January 11, 2012

Governor would cut income tax, keep sales tax rate steady

Gov. Sam Brownback is proposing sweeping changes in the state income tax, including eliminating the tax for small businesses and lowering base rates for wage earners, while also eliminating itemized deductions and about two dozen tax credits.

Gov. Sam Brownback is proposing sweeping changes in the state income tax, including eliminating the tax for small businesses and lowering base rates for wage earners, while also eliminating itemized deductions and about two dozen tax credits.

The proposal would make permanent the temporary emergency sales tax increase passed two years ago during the Mark Parkinson administration, holding the state sales tax at 6.3 percent.

Brownback’s proposals were outlined in his annual State of the State address, delivered Wednesday at the Capitol to a joint session of the Kansas House of Representatives and the Senate.

In addition to his tax plan, Brownback used the bully pulpit of the State of the State to press the Legislature for previously announced initiatives on school spending, state pension and Medicaid.

The governor says his tax plan will be “fairer, flatter and simpler” than the current system.

“As we modernize our tax code and lower everyone’s rates, it is also time to level the playing field and simplify state taxes by eliminating income tax credits, deductions and exemptions, while expanding assistance to low-income Kansans through programs that are more effective and accountable,” the governor said. “I firmly believe these reforms will set the stage for strong economic growth in Kansas and will put more money in the pockets of Kansas families and businesses.”

The biggest winners in Brownback’s tax plan are owners of and investors in small businesses, including sole proprietorships, limited-liability corporations and subchapter S corporations.

His plan would immediately eliminate all state income taxes on their business profits.

According to materials distributed with the governor’s speech, about 190,000 of the state’s 220,000 businesses would qualify.

For individual wage earners, the tax rate would drop from a maximum 6.45 percent to 4.9 percent, the second-lowest rate in the central plains region, according to materials distributed by the governor’s office.

The lowest income tax bracket rate, for individual taxpayers who earn less than $15,000 a year, would drop from 3.5 to 3 percent under the governor’s plan.

“That’s a big drop, one-seventh, 14 percent,” said Les Donovan, R-Wichita and chairman of the Senate Assessment and Taxation Committee, which will consider the plan. The changes would have to be approved by lawmakers. It is unclear when they might go into effect.

Donovan said the Legislature will need to look at the details of the proposal, but on balance, he thinks it’s a good plan.

It’s time for a change, he said.

“I think it’s pretty exciting. It certainly was a more upbeat State of the State than we’ve heard the last couple of years,” he said. “What we have done the last couple of decades has not been doing that well.”

Senate President Steve Morris, R-Hugoton, said he would reserve judgment until the tax study committee he assembled earlier this fall has a chance to analyze Brownback’s plan along with other plans likely to emerge.

In the Democratic response, House Minority Leader Paul Davis of Lawrence contended that past cuts in general aid to public schools should be reversed.

Last year, at Brownback’s urging, the GOP-controlled Legislature cut that aid nearly 6 percent to help balance the budget. Davis said a commitment to education is “the underpinning of what it means to be a Kansan.”

“People move to Kansas – and people stay in Kansas – because this is a great place to raise a family,” he said in his prepared response. “But no family wants to fork over hundreds of dollars in new school fees or swallow skyrocketing property taxes because the state has neglected to fund their child’s school.”

On Tuesday, Democrats proposed a plan to gradually restore per-pupil school funding cut in recent years and send additional excess funds to local governments to reduce property taxes.

Tax cuts are hoped to drive growth

Brownback is counting on the tax cuts to spur economic development and job-creation in the state, resulting in overall state income at or near the current level.

The approach is designed around the theories of Arthur Laffer, who consulted on the governor’s proposed changes and was chief architect of President Reagan’s supply-side economics.

In addition to increasing state revenue through growth, Brownback proposes to end more than two dozen deduction and tax-credit programs.

Among them are the home-mortgage and charitable deductions for taxpayers who itemize on their state return, plus adoption credits, alternative fuel tax credits, child care credits, earned income credits, historic preservation credits and research and development credits.

The proposed changes would not affect Kansans’ federal income tax returns.

In place of the state earned income credit, which benefits the working poor, Brownback is proposing to double the standard deduction for head-of-household tax filers from $4,500 to $9,000, and increase social-service and health care assistance spending by $60 million.

Revenue Secretary Nick Jordan, who led the effort to develop Brownback’s tax plan, said his department had run various scenarios and the plan would benefit most Kansans.

“We’re not dreaming about great dramatic growth that’s going to cover it, we’re not talking about cutting budgets big to make it work,” Jordan said.

But Jordan did acknowledge that some Kansans will have to pay taxes they don’t pay now, as the plan broadens the tax base. Kansans who now receive an earned income tax credit could find themselves having to pay taxes instead of getting a check from the government at the end of the year.

“We’re still going to help them,” Jordan said. “One, we use part of that money to expand the standard deduction for head of household, which is single-family households, which an awful lot are low-income moms and kids or something. That will help mediate their tax bill. We’re taking the rest of that money out of there and putting it into Medicaid and other programs to help low-income families.”

Joan Wagnon, Jordan’s immediate predecessor as revenue secretary, said eliminating some of the income tax credits and deductions could be a good thing.

But, she said, each one of them has a constituency that will fight to retain them.

“A lot of the things that helped lower income working families are going to be gone,” said Wagnon, who is now chairwoman of the state Democratic Party. “But the benefit is going to go in different directions.”

She said that Brownback’s proposals for school funding and income tax reduction will likely pressure local governments to increase sales and property taxes to provide adequate services.

Varied predictions

Economists varied on what they think the overall effect will be.

Art Hall, director of the Center for Applied Economics at the University of Kansas, said eliminating small-business taxes is a particularly bold move.

He said he thinks it’s a unique approach to targeting tax relief to job-creating small businesses.

“In terms of trying to compete with states that don’t have an income tax, that pushes the right levers,” he said.

He added that he sees it as one step in a long progression of steps to make Kansas more competitive economically, first by lower taxes on capital investment and next, by lowering taxes on business production.

Hall said the plan will be popular with the small-business community, but he’s not sure how well it will play in other segments of society.

Removing the earned income tax credit will likely be controversial because the credit helps keep state tax structure progressive, said Nancy McCarthy Snyder, director of Hugo Wall School of Urban and Public Affairs at Wichita State University.

“That benefits low-income working people,” she said. “It’s generally considered to be a good incentive to get people to work.”

Overall, she said the proposal would likely nudge the state toward a regressive tax structure, which disproportionately taxes lower-income people. She attributes that to cutting the earned income tax credit, eliminating income tax for small businesses and dialing down rates.

“The rate change is clearly advantageous to higher income tax payers compared to those with lower incomes,” she said.

She said cutting income taxes for small businesses could lead to more investments that could create some jobs, though she noted it’s impossible to know what business owners might do with some extra money.

But she urged caution when assuming the impact of taxes on business decisions.

“There’s clearly a point at which taxes are high enough that they discourage business development,” she said. “Whether or not we’re even close to that point isn’t clear from any research I’ve seen.”

Toward the end of his speech, in a nod to the state’s 150th birthday, Brownback introduced Kansas tribal leaders and offered a tribute to Clyde Cessna. He urged Kansans to overcome the loss of Boeing in Wichita.

He said Cessna survived 13 crashes before designing a successful plane and that Kansas needs to bear up like he did.

He cited the announcement of expansion at Bombardier Learjet as the first step toward recovery in the aircraft industry.

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