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Research & Commentary: Arkansas Income Tax Reform

November 11, 2016

In this Research & Commentary, Matthew Glans discusses a new tax cut proposal being considered in Arkansas.

A new proposal that would lower Arkansas’ personal income tax rate was recently unveiled by state Sen. Bart Hester (R-Cave Springs). In a press statement, Hester argues the state can and should cut taxes by as much as $105 million per year during the 2017 legislative session. Hester’s plan would provide income tax relief for approximately 600,000 Arkansans.

The proposal would expand the 5 percent income tax bracket for taxpayers making $21,000 to $35,000 to those making $25,000 to $50,000 a year. The 6 percent tax bracket, which currently covers those earning $35,000 to $70,000, would only apply to those earning $50,000 to $75,000.

Higher income earners would also see a modest cut. Those making more than $75,000 would get a 0.1 percent reduction in the top rate from 6.9 to 6.8 percent. The savings per bracket ranged from $488 saved at the sub-$21,000 bracket to $220 for those in the above-$75,000 bracket.

The plan also includes a one-time 1 percent reduction in income taxes for first-year teachers and police officers.

Personal and corporate income taxes are generally considered to be the most destructive taxes because they disincentivize production, innovation, and risk-taking. Recent studies have shown states with no income tax or with lower income taxes perform better economically and achieve greater job and population growth than those with higher income taxes. High income and business taxes deter economic development by discouraging higher-income-earners and new capital from moving into a state, remaining there, or investing their money. A study by the Americans for Tax Reform Foundation found, “Each positive 1 percentage point tax burden differential between states decreases the ratio of income migration into the high-tax state by 6.78 percent in a given year.

Any tax cut must account for a potential loss of revenue, which is particularly important for Arkansas lawmakers to considers because like many states, Arkansas’ government has a spending problem. According to the National Association of State Budget Officers (NASBO), between fiscal years 2014 and 2015, total government spending in Arkansas increased by around $1 billion, from $22.6 billion to an estimated $23.6 billion in 2015. NASBO estimates Arkansas’ total estimated government spending in fiscal year 2015 was the third-highest among Arkansas’ neighboring states.

Reducing the tax burden on individuals and businesses is good public policy. States should lower and flatten their tax systems so there are as few tax brackets as possible. States can start lowering corporate taxes by eliminating corporate tax exemptions, subsidies, and credits, thereby creating a fairer, more stable fiscal system for state governments and promoting long-term growth for all industries.

A state’s tax policy should focus on bringing in enough revenue to cover the costs of necessary functions of government in the least economically distorting way possible. Income taxes are among the most disruptive factors affecting economic growth. Maintaining a complex income tax code imposes high administrative costs on the government and high compliance costs on businesses and individuals. They also discourage capital from flowing into a state and hinder the creation of new jobs. Cutting the income tax would improve Arkansas’ economic competitiveness by leaving more money in the pockets of the state’s citizens and businesses to spend, save, and invest.

The following documents examine income tax reform in greater detail.


State Individual Income Tax Rates and Brackets for 2016
http://taxfoundation.org/article/state-individual-income-tax-rates-and-brackets-2016
Nicole Kaeding of the Tax Foundation analyzes the most up-to-date data available on state individual income tax rates, brackets, standard deductions, and personal exemptions for both single and joint filers.

Ten Principles of State Fiscal Policy
http://heartland.org/policy-documents/ten-principles-state-fiscal-policy
The Heartland Institute provides policymakers and civic and business leaders a highly condensed, easy-to-read guide to state fiscal policy principles. The principles range from “Above all else: Keep taxes low” to “Protect state employees from politics.” 

Policy Tip Sheet: Spending Reforms
https://www.heartland.org/publications-resources/publications/policy-tip-sheet--spending-reforms
The Heartland Institute outlines several reforms state legislators can undertake to address spending problems, including privatization, tax and expenditure limits, and retirement reforms. 

Rich States, Poor States
http://www.alec.org/publications/rich-states-poor-states/
The eighth edition of this publication from the American Legislative Exchange Council and authors Laffer, Moore, and Williams offers both individual-state and comparative accounts of the negative effects of income taxes. 

What Is the Evidence on Taxes and Growth?
https://www.heartland.org/publications-resources/publications/what-is-the-evidence-on-taxes-and-growth
In this Tax Foundation study, William McBride examines the effects of tax policy on economic growth. He finds the literature on the topic demonstrates long-term economic growth is to a significant degree a function of tax policy. If governments seek to spur investment, he writes, they should lower taxes on the earnings of capital. If they seek to increase employment, they should lower taxes on workers and the businesses which hire them. The report also includes a discussion of the effects of progressive tax systems. 

State Budget Reform Toolkit
https://www.heartland.org/publications-resources/publications/state-budget-reform-toolkit
The American Legislative Exchange Council outlines a set of budget and procurement best practices to guide state policymakers as they work to solve the budget shortfalls. The toolkit will assist legislators in prioritizing and more efficiently delivering core government services by advancing free markets, limiting government, and promoting federalism and individual liberty. 

State Income Taxes and Economic Growth
http://heartland.org/policy-documents/state-income-taxes-and-economic-growth   
Barry W. Poulson and Jules Gordon Kaplan explore the impact of tax policy on states’ economic growth within the framework of an endogenous growth model. They used regression analysis to estimate the impact of taxes on economic growth in the states from 1964 to 2004, and they found higher marginal tax rates significantly suppress economic growth. 

The Historical Lessons of Lower Tax Rates
http://www.heritage.org/research/reports/2003/08/the-historical-lessons-of-lower-tax-rates  
Examining the historical results of income tax cuts, Daniel Mitchell of the Heritage Foundation finds a distinct pattern throughout American history: When tax rates are reduced, the economy's growth rate improves and living standards increase.

 

Nothing in this Research & Commentary is intended to influence the passage of legislation, and it does not necessarily represent the views of The Heartland Institute. For further information on this and other topics, visit the Budget & Tax News website, The Heartland Institute’s website, and PolicyBot, Heartland’s free online research database.

The Heartland Institute can send an expert to your state to testify or brief your caucus; host an event in your state; or send you further information on a topic. Please don’t hesitate to contact us if we can be of assistance! If you have any questions or comments, contact John Nothdurft, Heartland’s director of government relations, at jnothdurft@heartland.org or 312/377-4000.

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Author
Matthew Glans joined the staff of The Heartland Institute in November 2007 as legislative specialist for insurance and finance.