New York, shift tax burden away from employment, not towards it

As they work to pass their budgets, high-tax states have been grappling with what to do about the new $10,000 federal deductibility cap on state and local taxes (SALT).  In New York, Gov. Cuomo came up with a proposal, rumored to be in the pending budget deal, to cut state income taxes to keep more New Yorkers under the $10,000 cap.  It would be funded by a payroll tax increase employers could opt into.

The impulse to help millions who will be hurt by the federal deductibility cap is laudable, but hiking payroll taxes is not the way to do it.  States should look elsewhere for revenue to fund tax relief that could keep more residents below the cap, because raising payroll taxes undercuts job growth.

{mosads}Cuomo’s scheme is voluntary, mostly aimed at downstate employers paying higher wages.  The idea was they could opt into a surtax on payrolls starting at 1.5 percent and rising to 5 percent over three years.  

In theory, employers would pass the tax onto workers through lower wages and bonuses.  Workers were supposed to be made whole since they wouldn’t pay state income tax, helping them stay below the $10,000 federal deductibility limit on SALT.  The State Senate rejected the scheme on the grounds it could lower workers’ paychecks.

In practice, employers would run the opposite risk. The new tax might drive their labor costs up if they couldn’t lower paychecks sufficiently, as the NYS Department of Taxation and finance warned. Wages are “sticky” and tough to claw back once established. Contracts, minimum wage, and competition for sought-after employees get in the way.  As labor costs rose, hiring would fall.

This already occurs across the country because of high federal payroll taxes.  They distort relative prices of labor vs. “non-labor inputs to business” (materials, energy and land), making it artificially expensive to employ people and artificially cheap to consume stuff, effectively subsidizing consumption while penalizing hiring.  Combined payroll tax rates are about 17 percent. They raise over $1 trillion a year — about a third of federal revenue, or 5.4 percent of GDP.

That’s a lot of distortion.  After many decades of it, we’re left with massive (though largely hidden) joblessness. Officially U.S. unemployment looks low at 4.1 percent (6.7 million people), but that’s a gross undercount.  Of 257 million American adults, more than 102 million don’t work.  Ninety-five million of those (including millions in New York) aren’t counted as unemployed; they’re simply defined out of the workforce. Yet a majority would work given a reasonable opportunity.  Partly because of payroll taxation, they don’t have it.

Increasing state payroll taxation would only compound those problems.  Their solution lies in the opposite direction — cutting payroll taxes.

On the federal level, the solution involves transferring the current payroll tax burden from labor to non-labor items.  That’s known as payroll tax shifting, recommended by the nonpartisan group Get American Working!  It would shift relative prices of hiring people vs. using stuff by about 30 percent — a powerful price signal to hire more and consume less. It could generate tens of millions of jobs.

On the state level, instead of hiking payroll tax and hamstringing job growth, New York and other states should cut it, as Colorado did.  Since 2008 Colorado’s Job Growth Tax Credit has refunded state payroll tax for businesses creating new jobs, bringing thousands of high-quality jobs to the state and growing its tax base.   

At the same time, states could shift more of state taxation onto consumption they want to limit.  That could reduce waste, pollution and other harms, raise revenues without undercutting job growth, and fund tax relief for individuals hurt by the federal deductibility cap.

Governor Cuomo proposed ending sales tax exemptions for non-residential energy transfers and taxing opioid producers — two examples of non-labor revenue sources.  Plenty of others are possible. For example, NYRenews designed a state carbon tax that could raise $7 billion, help meet State climate goals and stimulate renewables sector jobs.  

New York and other high-tax states faced with the imperative to adjust their tax codes to deal with federal tax changes should recognize it as an opportunity.  It gives them the chance to become a national model for pro-employment, pro-growth tax reform, but only by shifting the tax burden away from employment, not towards it.

Stephen Kent is president of the public interest PR practice KentCom LLC and consults for the bipartisan employment policy group Get America Working!.