Rhode Island Revelation February 10, 2006; Page A18
Let's hope James Carville, Robert Rubin, Nancy Pelosi and other national Democrats are all sitting down for this one: The Rhode Island legislature is considering a flat tax, and the proposal comes from its majority Democrats.
That's right, last week Ocean State Democratic leaders proposed an optional flat rate income tax of 5.5% as an alternative to the current "progressive" tax schedule, which imposes rates ranging from 3.75% to 9.9% for the highest earners. The flat tax is part of a more comprehensive reform plan that would also include a sales tax holiday weekend in August and a full week of relief on "energy efficient" items in March 2007 from the state's 7% sales tax.
And listen to how House Speaker William Murphy pitched the idea at a news conference: "The ultimate goal is to put more money directly into people's pockets both by giving relief to those who need it and by making Rhode Island a more attractive place for business that will provide high-paying jobs for more Rhode Islanders." What's going on here? Have the state's liberals all taken Art Laffer happy pills?
The answer is tax competition, and the discovery that Rhode Island's high tax burden is damaging its economy. Just as the countries of the former Soviet bloc have passed flat taxes to make themselves more competitive, Rhode Island politicians are hoping the idea can help them stop their most talented workers and growth industries from going elsewhere.
In a recent survey by the Boston-based Beacon Hill Institute -- which measured the economic competitiveness of states based on their ability to generate income and growth -- Rhode Island ranked 37th, or well behind Massachusetts, Vermont, New Hampshire and Connecticut, which were all in the top 20. Only two years ago, Rhode Island ranked 22nd in the same survey.
The Democrats noted in their press release that Rhode Island's current top marginal income tax rate of 9.9% is among the highest of the 41 states with broad-based income taxes. They also cited a study that showed this high marginal rate "might be having an effect on the retention of wealth in Rhode Island by causing retirees and companies to move to states with lower taxes, and causing large companies with multiple locations to put their highest earners somewhere other than Rhode Island."
That "somewhere" else is often just up the road in Massachusetts, which has a 5.3% flat tax. One reason the Bay State, once known as Taxachusetts, cut its tax rate was to be able to compete with nearby New Hampshire, which still has no income tax at all. Bay Staters were moving to southern New Hampshire in droves, taking their tax dollars and high-tech know-how with them.
Rhode Island currently piggybacks the already complicated federal tax system -- residents pay the state 25% of their federal tax liability -- which further increases complexity and costs on businesses and individual filers. By contrast, the proposed flat tax would be levied on adjusted gross income (AGI) with no deductions, exemptions or credits. The fairest taxes are not only simple but are levied on the broadest base possible. And working off AGI is both.
All of this ought to be especially instructive to national Democrats, who typically confront tax cuts with garlic and crosses. It's especially useful to have liberals underscoring that marginal income tax rates matter to incentives, and can drive both investment and workers into lower-tax venues. California and New York liberals still haven't figured that out.
Rhode Island Republicans, including Governor Don Carcieri, were also caught off guard by the Democrats' proposal and now sound like Beltway Democrats in raising objections. House Minority Leader Robert Watson has said he'd like to know how the Democrats "plan on paying for these tax cuts." A spokesman for the Governor had a similar cart-before-the-horse mentality, telling the Providence Journal that "the governor hopes to work with the General Assembly to make the spending cuts necessary to enact real tax relief."
But opposing good policies out of partisanship isn't going to make Rhode Island a more attractive place to work and invest. Tax cuts will. Republicans might try congratulating Democrats for their supply-side revelation, and then join them in doing right by taxpayers.
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