Tax reformers wasting time in Olympia

Recycle bins in Olympia rarely empty. Legislators continue to rummage through them, hoping yesterday’s discards may make sense today.

Voters are often forgetful and forgiving beings (how else do you explain Newt Gingrich?), so a little repackaging might revive previously rejected ideas. Moreover, in tax policy there are few new cards to play.

Already this session the entire deck has been dealt, including the jokers. Income, business, petroleum and sales tax bids are on the table. The ideas have gained about as much traction as bald tires on icy roads. But since you never know when the tread might catch, let’s take a look at some.

A pair of progressive Democrats, Sen. David Frockt and Rep. Chris Reykdal, have put forward the most ambitious package. They dub it the Higher Opportunity Promise for Education (HOPE) Act. It’s an amalgam largely drawn from past wish lists: eliminate the state business &occupation tax, cut the state sales tax rate and extend it to personal and professional services, impose a 1 percent income tax on individuals and families, and a 1 percent tax on business profits. They think the legislation could boost state revenues an additional $500 million a year.

Both the policy and the numbers are squishy. You might call it a work in progress, assuming it progresses.

In 1993 then-Gov. Mike Lowry tried to extend the sales tax to professional services. He met stiff opposition. Ultimately, the legislature backed the devil it knew and boosted B&O rates.

There are good reasons most states do not put the sales tax on business services. Legal, accounting, engineering, and other professional services are inputs, elements of production. Taxing inputs means the same transaction will be taxed several times before the product reaches the consumer, a problem economists call “pyramiding.” Ideally, the retail sales tax should only be imposed once, on final consumption. Large firms can reduce the distortion by bringing services in-house; small businesses cannot and will be most adversely affected. Those with choices will do business out of state. Washington businesses would face a competitive disadvantage.

There are other concerns. Access to the justice system, for example, is reduced when people struggling with divorce, bankruptcy, foreclosure or criminal charges find a sales tax tacked onto their legal fees. Increasing engineering or architect costs imposes an additional drag on the hard-hit construction industry. Carving out exceptions to the tax to preserve access or promote business activity will reduce revenues.

With respect to income taxes, a 1 percent flat rate clearly makes more sense than the skewed “millionaire’s tax” voters trounced in 2010 and may avoid the constitutional problems posed by a graduated tax. Regardless, many will see the proposal as a step toward the steeply progressive income taxes backed by liberal groups and labor leaders. Although a broad-based flat-rate tax can be relatively stable, a profits tax would be much more volatile than the B&O tax.

For real instability, though, you want to tax capital gains, as proposed by Rep. Laurie Jinkins, D-Tacoma. Her bill would impose a 5 percent tax on capital gains, which she told The News Tribune would raise from $215 million to $650 million a year, depending on the economy.

Evaluating California’s budget woes, Josh Goodman recently wrote in Stateline, “Forecasting capital gains is notoriously difficult … capital gains can rise and fall suddenly, independent of the expansions and contractions of the economy.”

Gov. Gregoire considered and rejected the idea, noting that without a state income tax there’s no easy way to collect it quickly. So she settled on a sales tax hike as the only feasible route to rebuilding revenues rapidly. She’s right, though she’s yet to rally public or legislative enthusiasm.

The would-be reformers acknowledge their plans won’t raise money now. Whatever their long-term objectives, they appear to be in denial regarding the budget crisis. Gregoire understands the urgency. While voters may eventually decide to change the tax structure, that’s a debate for another day. With the budget bleeding red, in a short, election-year legislative session lawmakers must address the proximate problem. Attempts to resuscitate rejected policies do nothing to help with the present shortfall. They’re detours and distractions for which we have no time.

Richard S. Davis, president of the Washington Research Council, writes on public policy, economics and politics. His email address is rsdavis@simeonpartners.com.