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Thursday, May 18, 2006

Dual Tax Rate?

By Sarah Wilhelm, PhD [Guest Blogger]
Fiscal Policy Director
Voices for Utah Children

Tax policy objectives, which are widely accepted as sound criteria for a good tax system are:
  • Transparency
  • Simplicity
  • Revenue Adequacy
  • Equity
  • Efficiency
I appreciate the work of good people trying to generate sound tax policy. It's just a matter of time before we find the magic bullet that works for everyone.

However, the proposed dual tax system fails to improve any of these criteria over our current system. A dual tax system that allows a taxpayer to chose which tax system is most beneficial will make the system more complex, will jeopardize revenue adequacy, make the system less transparent, result in unequal treatment, with increased costs of compliance and administration. Such a system will also not achieve the stated goals of tax reform, to stabilize funding for education and lower the states top marginal rate.


The dual system will increase the compliance costs for tax payers as they will have to calculate their tax liability under both systems, or pay someone to do it, to determine which system is the best for them. The tax commission has already indicated having a dual system will be more costly to administer. Legislatively maintaining two tax systems will be twice as difficult as economic situations, state priorities and federal laws change.

Revenue Adequacy

The dual tax system will make projecting revenue much more difficult. Revenue projections are more likely to be inaccurate making budgeting more difficult. Utah currently has an excellent track record in projecting revenue for the future enabling the Legislature to create budgets with minimal corrections. The cost of the plan will also negatively impact the states ability to adequately meet educational funding needs.


The dual system obscures transparency. It will no longer be clear which income is subject to tax and which protected or rewarded with credits and deductions. Depending on which system you choose for the year in question you could have large variations in potential individual liability and state revenue. The dual system would obscure what was happening with state revenues until after legislative decisions would be required to be made.


Those in identical situations could be taxed very differently. Equity would require that similarly situated taxpayers be treated similarly. The flat tax system would provide a substantial tax cut to those making over $250,000, whose effective tax rate* averages 5.45%. They would now be able to pay 4.8% under the flat tax system. Currently those making over $280,000, the top 1% of taxpayers, pay the least percent of their income in state and local taxes compared to all other income groups. Providing a tax cut to the wealthiest 1% would make Utah’s currently already regressive tax structure even more regressive and further push the burden of funding the states education system onto those in the middle class.


The dual tax system could magnify the effect of the tax system on economic behavior. For example, a taxpayer who has a change in their mortgage interest deduction may change to the flat tax system thus changing the costs of donating to charity, adopting a special needs child, and purchasing an alternative fuel vehicle. In addition, a duel system would be inefficient to administer, and would increase compliance costs as individuals spend more time, effort and money to determine which system would allow them to minimize their tax liability under a given set of circumstances.

* Effective tax rate is the percentage of your total income you pay in taxes. If your income is $100,000 and you pay $5,000 in taxes, your effective rate is 5%. The effective rate can be very different than the published or marginal tax rate due to deductions and credits. In a pure flat tax system with no deductions, the marginal rate, the published rate and the effective rate would all be the same.


Anonymous Young Families in Utah said...

Excellent article Sarah, very informative and interesting. You are correct; a dual tax system is very primitive and, sorry to say it, a foolish idea.

Finally, someone has explained some terminology that I can use to voice my thoughts concerning the flat tax policy.

Now I don’t consider myself poor by any means; however, because I am just starting out – you know; found a spouse, had two kids, and bought a house; it is a little tough to make ends meet. I am opposed to the flat tax system, unless it really gave me some sort of break – which it will not from what I understand.

With all of my deductions in relation to my income, my federal tax liability was zero in 2005; strangely however, my effective tax rate for the state of Utah was 2.8%, while the marginal rate was 5.7% and the published rate was 6.4%.

Thus from what I understand about the flat rate system, if the effective tax rate, marginal rate, and the published rate are 4.5%, then I would have paid 1.7%* more in Utah taxes in 2005. Here I am, with zero federal tax liability and the state of Utah is suggesting raising my taxes! I vote for the graduated scale, as a young up and comer, I need to keep as much of my own money as possible to feed my family and pay for the gas to get to work and school.

I urge the legislature to think carefully before it goes and raises taxes on the young families starting out in the state of Utah

Note: I don’t claim to be any sort of mathematician, so if my calculations are as off as those of the Utah State Tax Commission, please let me know.

* 4.5% flat rate without deductions - 2.8% effective tax rate on total income = 1.7% more in Utah taxes

5/18/2006 5:40 PM  

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