Bottom line: budget surplus isn't great news for taxpayers

from NewsLink, Volume 1, No. 1, Fall 1996

Under a proposal now before the legislature, state income taxpayers may keep more of what they earned in 1996. In bottom line terms, this "tax cut" is worth approximately $135 for married couples, $105 for heads of household and $67 for single filers. Last September, Governor William F. Weld and Lt. Governor Paul Cellucci announced that another $84 million would be available for the "first ever automatic income tax cut" -- bringing the total amount to be refunded to $234 million.

The cut is mandated by a 1986 law that says any state surplus must be returned to the taxpayer in the following year. After putting aside money in the state's "rainy day" fund last July, the legislature appropriated $150 million to this tax cut. The additional $84 million awaits legislative action.

If the legislature acts to return the money rather than spend it, taxpayers will be able to claim the money by virtue of a larger personal exemption on 1996 tax forms.

This is supposed to be good news for taxpayers but it isn't.

The budget surplus and the "automatic tax cut" are signs that the income tax rate of 5.95 percent has been too high. In other words, state government has been taking too much money out of the private economy. The good economic news will come when the legislature lowers the tax rate as it did in 1991 when it let the 6.25 percent tax rate, which earlier passed as a temporary tax, fall to 5.95 percent. Then, the legislature, under the Governor's watchful eye, fought off efforts to freeze the higher 6.25 rate.

A once-and-for-all increase in the personal exemption would put some additional spending money in taxpayers' pockets -- not, in and of itself, a bad thing, but also not conducive to job creation and economic expansion. An equivalent, permanent reduction in the state income tax rate would, on the other hand, expand the economy by creating incentives for employers to create new jobs.

According to the Beacon Hill Institute's tax modeling program, STAMP, the legislature could spur the creation of 19,900 to 27,800 new jobs and bring about $1.4 to $2.1 billion in new capital spending by permanently cutting the tax rate, rather than temporarily increasing the personal exemption. The permanent rate reduction would also increase the annual wages of Massachusetts workers by $667 to $932 million per year.

Some pundits want us to see a surplus in the state budget as a sign of success -- as a kind of "profit" that government has been able to turn through good management of its fiscal resources. Raising the personal exemption as a way of refunding this surplus is then presented as a kind of dividend that taxpayers get to enjoy thanks to the government's good management.

The other side of the story is that taxes are an evil made necessary by the need for government to spend a certain amount of money. They create disincentives to job creation and capital spending. A surplus in the government budget is, by this interpretation, a sign of bad management, of having let taxes and thus the disincentives they create become higher than necessary. The Massachusetts legislature could correct this by permanently reducing tax rates before a surplus is allowed to materialize.

NewsLink is the quarterly newsletter of the Beacon Hill Institute for Public Policy Research at Suffolk University.
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