Tax relief and reform alone won’t solve all of Missouri’s problems or immediately launch Missouri to the front of the pack in attracting talent and capital from around the country. We need better schools with more educational opportunities We need to reduce crime, especially with three of our major cities—St Louis, Kansas City, and Springfield—ranking distressingly high on national crime indices. But solving either, let alone both, of these problems is very complex and likely to require a multi-pronged approach as policymakers work to build consensus and tackle each element of the problem.

There are some things Missouri can never have—like Florida’s coastline (although the Lake of the Ozarks is plenty to brag about)—but implementing good tax policy is well within our grasp. Some would seek quick, superficial, and ultimately harmful “fixes,” like using subsidies or tax credits (subsidies by a different name) as handouts to lure large, well-connected companies to expand in Missouri, with no guarantee that any jobs they create would outlast the flow of taxpayer money. But history and research have undermined the claim that we can subsidize our way to prosperity or successfully pick winners and losers. One thing policymakers absolutely can do is create a better, more level playing field for families and small businesses with an income-tax cut that returns money to their pockets and reduces the penalty on hard work and investment.

Thankfully, Governor Parson and the General Assembly appear poised to pursue exactly that—rate reductions to Missouri’s income tax—in the upcoming special session of the legislature. Doing so would not only be welcome relief to Missourians suffering under decades-high inflation, but it would also be a great way to kickstart a bold tax-reform agenda to improve the economic prospects of every Missourian. Economic research has demonstrated that lower income-tax burdens encourage work, improve productivity, increase entrepreneurship, promote innovation, and attract people and firms from places with more punitive taxes. When we enable people to earn higher returns on their labor and investments, it should come as no surprise that we get more of both.

This isn’t theory or idle speculation. One only needs to look as far as neighboring Tennessee to see a state much like our own that has grown dramatically faster than Missouri in recent decades. One major reason for that growth is that Tennessee is one of nine states with no income tax, and its major cities do not have local income taxes. Greater economic growth is more than just a statistic. It’s more jobs and new businesses at places ranging from local mom-and-pop shops to modern tech start-ups—all driving up wages and creating ladders of opportunity. Growth benefits Missourians of all backgrounds, which is why we must seize on the opportunity to return power and money to the people through the kind of income-tax-rate reductions now being discussed.

Those who oppose these cuts look past the obvious success of Tennessee and Florida and instead bring up the specter of Kansas, which faced negative consequences in the years following its own major tax cuts. But not every tax cut is created alike, and prudent budgeting always demands running the math both on the revenues and spending sides, which is exactly what Missouri policymakers are doing carefully and seriously as they deliberate. By contrast, when Kansas cut taxes, it created a special zero percent rate for only certain forms of income (namely, LLCs, S-Corps, and other pass-through entities) and did not undertake other subsidy and spending reforms to ensure that the numbers would add up. Favoritism and bad arithmetic are bound to create problems. Not surprisingly, many businesses changed their structure to these newly tax-free entities, and Kansas state revenues fell. Kansas reduced the tax rate on pass-through income to zero, far below that of regular income. Not only did this change have little justification economically but it also greatly encouraged tax avoidance behavior through income reclassification

That is not the proposal under consideration in Missouri. Governor Parson and the legislative leadership are considering accelerating already-planned rate reductions by cutting the Missouri income tax rate from 5.3 percent to 4.8 percent—a move well justified by the enormous surge in revenues the state continues to experience. It would be even better for our state if Missouri were to push even further past 4.8 percent. The prudent course of action in that case would be to also pursue subsidy reductions and other tax and spending reforms to ensure the stability of Missouri finances for vital public services. State leadership is also considering increasing the standard deduction on state taxes, which would deliver further relief to working- and middle-class Missourians, removing some from the tax rolls entirely.

At a time of high inflation and labor shortages, putting Missouri on a faster growth track through pro-growth, pro-work, pro-investment income tax reductions could not be more appropriate. In the short term, having more money in their pockets will provide much-needed relief to struggling families and empower Missourians to achieve their dreams, whether this means saving for a house, starting a business, or donating to their communities. In the long run, taking an important step toward major tax reform signals that Missouri is open for business and no longer willing to cede ground to states like Tennessee, Florida, or Texas. If those states can attract investment and talent by rewarding hard work and entrepreneurship, then we can too.

However you measure it, Missouri has not been growing compared to other states. If the Governor and legislature succeed in passing some combination of tax rate reductions and other adjustments to our income-tax system, they will increase opportunities for all Missourians. That would be a legislative special session we could be proud of.

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From 1997 to 2011, Missouri continued to slip behind the rest of the country in economic growth. If Missouri had managed to just keep pace with the rest of the country, its total output would have been $285 billion higher over that time. This trend must change.

Read the full testimony: 

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First, a quibble. Nixon says this “preferential treatment” will be discriminating against the majority of businesses in the state. That left me confused. How did the governor reach that conclusion? According to figures from the Missouri Department of Revenue, the state has 128,126 pass-through entities (including S-Corps). The total number of C-Corps is 68,185. By most rules of math that I know, 128,126 is a larger number than 68,185, so I can’t possibly see the governor’s point here.

Does HB 253 create preferential treatment for one type of business, as the governor fears? Eh, not really. Both the pass-through entity and corporate income tax cut are nearly the same amount. It is true that the corporate income tax cut only goes into effect if certain revenue targets are met, and it will take 10 years to be fully enacted instead of the five years for the business tax deduction. In the long run, however, the amount of the tax cut will be nearly identical. If the governor has evidence that this short-term difference will negatively impact Missouri businesses, he should present it.

It also is humorous that the governor is criticizing companies getting preferential treatment through the tax code. This is the same governor who extolled the benefits of the Mamtek deal, which was awarded $7.6 million in Missouri Quality Jobs tax credits and $6.8 million in Missouri BUILD tax credits. Economic development tax credits, by their very nature, give preferential treatment in the tax code. I wonder what brought on the change in outlook. The governor has voiced support for tax credit reform, but he hasn’t been hesitant to take credit for the supposed “benefits” that they create.

HB 253 is by no means a perfect bill, but it is a step in the right direction. Nixon has listed his reasons for vetoing the bill and hopefully I have conveyed how those fears are either imagined or overstated. Hopefully some kind of tax reform is enacted. Missouri cannot afford to wait too long.

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House Bill 253, “The Broad-Based Tax Relief Act of 2013,” would eventually create a 50 percent deduction for pass-through entity income and cut the corporate income tax rate in half. Moreover, HB 253 ends up costing less in revenue. According to the Committee on Legislative Research-Oversight Division, the estimated revenue shortfall that would occur once HB 253 is fully implemented comes to $364 million. That is less than the $438 million in lost revenue that the state expects to occur if SB 26 were to be fully implemented.

I think HB 253 is a superior tax proposal to SB 26. Importantly, HB 253 cuts more in the areas that will produce the biggest immediate and long-term growth benefits. For its part, SB 26 creates a 50 percent deduction for pass-through income and reduces both the corporate income tax by .75 percentage points and the individual income tax rate by two-thirds of a percentage point over five  years.

Business income, i.e., profits, are the returns to capital owners after labor is paid. There is a strong academic basis for believing that taxes on capital, which business income is, are among the most economically damaging a taxing entity can impose. It is good that both SB 26 and HB 253 seek to enact cuts in these taxes. However, from a growth perspective, bigger business income tax cuts would better enhance the returns to capital owners and should be preferred to considerably smaller across-the-board cuts. HB 253 does this.

If legislators want to pursue a more ambitious proposal, they could also leverage the state’s tax credit liabilities against the tax that is left over after HB 253’s cuts. Combining HB 253 with the provisions of SB 120, which passed the Senate in March, the state could set out a course to enact further reductions in business income tax rates. Something to consider.

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I have written a lot about the need to respond to Kansas’ tax cut. By eliminating the tax on pass-through entities, many Missouri businesses would be able to keep more of their money to invest in new projects and even lower prices for customers. In addition, it would not only make Missouri more attractive to businesses outside the state, it would also serve as an incentive for in-state businesses to remain here. HB 380 would partially mitigate any projected revenue shortfall by placing a cap on economic development tax credits. If the plan had been in place last year, the cap would have saved the state more than $300 million.

Even if there was not a proposed tax cut in HB 380, the proposed tax credit cap in the measure is, in and of itself, a good idea. Getting the government less involved in picking winners and losers through the tax code is a worthy goal. By substantially cutting down on the number of credits that will be issued, the government’s involvement in economic development is substantially diminished. Coupling a cap with an elimination of the tax on pass-through entities makes the bill even better. There is a lot to like in HB 380 and I hope Missouri experiences some kind of tax relief.

My colleague Patrick Ishmael and I just released a new paper on the topic of pass-through entities, “Passing Through Missouri: Left Behind On Taxes?” You can read the paper here.

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I previously blogged about my friend Chris Seyer and the new obstacles his business faces to compete with other firms in Kansas. Those other firms now can add a little extra to their margins because they do not have to pay taxes on their pass-through income. His is not an isolated case and that is why there is a growing chorus in Jefferson City to see some sort of tax cut implemented.

There are several tax cuts being discussed. One of them would create a tax deduction for business income and would gradually reduce the corporate income tax rate over a five-year period. Another caps and eliminates certain tax credits and uses the extra revenue to gradually eliminate the corporate income tax.

The idea of cutting the corporate income tax rate is something that appeals to me, so much so that I co-wrote an essay illustrating the benefits to the state of completely eliminating the tax. Whether the tax cuts are phased in or occur immediately, I am glad that the Missouri Legislature is seriously considering tax cuts. Hopefully, the tax cuts would take effect sooner rather than later, but if takes until 2018 to get rid of the corporate income tax, then some things are just worth waiting for.

However, legislatures consider a lot of things; actually enacting them is entirely different. Regarding tax reform, as the King would say, we need a little less conversation and little more action.

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This ad exists because of a loophole allowing Missouri drivers to buy cars out-of-state without paying a local sales tax.  Now, I am not really a fan of tax loopholes. My displeasure borders on rage. However, the key point here is that taxes affect people’s decisions. We have seen that low excise taxes on gas, cigarettes, and alcohol in Missouri encourage people to buy these products in Missouri.

If it is worth buying ads to promote the fact that you will not pay a local sales tax if you buy a car in Illinois, then the tax advantages of moving an entire business to a new jurisdiction can be even more pronounced. That is why the Kansas tax cuts matter. By eliminating its tax on pass-through entities, Kansas made itself more attractive to businesses looking to gain any advantage it can in a competitive marketplace.

Missouri does not have to stand idly by while its neighbors continue to make themselves more attractive to businesses. In a forthcoming essay, Patrick Ishmael and I lay out the need for the state to eliminate the tax on pass-through entities.

A zero local sales tax liability matters so much that a car dealership believes that it is worth purchasing ads. How much are competitive tax rates worth to the entire state? If Missouri wants to compete, it should have a tax structure that allows it to do so.

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The above items are worthy goals. Patrick Ishmael and I have pointed out the benefits of business tax reform. It would be great if the state capped and/or eliminated certain tax credit programs such as the Quality Jobs program and used the extra revenue to eliminate the state’s corporate income tax. We have also pointed out the strategic necessity of following other states’ leads and eliminating the tax on pass-through entities such as LLCs.

I hope that the Senate can follow through on these stated objectives and help enact some meaningful changes in the tax code. Legislating is not easy, but the opportunity is present for legislators to accomplish a lot.

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Missouri is lagging behind economically compared to other states. The state should avoid development schemes such as Aerotropolis and instead focus on other means of boosting the state’s economic competitiveness, such as tax reform.

Oklahoma is looking to enact major tax reform with an eye toward eliminating the state’s income tax. That is a worthy long-term goal and it is an issue that the Show-Me Institute has studied in the past. In the nearer term, the state should focus on eliminating the income tax on c-corps and pass-through entities. Pass-through entities are businesses whose income is taxed at the individual level instead of the company level. Many small businesses and professional corporations, such as a dental practice, are pass-through entities. Kansas got the drop on us when it eliminated its tax on pass-through entities. Missouri can do one better if both the corporate income tax and the tax on pass-through entities are eliminated.

There have been a couple of attempts to reform the corporate income tax. Missouri Sen. Will Kraus (R-Dist. 8) proposed a bill that would have modified certain tax credits and used the increased revenue to offset the corporate income tax. The Missouri House passed a corporate tax cut in 2011. Unfortunately, these attempts did not go any further. However, the legislature can still move forward, especially now that there is a veto-proof majority. Policy changes that Missouri’s neighbors have enacted have made change more necessary.

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For example, Chris Seyer is a friend of mine from business school who helps run his family’s aerospace manufacturing firm, Seyer Industries. His family’s company pays taxes at the individual level. Many of Seyer’s rivals, such as Harlow Aerostructures LLC, are located in Wichita, Kan. Chris told me that if a competitor like Harlow is able to benefit from the reduced tax rates in Kansas, then it will have a competitive advantage. For example, if Seyer and Harlow both made $5 million before taxes, Seyer would have to pay $300,000 in taxes, while Harlow would not pay anything. Harlow could use that extra $300,000 for capital expenditures, or it could hire a couple of new employees, or it could save it for future needs.

Missouri should not be picking winners and losers by handing out special tax breaks or incentives. Instead, the state should make it as easy as possible for companies located within its borders to succeed and thrive on their own. Kansas took a large step in making businesses in the state competitive. Missouri is lagging behind. One possible way for Missouri to make up some ground on Kansas is to eliminate the state’s corporate income tax. Missouri could also look into phasing out the tax on pass-through entities. That would help Seyer Industries and a lot of other companies in Missouri.

The post Kansas Cuts Taxes . . . Missouri Businesses Suffer? appeared first on Show-Me Institute.

Don’t believe it? If so, that’s only because our governor and most of our lawmakers and business leaders have yet to wake up to what has happened.

For many years now, the economic development agencies in both states have fought to a draw, poaching business from each other through targeted tax credits and other subsidies to induce individual businesses to move from one side of the border to the other. Local governments have compounded the problem by offering tax incentives of their own to cater to a tiny contingent of well-connected companies, choking funds from libraries, schools, and other public services dependent on local tax revenues.

This high-stakes game was a win-some-lose-some proposition for both states, played out in a particularly frivolous way in the Kansas City region when corporations moved a handful of miles one way or the other to gain a temporary tax advantage – a situation not unlike the short-sighted Tax Increment Financing (TIF) wars seen in Saint Louis County. Then Kansas got serious about economic growth.

In May, Kansas Gov. Sam Brownback signed the biggest tax cut in the state’s history. The new law cuts the top personal income tax by more than a point to 4.9 percent, well below Missouri’s top rate of 6 percent. That would be cause enough for concern in Missouri if that was all Kansas had done. But more boldly, Kansas cut its tax on the non-wage pass-through income of businesses such as limited liability corporations (LLCs) and subchapter-S corporations (S-Corps), reducing taxes on the income generated from approximately 191,000 Kansas businesses to a rate of zero. Millions of small businesses nationwide are organized as LLCs and S-Corps that enjoy many of the legal benefits of a traditional corporation while being taxed like partnerships. A tax rate of zero on this income is awfully hard to beat, freeing capital for Kansas entrepreneurs to reinvest in their businesses and spend in the market.

The excitement brewing in Kansas does not have to stop there. Missouri may not have the chance to be the “first” to embark on the sort of economic development revolution taking place in the halls of Topeka, but it does not have to be the last. Significant and similar tax reductions and reforms are achievable in Missouri, if there is a political will for it in Jefferson City.

But what happens if Missouri does not act? The state will almost certainly be left behind — not only by Kansas, but by other smart, pro-growth leadership across Missouri’s western border. This year, Nebraska cut its personal income taxes and has primed the pump for future reductions. Oklahoma is seriously considering phasing out its income tax entirely, including deep near-term rate cuts.

If Missouri lawmakers do not arm the state with sound, broad-based, free-market tax reforms of their own, the state risks economic defeat at the hands of her cross-border rivals in one of the most important games imaginable: the one that will determine our future prosperity. We can turn this game around, but time is running out.

Brenda Talent is executive director and Patrick Ishmael is a policy analyst at the Show-Me Institute, which promotes market solutions for Missouri public policy.

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The new law reduces the state’s top tax on wage income from 6.45 percent to 4.9 percent. Much more dramatically, however, it also abolishes the state income tax for many entrepreneurs and small business owners.

Under the new law, partnerships, S-corporations, and sole proprietorships are now exempt from paying any state income tax in Kansas. For example, if the owner of an S-corporation has $10 million in sales and $500,000 in “pass-through income” — meaning income after wages and other expenses — he would pay zero taxes to the state of Kansas on his $500,000 income.

Officials in Kansas make no secret of the fact that they want to promote their state as a Midwestern tax haven — appealing to entrepreneurs and small businesses in neighboring states, including Missouri, which has a top individual income tax rate of 6 percent, or $30,000 on $500,000 in income.

If small business owners in Missouri, Oklahoma, or other states want the same deal that Kansas is now offering to more than 190,000 small businesses, they just need to relocate to the Sunflower state.

How big a threat does this pose to the future growth and prosperity of our state? As economists, we can offer a few back-of-the-envelope calculations.

Missouri entrepreneurs in the 11 counties bordering Kansas would presumably be among the first to move. The population within these counties is 1.48 million people, or just more than 24 percent of the state’s total. For 2010, the total aggregate income of people filing individual income tax forms in Missouri for partnerships, S-corporations, limited liability partnerships, and sole proprietorships is $13.2 billion. Based on the population distribution, we would therefore expect that people with pass-through income in the border counties would account for roughly 24 percent of the $13.2 billion, or $3.17 billion.

Let us suppose that 10 percent of small businesses and entrepreneurs in those border counties deemed it worthwhile to move. That would translate into a $317 million reduction in goods and services and a roughly 1 percent reduction in income in the border counties. Based on 2011 income per worker, Missouri would see about 4,500 jobs go across the border.

Of course, people in other parts of Missouri might also elect to take advantage of the welcome mat that Kansas has put out for entrepreneurs and small business owners and that would further erode the base of our already weak and under-performing state economy. Entrepreneurs who might otherwise have launched their new business in Missouri may choose to launch it in Kansas instead.

Oklahoma Gov. Mary Fallin is advocating a reduction in her state’s top income tax rate to 4.5 percent from the current 5.25 percent, and she has cited the new Kansas law as cause for urgency. “Oklahoma needs to compete with our neighbors,” Fallin said. “To do that we need to lower our income tax.”

In a recent press conference, Missouri Gov. Jay Nixon sounded strangely complacent, saying “we haven’t spent a great deal of time talking about what they (Kansas) did.” With all due respect, we suggest that this is something worth discussing.

Our lawmakers need to start thinking seriously about creating a more favorable tax regime for economic growth and job formation in Missouri.

Joseph Haslag is chief economist and Michael Podgursky is a co-founder and director of the Show-Me Institute, which promotes market solutions for Missouri public policy.

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