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I reject ... the idea of a city income tax. I think that’s not the right way to go...Chicago Mayor Rahm Emanuel, responding Wednesday to questions about how the city will shore up its sagging pension funds
I reject the idea, too, just as I reject the idea of state and federal income taxes, property and sales taxes. I want government somehow to pay for itself, or, if that doesn’t pan out, for other people to pay for it, not me. And I want nine mansions.
Back in the real world, though, I know that we have to pick our poisons when it comes to taxes. And I think a city income tax might, in fact, be the right way to go.
The alternative now on the table is a $250 million city property tax hike, phasing in over five years, to address a shortfall in just two of City Hall’s four pension funds.
Other revenue-boosting alternatives include increases in so-called sin taxes, an expansion of sales taxes to cover services, casino gambling, financial transaction taxes, fee hikes, employee head taxes and more punitive fines for minor transgressions.
They all have their downsides. They all risk unintended consequences. They all stick in my craw, and probably your craw, too.
But if the alternative is a significant decrease in city services leading to a deteriorating quality of civic life, a city income tax is among the least objectionable options for balancing the books.
Here are four reasons why:.
1. More than any other taxes, income taxes are most closely related to a citizen’s ability to pay.
Yes, wealthy people tend to own more valuable property and pay higher property tax bills than middle- and lower-income people, but the many political and social crosscurrents that affect property taxes and individual taxpayers often end up squeezing those who are already nearly dry.
Lose your job? End up on disability? Find your neighborhood rapidly gentrifying around you? The property tax collectors don’t care.
2. Income taxes can easily be tweaked to go easiest on low wage earners.
Either through graduated rates or exemption thresholds, income taxes can be designed to take a proportionally bigger bite from those on the high end of the income scale.
3. Income taxes are more transparent than property taxes.
The various bureaucratic bodies that collaborate to set your property tax bill and the deliberately byzantine formulas they use leave most of us baffled and glad that our mortgage lenders pay the county out of escrow accounts so we don’t have to think about it too much.
That likely explains this statistic, passed along by Ralph Martire, executive director of the Center for Tax and Budget Accountability in Chicago: “The rate of growth in property taxes in Illinois over the past 25 years has outpaced the rate of growth in median income by almost 20 times.”
I hadn’t noticed. You?
But we’d all notice that kind of creep in a city income tax, and we’d all know to hold the City Council — read: the mayor — accountable for it.
4. A tax on income earned in the city nicks suburban commuters for the services they use.
Chicago police and fire departments protect those who work in the city but live elsewhere eight hours a day and more. City crews keep the streets relatively smooth and relatively clean around their places of employment. And the city, for all its flaws, remains the social and economic hub of the region.
It’s not exactly a new idea. Philadelphia began imposing a city income tax in 1939, according to research published by the Tax Foundation in Washington, D.C., and it has spread to scores of municipalities around the country.
Critics, such as Laurence Msall of the Civic Federation and John Tillman of the Illinois Policy Institute, contend that a city income tax would drive businesses and residents out of Chicago, and that there are better alternatives to getting Chicago out of its pension pickle.
“There’s certainly anecdotal evidence that city income taxes hurt cities,” said Matt Gardner, executive director of the Institute on Taxation and Economic Policy in Washington. “But the research evidence just isn’t there to prove that changes in local tax policy have meaningful effects on employment or residential decisions.”
In short, this is an idea to be considered, not rejected.
Here are full responses from Ralph Martire and John Tillman:
Property taxes are always somewhat regressive. The reason for this is easy to understand. All taxes are paid out of income.
The rate of growth in property taxes in Illinois over the past 25 years has outpaced the rate of growth in median income by almost 20 times. Only families with annual earnings in the top 10% see income growth that keeps pace.
Indeed, after adjusting for inflation, over the last 30 years the top 10% realized 139.8% of all income growth in America. All of it is 100%. That means after inflation, on average the bottom 90% of income earners are earning less today than 30 years ago.
On the flip side, many low and middle income families rent rather than own. They pay property taxes as a component of their rent, but cannot avail themselves of the income tax relief provided at both the federal and state levels for property taxes paid for homeowners.
Income taxes are from a tax policy standpoint the only tax that can be designed to comport with ability to pay—this is done by having lower rates apply to lower levels of income and higher rates to higher levels of income—something which sadly is prohibited by the state’s constitutional requirement that there can be only one flat rate used across all income levels.
That said, even with a flat rate structure some fairness—i.e. progressivity—can be built into a flat rate income tax through use of deductions, credits like the Earned Income Tax Credit, and other income exclusions for lower to middle income families.
So basically the mayor took off the table the only revenue option which could be designed to be paid by individuals who could afford it, and remains focused on a revenue source that will be particularly difficult for low and middle income families to pay.
To start off, we don't think a tax hike is necessary at all. Our pensions team developed a spectacular plan to solve the city's pension crisis without tax increases. It was vetted by an actuary and would save much more money than the Mayor's proposal:
Chicago, like the state of Illinois, is sorely lacking in fiscal discipline. There should be no tax increases of any kind. And the work above proves that tax increases aren't mathematically necessary.
But in a theoretical discussion of which tax is most efficient, property taxes get the nod. Here are some reasons why:
1. Property taxes are more stable and predictable than income taxes, which fluctuate with changes in the economy. Governments can more properly manage their budgets with property tax revenues.
2. Property taxes are typically paid in large lump sums – they are much more visible and painful to taxpayers. That means taxpayers care more about where their money is going and governments have to do a better job of justifying their reasons for taxing. Income taxes, on the other hand, are automatically deducted from people's paychecks. The money is typically taken from you before you even take possession of it. It is more insidious.
3. Property tax bills also detail slightly better how taxpayer money is spent – at least in major, general categories. In contrast, income taxes are lumped into general spending, making it difficult for taxpayers to know where their money goes.
4. People can more easily move from one community to another to escape high property taxes. It's harder – though as Illinois has learned, not impossible – for people to cross state lines (our research shows one person leaves the state every 10 minutes). But at least if people do want to stay in Illinois, they can live in a community in which property taxes match their priorities to a limited extent. Some people have no problem paying the high property taxes in north shore communities if they have children who they think benefit from the school systems there. Others might not care about proximity to the city or the school system, and would prefer to live in the far suburbs or even outside of the Chicago area and pay less.