first two years combined is about $4.5 billion, just statically. Roughly in that range, $4.5 billion.
I think I mentioned at the beginning of the podcast, we have a projected $7 billion surplus, and that doesn’t include new revenue, which is going to be about another $4 billion to work with. That’s $11 billion. I think it’s reasonable to give $4.5 billion back to the hardworking taxpayers of Wisconsin who are clearly currently overpaying in taxes.
Mike: There are implications, obviously, on the revenue side, as you’re indicating, with all these savings for taxpayers. The question is whether it’s sustainable, right?
We don’t want to be in a situation where five or eight years out, or we’re in a recession, or whatever, we don’t have a sustainable tax system.
To play devil’s advocate, some of the folks who are going to disagree with you are going to say, “Yeah, we got a $7 billion budget surplus now projected, but that’s pretty unique. What’s life going to look like five years or 10 years down the road?” Is this sustainable?
Devin: I think it is. We’re working with an organization right now to get a dynamic score on it. And they’ll look at other states that have reduced income taxes and see what the results have been.
But if you look backwards over the last 12 years, we’ve cut taxes in Wisconsin by $22 billion. And our revenues continue to rise. Some of that has been in income taxes. Some has been in property taxes.
We’ve reduced tax rates in different areas, reduced the tax burden. Yet our revenue continues to rise.
We’ll get that projection. We’ll look at what other states have done. . . The final (annual revenue reduction estimate using static scoring) number when it’s all phased in by the fiscal bureau is north of $5 billion annually. But that’s not going to be the effect on our revenues.
. . . . .
Devin: The one criticism has been it’s just a tax cut mainly for millionaires and billionaires. First of all, they’re paying the bulk of income taxes in Wisconsin, clearly, which is why the biggest cut comes to them.
If you look at some of the high-wage earners, you know it’s going to be a nice tax cut for them, frankly. . . . (But) It gives even middle-income people more take-home wages, so they might be able to upgrade their houses.
Mike: The bottom rate right now is 3.54%, and you said you have introduced a flat tax at 3.25%. That means that everybody will get a tax cut. Nobody will pay more taxes. Is that accurate?
Devin: Yeah, that’s correct. That’s our goal, to make sure that everybody who pays, first of all to flatten it, but our goal is to make sure that everybody who pays income taxes in Wisconsin has their tax burden reduced over the next four years.
Mike: But what about the folks who would say you’re not doing anything for business?
Devin: A lot of – the vast majority of business in Wisconsin are personally owned, family-owned businesses, which operate as pass-throughs who pay (individual) income taxes . . . So, it would benefit them.
Mike: What’s the reception been so far, Senator?
Devin: I think most Republicans in the building are generally supportive. You know I think the Speaker understands that, when we do tax reform, this might not be his preferred method. But he understands that we need to touch the top tax bracket, top income tax bracket. We can’t just leave it up there, that we need to be more competitive.
I think both me and him, and most Republicans in the building, ultimately would like to have no income taxes in the state of Wisconsin. You know our governor would never let that happen — currently. And that would also probably require an increase in sales tax. Raise that at least three, four (percentage points), or something like that to come close to trying to balance that out a little bit. But at least this is a step in that right direction to eliminating the income tax.
Mike: Would you ever consider an increase in the sales tax as a way to perhaps produce more revenue if it’s ever necessary because of low-income tax rates?
Devin: I don’t think we’re going to need to do that. The good thing about income taxes versus sales taxes is income taxes are a little more stable in a recession or a downturn where sales taxes can take a dramatic drop.
I mean when you’re buying goods, when you buy groceries, you’re not paying sales tax on it, so people continue to spend their money (in a recession) on groceries and necessities like that. But they might not be spending all of their money on entertainment and things like that. So, sales tax revenue is one of the first things to take a hit, so it’s a little more volatile if we hit a downturn in the economy.
. . . . .
Devin: Maybe we don’t need to get into how states eliminate their income taxes, but either they have a nice source of revenue like, you know, oil revenue or something like that…
Mike: Wyoming and Alaska.
Devin: Right. Yep.
But you know Tennessee did it by hiking up their sales tax, essentially.
Mike: Yeah. Senator, maybe this is a little tangential, but I have somebody that you probably know as well, and a friend, in Florida who I think is a resident of Florida. And that’s what happens because there’s no income tax there. But we were talking about, hey, you know, how is Florida able to do it? Well, the fact is that a majority, much more than just a simple majority, of their income comes from a sales tax.
Ours, I think, we’re 20-some-odd percent (of total state tax revenue) comes from our sales tax.
Our income tax, Senator, I think is between 40% and 50% of total state revenue, not counting property taxes (which are local). And, so from our perspective at the Badger Institute, yeah, I mean we’re for limited government. We want taxes to go down, and we think that’s good for growth. But our perspective is that trying to find the $9 billion a year that would be eliminated, even with pro-growth considered over time, that would be – that revenue would be gone if you eliminated the income tax. It just is a bridge too far at this point.
Is that a fair analysis?
Devin: Yeah, I think so.
Mike: Yeah. So, what happens now in terms of the process for folks who don’t spend much time in the building, Senator?
Devin: I released the bill early in the session just to start the discussion. I knew there’d be the initial critiques by the governor and Democrats. The minority leader called it a flat tax scheme, even though a lot of our neighbors, three of our four neighbors, have that scheme in place.
The governor keeps critiquing it saying, it’s tax cuts just for millionaires and billionaires. But this isn’t just for Aaron Rodgers and Alex Lasry. It’s for the main street businesses, all hardworking families in Wisconsin.
I thought it was important to get that discussion started early as we’re entering the budget. If this isn’t ultimately where the Legislature ends up over a four-year plan, if we can get a two-year plan to start down that path and then work on it in the next budget to keep moving forward, that’s a great thing. I just thought it was important to get the discussion started early and just to highlight and map out how it can be done.
Mike: And so, I guess we’ll see how it progresses. Are you hopeful that people are at least going to be able to sit down, not just the Senate and Assembly, but the governor, to at least talk things through here in the days to come?
Devin: I hope so. We control the purse strings. I know the governor wants to get a lot done in the budget. There’s a lot of money at stake, frankly, with the surplus we have and the new revenue. I think we’ll be willing to maybe spend a little more than we want to in other areas in order to make some truly historic reform changes to our tax code.
Mike: It’s a huge opportunity. Anything else you want folk to know, either about taxes or anything else, Senator?
Devin: No. Just thank you for your work on the topic and I look forward to seeing what we can get done this session.
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