President Donald Trump’s tax-reform plan is in total a very expansive steaming pile of irresponsibility — and the president’s argument that it will lead to sustained 6 percent economic growth is pure fantasy — but it does have one attractive provision: raising taxes on blue-state progressives.
The plan would eliminate the deductibility of state and local income taxes for federal tax purposes. In the highest bracket, Californians are paying 13.3 percent in state income taxes, and that money comes off the top when those high-earning Silicon Valley types are calculating federal taxes. In New York City, the Wall Street guys are paying 8.82 percent to the state and another 3.876 percent to the city, which lowers their taxable federal income by almost 13 percent on the marginal dollar.
Eliminating deductibility for state and local income taxes is of course politically satisfying for mean-spirited conservatives such as myself — it constitutes a very substantial tax increase on the sort of well-kept and comfortable lefty Californians and New Yorkers from whom we tend to hear more than maybe we really want to on all sorts of political issues. Rich Democrats in Santa Monica and on the Upper West Side think we should have higher taxes, and we knuckle-dragging right-wingers down in Texas and Florida disagree. This way, everybody gets what he wants.
Getting rid of state-tax deductibility is also good policy.
Like the mortgage-interest deduction, which the Trump plan unfortunately keeps (the president loves his real estate and is the self-proclaimed “king of debt”), the deduction for state and local taxes was intended to be a benefit to the middle class, i.e., the salt-of-the-earth voters who simultaneously are strongly in favor of an active welfare state and strongly disinclined to pay for it. (American progressives who favor European-style social-welfare systems should take a look at the middle-class tax rates in Sweden or Norway, and then imagine the howling American mob they would face if they tried to replicate that necessary aspect of Eurotopia at home.) The entitlement-hungry/tax-averse middle class could use a kick in the shins — if you want to take the ride, you’ve got to buy the ticket — but in reality the state-tax and mortgage-interest deductions mainly benefit higher-income households. That’s not surprising: High-income households make a lot of money, often have larger mortgages (at least in absolute terms), and, to no one’s surprise, pay most of the taxes, both at the federal level and at the state and local levels. If you are paying the highest rate in California, you have a seven-figure income, so that deduction is really helpful against your federal tax burden. Less so if you make $50,000 a year.
The federal government uses the tax code for all sorts of social-engineering purposes: to encourage and subsidize investment in manufacturing or green-energy businesses, to reward charitable giving, to encourage homeownership. The federal government is not very good at social engineering: Its efforts to help low-income Americans with bad credit borrow money to buy houses they could not afford was a significant contributor to the subprime meltdown and financial crisis of 2008–2009. Encouraging homeownership through subsidizing mortgage interest (which is what that deduction actually does) can encourage the wrong kind — the low-equity, high-interest kind — of homeownership. Likewise, offsetting state income taxes encourages states to jack up their levies: Because some costs are passed on to the federal treasury, Sacramento can get $1 in state income-tax revenue at a real cost to California taxpayers of less than $1.
That’s back-door tax-code welfare for big-spending Democrats.
The federal government really should not use the tax code to encourage or discourage any kind of behavior. It should use the tax code to raise the money necessary for the operation of the federal government in a way that minimizes economic damage and market distortion.
You don’t want to say this out loud in Texas, but it is not necessarily a bad thing for states to have income taxes, or even high income taxes. Different states fund their operations in different ways, and different states require different kinds of government. Massachusetts is not very much like Wyoming. Texas is very happy not to have an income tax, but its effective property tax rate is about twice California’s.
The states are responsible for themselves, and Californians and New Yorkers can and should be expected to pay the full cost of the governments they elect and the policies they support.
Of course, some states manage to offer the worst of both worlds: New Jersey residents pay high income taxes and high property taxes, as do the poor people of benighted Connecticut and eternally misgoverned Illinois. But, you know what? They have elections in those states.
The federal government should take a neutral stance on how states choose to fund their governments. Some have higher income taxes, some rely on property taxes. Some have higher sales taxes, and a few have no sales taxes at all. That really is not any business of the U.S. Treasury’s.
Conservatives and libertarians make a hobby out of dreaming up replacements for the current federal tax system — a national sales tax, a VAT, the so-called Fair Tax, financial-transaction taxes, etc. — and the tax code is in need of reform. But, realistically, what we have is what we’re probably going to have for the foreseeable future, at least in terms of the general revenue architecture: taxes on individual and business income, taxes on investment income, and certain excise taxes. The best, most direct, and most conservative course of action is simplifying the tax code we already have, reducing the number of brackets (down to one, preferably), and removing the various corporate-welfare and social-engineering schemes inserted into it over the years.
The states are responsible for themselves, and Californians and New Yorkers can and should be expected to pay the full cost of the governments they elect and the policies they support. The states remain, after all, sovereign, the dual sovereignty of the states and the federal government being one of the unique features of American government. That dual sovereignty has been eroded in past decades, and not only by the nationalizing passion of the progressives. In the midst of all this ghastly new talk of “nationalism” on the right, you can barely hear voices issuing forth from the graves of Thomas Jefferson and Samuel Adams, saying: “No, thanks!” But we have not gone so far down that road that the states have been reduced to mere administrative subdivisions of the federal government — even if they’ll ask to be treated as federal dependents when their unpayable pension bills come due.
California is very expensive by American standards and a bargain by world standards. As it turns out, people are pretty good at figuring that out: California has for some years been losing its native-born population to the other 49 states, but those emigrants are more than replaced by immigrants from around the world, many of them from places that make California look lightly taxed and well governed. (Which it is, by comparison with India or Venezuela.) That isn’t how I’d do things if I were the Emperor of Malibu, but Californians, so far, seem to be content with their own way of doing things. Let California be California.
And let Californians pay for it.
An Anti-Growth Tax Cut