A Five-Year Plan for the Earnings Tax

Voters in Kansas City and Saint Louis have clearly stated their desire to maintain those cities’ earnings taxes. Macroeconomic municipal tax policy is not something generally discussed around workplace water coolers and family dinners, but during the past few months it has been a major topic of debate in Missouri’s two largest cities. That debate has been healthy and beneficial — no matter the outcome of the vote.

There is general agreement and understanding that the earnings tax hurts jobs and business in the city, although no consensus on the extent of that pain. Organizations that claim the tax does not matter often act differently than their statements might suggest. Peabody Energy donated to the campaign to retain the earnings tax, and the company’s CEO told the Post-Dispatch that the earnings tax was “not a factor” in its commendable decision to remain downtown. However, its decision to stay put involved tax abatements on future earnings and payroll taxes. If the expense of the earnings tax is not a factor, why does the city have to give some of it back to Peabody?

Saint Louis Mayor Francis Slay has said that retaining the tax now is an important step toward changing the way the city funds its services, and the way the region is governed. Other city officials have said similar things, and the Post-Dispatch reported that city officials are planning ways to replace the tax eventually. If city officials in Saint Louis truly want to seek out ways to eliminate the earnings tax — and I believe that many of them, including Mayor Slay, do — the biggest danger lies in continuing to pass millions of dollars of tax increment financing (TIF) and other tax abatements each year. The primary reason that it would require such a large property tax increase to replace the earnings tax is because such an enormous amount of city property is not on the tax rolls. City voters recognized this, and voted accordingly.

According to a 2009 study by the PFM Group, the city of Saint Louis depends on property taxes for less of its general revenue than any other comparable city. The city’s Land Reutilization Authority (LRA) holds 9,000 pieces of property — all off the tax rolls, under city ownership. Another $683 million dollars is off the tax rolls because of TIF and other abatement programs. Finally, 22 percent of the city’s assessed value in real property is held by nonprofit organizations and is, as such, tax exempt.

The city of Saint Louis cannot be blamed for all of the above — particularly the tax exemption of nonprofits. The use of tax credits to lure businesses to relocate from one city or municipality to another within the greater Saint Louis area constitutes a devastating circular firing squad. This is a regional problem, not just a city problem.

Moreover, if the city greatly reduced its use of tax incentives, combined with a more aggressive approach to selling LRA property and an appeal to nonprofits to pick up a share of the burden for the city services they receive, property taxes could be a much more viable alternative to the earnings tax. An expanded tax base would then allow for smaller, and more evenly distributed, tax increases to make up for the loss of earnings tax revenues. If the city truly wants to move away from the earnings tax, it is imperative to grow the potential property tax base by ending policies that restrict its growth.

Many of the other suggestions made by opponents of the earnings tax, such as increasing privatization and shared government services, would work just as well in an environment with the earnings tax as without. Kansas City has had success with its privatized animal shelter — costs are down and adoptions are up. Saint Louis can do the same thing. The “Yellow Pages Test,” the idea that government should not provide the types of services that private companies offer in the Yellow Pages, is ripe for enactment in Saint Louis. We don’t need to get rid of the earnings tax to encourage private incentives in the provision of public goods.

City officials are already fighting the hard, yet necessary, battles to control public pension growth, and they are moving toward a user fee system in trash collection. Choosing to eliminate the earnings tax eventually, even without the legal mandate, may be the best of all possible worlds. It would give Saint Louis the proper time for necessary diligence in making a change that would benefit the city substantially in the long run.

David Stokes is a policy analyst at the Show-Me Institute, an independent think tank promoting free-market solutions for Missouri public policy.