Missouri lawmakers, haggling over tax cuts in a special session this month, know they can buy popularity with timely election-year largesse.
They should be reminded, however, that how they structure the cuts can help or hinder the state’s economy.
A growing body of research shows that changes to a state’s income tax rate are very important for entrepreneurs who start businesses, create jobs and create wealth.
Economists Enrico Moretti of the University of California and Daniel Wilson of the Federal Reserve Bank of San Francisco discovered that star scientists are particularly mobile — and particularly sensitive to changes in the top tax rate. Joshua Rauh of Stanford University found that a California tax increase in 2012 accelerated emigration high state income.
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Missouri’s highest rate of 5.3% is not particularly high. California charges high earners 12.3%, New York 10.9% and Minnesota 9.85%. Governor Mike Parson’s proposed cut to 4.8%, however, should help attract and retain innovators who are creating jobs in areas such as agricultural science, healthcare and geospatial technology.
“You have St. Louis building a better ecosystem for innovation and entrepreneurship,” said Aaron Hedlund, associate professor at Purdue University and chief economist at the Show Me Institute. “It would be like kerosene added to that.”
In contrast, a competing proposal to send $325 rebate checks to Missourians would not change the incentive for would-be entrepreneurs to invest, build or hire in the state. Parson vetoed a repayment plan this spring, but some lawmakers are trying to revive it in the special session.
Anything that puts money in taxpayers’ pockets has value, Hedlund said, “but if we’re talking about what we really need to do, which is to increase growth in the state, the more you can reduce the marginal rates, the better.”
The Show-Me Institute, whose billionaire founder Rex Sinquefield is a longtime advocate for eliminating Missouri’s income tax, isn’t the only think tank that thinks a lower marginal rate is feasible.
The Missouri Budget Project, a nonpartisan organization that tracks state spending, developed a tax reduction plan with the same maximum rate of 4.8% as that of Parson, but with a lower overall cost, 586 million dollars instead of 700 million dollars. His proposal also boosts some credits for low-income people who wouldn’t benefit from Parson’s plan.
The savings would come from closing a loophole that allows certain taxpayers, who organize their business as a general partnership or a limited liability company, to escape tax on 20% of so-called “pass-through” income “.
Traci Gleason, vice president of external affairs for the Missouri Budget Project, said the flaw “encourages companies to game the system, and there’s no good justification for that.” Missouri passed the tax break in 2014, copying an even more generous Kansas law that later caused serious budget problems in that state.
The ideal tax system is one that finances public services with the widest possible base and the lowest possible rate. Going forward, Missouri should look for other ways to reduce its thicket of special interest deductions and credits, perhaps with a view to lowering the tax rate even further.
For now, a drop to 4.8% would be a good start. Politicians may like the message that rebate checks deliver to voters’ mailboxes, but economists prefer the message that a lower tax rate sends to innovators who decide where they want to live, work and invest.
In today’s world of work from anywhere, the competition to attract entrepreneurs and knowledge workers will only intensify. Missouri shouldn’t miss this chance to send a positive message.