Quick Budget Reactions: Taxes

Orphe Divounguy, Ph.D. Feb 06, 2017

Gov. Kasich’s proposed FY 2018-2019 biennial budget advances several tax policy changes. These changes:

1. Ease the burden of tax compliance by shrinking the number of tax brackets and simplifying tax filings for Ohio businesses.

Reducing the number of brackets should cause tax revenues to increase. Economists have found that a less complex tax code often reduces tax avoidance because having fewer brackets reduces the cost of compliance for businesses while simultaneously increasing the ease with which authorities can enforce the tax code.

2. Increase the state income-tax personal exemption for low- and middle-income Ohioans.

Increasing the state income-tax exemption for low- and middle-income families will have modest, positive effects on the incentive to work. However, this reform will also cause tax revenues to decrease because, as economic research has repeatedly shown, people in lower income brackets are less responsive to income tax reform than individuals who earn $100,000 or more. Self-employed individuals, women, and senior citizens tend to be more responsive to tax policy changes when deciding whether or not to work.

3. Steer Ohio toward a consumption-based tax system by broadening Ohio’s sales tax base to include certain discretionary services, such as cable TV subscriptions, elective surgical procedures, landscape and interior design, and travel agent services. This package also includes a one half percent increase in the state sales tax rate from 5.75% to 6.25%.

Broadening the sales tax will have a positive effect on tax collections. However, the increase comes at the expense of Ohio families and businesses. By effectively raising the price of some goods and services, sales taxes may have a small negative effect on economic activity. However, the state must raise tax revenue somehow, and sales taxes are generally less harmful to economic growth overall than taxes on work and investment. The application of the sales tax to specific industries should be closely examined, as should the impact the rate increase will have on border communities that abut neighboring states with lower sales tax rates.

These three tax reforms represent a sound general direction for policy.  However, government should not be in the business of penalizing nor rewarding select sectors, businesses, or industries—as happened with the Kasich Administration’s proposed severance tax increase and new taxes on the vaping industry.

To summarize, Ohio should pay for income tax reform and reductions through greater cuts to government spending in order to spur a larger positive economic impact. After factoring in other tax increases, the resulting net tax cut is estimated at a relatively small $39 million. The personal income tax reduction should be larger to avoid it becoming a tax shift than an actual cut.