States Fear Double Whammy From Tax Plan
The New York Times
January 8, 2003
By MICHAEL JANOFSKY
DENVER, Jan. 7 - President Bush's call to eliminate taxes
on corporate dividends, a centerpiece of his economic plan, is raising alarm
among state and local officials who say it could add to the growing
budget pressures on states and cities.
Budget experts were still reviewing numbers today, but
said the provision on dividends would cost state and local governments
tens of millions of dollars a year in lost revenue.
The states fear they will lose in two ways. Because state
income tax laws are tied to the federal law, the states will also stop taxing dividends.
In addition, the removal of taxes on dividends makes stocks a more
attractive investment vehicle than the traditionally tax-free municipal
bonds.
Over all, the officials said the potential losses far exceed the
$10 billion in state aid included in Mr. Bush's 10-year plan, much of which is
earmarked to help the unemployed.
"Clearly, this was not the intended effect of the plan," Bill Pound,
executive director of the National Conference of State
Legislatures, said of Mr. Bush's proposal. "If the goal is to
stimulate the economy through business activity and bring
back states more rapidly, this was, perhaps, an unintended consequence."
Phil Angelides, the California treasurer, said, "there is no question" that
the Bush plan would cost states more and drive investors "away from
bonds that broadly benefit the public at a time we have enormous
infrastructure needs."
The National Governors Association said in a statement that
because Mr. Bush's plan did not include "direct flexible assistance" to states, it
would "exacerbate the current state fiscal problem."
The sluggish national economy has left many states and cities reeling.
Data compiled by the National Conference of State Legislatures shows
that 43 states are operating in the red, led by California, which is facing
a $34 billion budget gap for the next 18 months.
Over all for 2004, the states are facing their largest shortfall in half a century,
as much as $85 billion, a study by the Center on Budget and
Policy Priorities shows.
The financial pressures have led to intense debates in many legislatures
over how to balance spending cuts and new taxes to wipe out
deficits. At the same time, cities are begging states and the federal
government for money to cover costs of security measures since the 9/11
attacks, vaccines and long-delayed capital improvements.
Mr. Bush said today that his plan would kick-start the sputtering
economy and produce new jobs, a stimulus which would also help states
with their own budget difficulties.
The worry of states and cities, analysts said, is that the 41 states
that have personal income taxes will automatically lose state revenues as a
result of the federal decision to stop taxing corporate dividends - unless
they enact their own changes in tax law to keep them from
automatically following the federal government's lead.
That is because state income tax laws generally parallel the
federal system. Recently, the economic slowdown has prompted many states to
break from custom by passing tax laws that preserve their own revenue streams.
For example, after Congress in 2001 approved a 10-year plan
to phase out the federal estate tax, 16 states decided to continue collecting
such taxes.
Iris Lav, a policy analyst with the Center on Budget and Policy Priorities,
estimated that the elimination of dividend taxes would cost states a
combined $4.5 billion.
Even if states wanted to continuing collecting the tax, she said,
they might find it almost impossible to do it because after eliminating
dividend taxes, the Internal Revenue Service would no longer
require taxpayers to fill out forms listing their dividends. Since states use the
same forms to calculate dividend income, "there's a high likelihood they
won't be able to because there would be no paper trail," she said.
Despite such difficulties, dire economic conditions are likely to lead
many state legislatures to find ways to continue collecting dividend
taxes, the executive director of the Federation of Tax Administrators,
an association of state agencies, Harley Duncan, said .
"Given the states' fiscal affairs," Mr. Duncan said, "I think they will go their own way on this."
State and city officials also said they were concerned that eliminating
dividend taxes would make municipal bonds a less attractive option for
investors. Such bonds, which offer tax-free dividends, are a lifeline to cities
and states, which use them as a way to finance expensive
projects, like school construction and highways. They are viewed as
a safe haven for many investors even if their yields are modest compared
with those offered by stocks in more robust times.
But under the Bush plan, bonds would have to compete with tax-free stocks,
a race that probably would force state and local governments to
increase interest rates, driving up pressures on budgets to service the debt.
"It's another loss of revenue for cities, which are getting hit, hit and hit
again with more inopportunities to collect money," Susan Gaffney of
the Government Finance Officers Association said of the president's plan.
"There don't seem to be a lot of provisions that address the needs
of state and local government."
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