First the “why.”
The plan passed by Joint Finance late Thursday saves taxpayers $3.5 billion over two years, money that came from them in the first place because they’re currently overtaxed.
We are 38th among the 50 states on individual income tax rates (1 being best), according to the Tax Foundation. Our top rate of 7.65% is one of the highest in the entire country between the coasts. In fact, only Minnesota has a higher top rate anywhere in the middle of America.
That’s a big part of the reason our GDP is low in comparison to Midwest neighbors, our business growth is slow and our population — especially among working-age folks — is stagnant.
The only real question is who to “give” all that money back to through future savings.
We currently have four rates: 7.65%, 5.30%, 4.65% and 3.54%. The package passed Thursday would decrease that to three by combining and lowering the two middle brackets — which encompass married filers who earn between $36,840 and $405,550 annually — to 4.4%. The bottom rate, where borrowers already benefit the most from a sliding scale standard deduction, would go from 3.54% to 3.5%. And the top rate would be reduced to 6.5% — the subject, of course, of most of the immediate media and progressive reaction.
Reducing that top rate is both fair and essential if we are to prosper as a state for three reasons:
1. Wisconsin’s top rate is uncompetitive
Our top rate is:
- 1.65 percentage points higher than Iowa and, since Iowa is gradually moving toward a flat tax, will soon be almost 4 points higher than theirs.
- 2.7 points higher than Illinois
- 3.6 points higher than Michigan
- 4.42 points higher than Indiana
By standing still, we have fallen farther behind.
2. Economic benefits of tax reform depend heavily on reducing the top rate
Dr. Don Bruce, a nationally known economist, estimated the ongoing economic benefits of a flatter tax structure for Wisconsin — largely driven by reductions for high-income taxpayers, already shown to be most responsive to rate changes.
Moving to a 5.1% flat tax, Bruce estimated, would over the next five years produce:
- $7.2 billion in additional gross domestic product
- $614 million in additional investment
- About 24,000 additional jobs
3. The top rate disproportionately affects most Wisconsin businesses
About 95% of Wisconsin businesses are “pass-throughs” — LLCs, partnerships and sole proprietorships that do not pay the corporate income tax. Instead, their earnings are “passed through” to the owners’ personal tax returns and taxed at the owners’ marginal rate.
As a result, about 67% of the earnings of Wisconsin pass-through businesses are exposed to Wisconsin’s top rate.
“The top marginal rate is the most important rate to reduce because it has a far greater negative effect on economic growth than lower rates,” Tax Foundation expert Katherine Loughead testified to the Assembly Ways and Means Committee in May.
That irrefutable argument works well, no doubt, with conservatives and many independents. But the truth is there are very few pro-growth Democrats left in this state — and the loudest voices on the left are the stalwart progressives.
So here’s the “how” for Gov. Evers:
Blame it on the Republicans, but remind the left that, first, Wisconsin — and America — has an incredibly progressive tax and transfer system and, no matter what happens with individual rates in Wisconsin, will remain that way. Nothing Joint Finance passed Thursday alters the sliding scale standard deduction or the refundable earned income tax credit.
But there is a much bigger context here that everyone — left, right or center — should consider. As I’ve written in recent months, our total tax and transfer system — how much each of us pays in taxes and how much we get back through federal, state and local government transfer programs — is overwhelmingly progressive, according to a fascinating, comprehensive, data-driven study of taxes and transfers done by the Tax Foundation.
On average, American households in the top quintile in 2019 had a total estimated federal, state and local average tax burden of $125,700 — five times as much per household as those in the middle quintile and nearly 23 times as much as the average $5,500 paid by households in the lowest quintile.
The numbers include everything from income taxes to payroll taxes to gas and sales and property and estate taxes — a total, all told, of 28 taxes at the federal, state and local level.
Meanwhile, according to the Tax Foundation, the average household in the bottom quintile received $34,092 in government transfers — everything from housing assistance to Medicaid to welfare programs to unemployment compensation — in 2019. The average household in the middle quintile received $22,510, while the average household in the top quintile received $13,621.
The Tax Foundation isolated those taxes that fund government transfer programs (so only some of the 28 taxes cited above) and found that, after accounting for the cost of the transfer programs, the bottom quintile came out $32,400 ahead. The middle quintile came out $10,200 ahead, and the average top quintile household paid $61,000 to fund transfers to others.
In essence, the top two quintiles were responsible for the income redistributed to the bottom three quintiles, and the top quintile alone was responsible for funding over 90%. America needs rich people.
See my earlier article for more detail, but the point is this: progressivity works in two ways in America — through higher taxes on high earners and by giving a greater share of taxpayer dollars to lower-income households.
As the Tax Foundation notes, states have different roles and challenges than the federal government — namely, “active competition with each other for people, jobs and investment — all of which are considerably more mobile at the subnational than the international level.”
America is irrefutably, overwhelmingly progressive in its total tax and transfer system. And it will remain that way.
But we need to do everything we can in to compete and create opportunity for workers in Wisconsin, and we need to alter the state tax code to do that — or see those high-earners move to other states and leave the rest of us to pay the bills.
For progressives, that means if you want to sock it to the rich, you have to keep them here — and attract more of them.
Mike Nichols is the President of the Badger Institute. Permission to reprint is granted as long as the author and Badger Institute are properly cited.