Three Teams Debate Tax Reform | Eastern North Carolina Now

    Publisher's note: This article appeared on John Hood's daily column in the Carolina Journal, which, because of Author / Publisher Hood, is linked to the John Locke Foundation.

John Hood
    RALEIGH     As the House and Senate negotiate the details of a new state budget, one of their biggest disagreements will be about taxes.

    Just to be clear: both chambers are led by conservatives who generally favor lower taxes and less spending growth than their Democratic predecessors preferred. Both sides embraced the 2013 tax reform bill, signed by Gov. Pat McCrory, that converted North Carolina's multi-rate income tax into a flat-rate tax, eliminated or capped various tax deductions, and reduced marginal rates on both personal and corporate income.

    But now the General Assembly is trying to decide what to do next. Its debates are poorly understood outside the Legislative Building - and sometimes within it - in part because of the erroneous assumption that all conservatives envision the same tax-reform goal. A conservative philosopher of a much different era, the 1st Century A.D., explained the problem well. "Our plans miscarry because they have no aim," wrote the Stoic dramatist and statesman Seneca. "When a man does not know what harbor he is making for, no wind is the right wind."

    Roughly speaking, you can divide Republican lawmakers and other conservatives involved in the debate into three groups. The Fair Taxers seek to abolish North Carolina's personal income tax and substitute a broad-based sales tax on most or all goods and services sold at retail. They point to empirical evidence suggesting that income taxes are more harmful to job creation and income growth than sales taxes are. They also believe personal income taxes intrude on privacy, although this argument works best when the subject is tax reform at the federal level.

    The Flat Taxers would like to continue North Carolina's progress towards a properly structured Flat Tax - which, despite the name, is not only about adopting a single marginal rate but also about defining the tax base properly to avoid the double-taxation of investment income. Thus they either favor universal tax-free savings accounts (imagine unlimited IRAs) or the elimination of taxes on dividends and capital gains earned on investments made with after-tax dollars. They point to states such as Tennessee that appear to have no income tax but in fact have long taxed investment income. Tennessee's economic performance has often lagged behind that of the Carolinas and Georgia.

    Finally, the Balanced Taxers do not share the desire of the other two groups to end an entire category of taxation (such as the personal income tax for the Fair Taxers and the corporate income and capital-gains taxes for the Flat Taxers). Instead, they prefer to maintain a broad portfolio of state revenue sources, even if it means distorting and slowing the economy through double-taxation, because they believe the fiscal and political consequences of the Fair Tax or Flat Tax to be too costly.

    Although the Fair Tax and Flat Tax groups disagree on how best to levy state taxes - indirectly through business collectors or directly to households - they actually agree on the preferred tax base, which is consumption rather than total income. A single equation makes this clear: income = consumption + saving + gifts. These are the only three things a rational person can do with his money (an irrational person can also cash it out and make a bonfire in his backyard, assuming he has the proper permits). The Fair Tax targets consumption by junking income-tax collection altogether. The Flat Tax targets consumption by subtracting net savings and gifts from the income-tax base.

    While the three groups have different end states in mind, they can and do agree on particular policies. The 2013 tax reform, for example, broadened the sales tax base to include some services sold by establishments than already collect sales tax on goods. That's not much of an extra regulatory burden. But as Fair Taxers seek to compel additional people or businesses to become sales-tax collectors, they will lose the support of many Flat Tax and Balanced Tax advocates.

    As may already be obvious, I'm in the Flat Tax camp. I understand the perspectives of the other two groups, however. Those who would follow tax debates in Raleigh must do the same.
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