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Video: Economist Jared Bernstein Explains Capital Gains Taxes

Andy Nicholas — 2012-02-03T00:18:28Z

Looking for a quick explanation of national capital gains tax policy? The video below features Economist Jared Bernstein, former Chief Economist and Economic Adviser to Vice President Joe Biden, and Chye-Ching Huang of the Center on Budget and Policy Priorities. Bernstein and Huang explain how capital gains -- profits from the sale of corporate stocks, bonds, and real estate -- receive preferential tax treatment at the national level. They also debunk the myth that special tax treatment for capital gains has led to increased business investment and economic growth. (Spoiler alert: it hasn't.)

Here in Washington state, our proposal for a state excise tax on capital gains would help build a more adequate, equitable, and stable budget process in future years.

New Bill Would Enhance Tax Break Accountability

Andy Nicholas — 2012-02-02T19:51:09Z

A new bipartisan bill was introduced this morning that would apply renewal dates to more than 300 special tax breaks that are on books in our state. As our analysis from previous years has shown, this commonsense reform is long overdue. House Bill 2762 would require policymakers to proactively review the hundreds of narrow credits, exemptions, deductions, and other special state tax breaks over the next decade. In doing so, the measure would significantly improve transparency and accountability over our entire state budget process.

Both conservative and progressive tax experts agree that special tax breaks are forms of state spending, similar to public expenditures on health care, education, and other public priorities. As such, narrow tax breaks are often referred to as “tax expenditures” (see box below; click box to expand).

Unlike direct state spending on education and other services, policymakers do not regularly review tax breaks to ensure they achieve public goals in an efficient and cost-effective way. Even though they amount to billions of dollars in hidden spending each year, tax breaks can remain on the books for years or decades without ever being reviewed.

House Bill 2762, introduced by Representative Reuven Carlyle, would help close the accountability gap between direct state spending on public services and indirect spending on special tax breaks. Over the next 10 years, over 300 special tax breaks would be set to expire under the measure.

Setting expiration dates for tax breaks makes sense. When deciding whether to renew them, policymakers would be required to balance their costs and benefits against those of other public priorities. HB 2762 would create a more holistic budget process that accounts for all forms of state spending – including spending on narrow tax breaks for various businesses and groups.

For more information check out our policy brief, “Every Dollar Counts: Why It’s Time for Tax Expenditure Reform,” and the schmudget post “Opponents of Reform Rely on Illogical Justification for Tax Breaks.”

Updated data: Capital Gains Still More Concentrated Among Wealthiest Few

Andy Nicholas — 2012-01-31T16:33:53Z

The capital gains tax proposed in House Bill 2563 represents a bold path to a more stable and adequate revenue system in our state. The measure would create a new 5 percent excise tax on capital gains in excess of $10,000 each year in Washington state. As we’ve discussed previously (here and here), capital gains – profits on the sale of corporate stocks, bonds, and real estate assets – are highly concentrated among the richest households in our nation. However, new data from the nonpartisan Tax Policy Center (TPC) shows that capital gains have become significantly more concentrated among the richest few since the onset of the Great Recession.

As of 2010, the TPC’s data show that 96 percent of capital gains were going to a small minority of very wealthy households – those with incomes above $1 million per year (see graph below). Furthermore, on average, households earning less than $200,000 per year experienced net capital losses in 2010, meaning they lost money on sales of stock or other capital assets. (Capital losses would not be taxed under HB 2563. In fact, capital losses are deductible from federal income taxes.)

The extreme concentration of capital gains among the richest Washingtonians means that a tax on these resources would be paid almost exclusively by those at the top of the income scale. Even so, HB 2563 goes a step further by establishing an exemption on the first $10,000 of capital gains ($5,000 for single filers). The $10,000 exemption would limit the tax to only about three percent of Washingtonians.

Accordingly, the measure would tap into a highly concentrated economic resource in order to sustain our public investments in health care, education, and safe communities – all vital to long-term and broadly shared economic growth.

For more information check out our policy brief, “A Capital Reform: Using Capital Gains to Fuel Job Creation and Economic Prosperity in Washington State.”

Washington’s Credit Rating Threatened by Flawed Revenue System, Budget Cuts

Michael Mitchell — 2012-01-30T22:05:07Z

Two major credit rating agencies (Fitch and Moody’s) recently downgraded Washington’s credit outlook to ‘negative’ from ‘stable,’ citing our flawed revenue system and an excessive reliance on cuts to core public health and education structures in recent years. Failure to enact adequate long-term revenue reform could jeopardize the states ‘AA+’ credit rating -- the second highest rating a state can achieve – and cost the state millions of dollars in additional interest payments.

When deciding on what rating a state deserves, credit rating agencies must analyze the state’s credit strengths and weigh them against credit challenges. As credit challenges begin to outweigh our strengths, agencies may move to downgrade Washington’s rating as a way of warning potential investors.

Both Fitch and Moody’s cite a “concentrated revenue system,” and reduced budget flexibility due to significant past cuts as major factors driving the downward revisions. In its ratings update, under credit challenges, Moody’s report explicitly lists “Diminished financial flexibility given depletion of financial reserves, significant use of one-time actions to balance current biennial budget, and implementation of sizable budget reductions over the past several years.”

Even before these revisions, credit ratings agencies found Washington’s above average debt levels, a revenue system over-reliant on the sales tax, and the states use of one-time fixes to balance past budget shortfalls as factors negatively impacting our credit rating. On the other hand, our credit strengths such as a well-educated work force, strong demographic trends, and well-funded pension systems more than made up for these challenges, and allowed the state to maintain its ‘AA+’ rating. However, in light of our outlook revisions, the balance between our states strengths and challenges appears to be tilting in favor of our credit negatives and the possibility of a rating downgrade.

Failure to address our current credit challenges would have a significant cost impact on state and local governments. The State Treasurer’s office estimates that a one notch ratings downgrade would cost the state an additional $110 million dollars in increased interest payments over a four year time period. A two notch downgrade would cost the state at least $280 million over the same amount of time.

In order to ensure that a ratings downgrade does not occur, state lawmakers must take decisive actions in both rejecting more destructive and short-sighted budget cuts and strategically enacting long-term revenue reforms.

By enacting reforms such as closing ineffective tax breaks, expanding the sales tax to include currently untaxed services, and enacting a new tax on capital gains, the state can take measurable steps towards reassuring ratings agencies that Washington is a dependable and fiscally responsible state.

Proposed Legislation Would Provide Tax Break Reform

Michael Mitchell — 2012-01-25T22:35:11Z

SB 6088 will be heard this afternoon in Senate Ways and Means. The bill would require that all newly enacted tax breaks expire no more than five years after the effective date. It would also require them to include a statement of why the tax preference is needed, its explicit policy goal, and clear metrics for evaluating whether these goals have been met. If enacted, past tax breaks that are extended or expanded would also be held to the same standards. SB 6088 is a step towards increased accountability around tax breaks in our state.

Under current law, most tax loopholes in the state have no clear date of expiration. As we’ve noted previously, of the 301 tax expenditures that would raise revenue if repealed, only 37 (12 percent) have a set date for termination. Now more than ever, effective management of our state resources requires that lawmakers review and prioritize all forms of state spending — from direct spending on education and health care to hidden spending on tax breaks for various businesses and individuals.

A more thorough review of tax breaks would benefit our budget process:

Direct comparison to other spending priorities: In deciding whether to renew expiring tax expenditures, officials would be forced to examine how their merits and costs align with other state spending priorities — a dynamic that is absent from our current budget process.
Freeing up resources and clarifying long-standing tax breaks: With routine sunset dates in place, wasteful or ineffective tax expenditures could be allowed to expire, freeing up resources for more efficient uses. In addition, this approach would allow officials to update or clarify the many older tax expenditures that have no clearly stated public purpose or means by which to evaluate them.
Honest treatment of spending in our tax code and spending in the budget: At least once every two years, advocates for education, health care, and other public services must defend funding for critical programs before the legislature and the public. However, in the case of tax expenditures, businesses and individuals who benefit from these loopholes rarely, if ever, are required to justify these public expenditures. Establishing sunset dates would end this disparity by requiring recipients of tax expenditures to regularly explain and defend their use of public funds.

SB 6088 is a step in the right direction for ensuring increased transparency and accountability in our tax code. Applying the same level of scrutiny to tax breaks as we do to other forms of state spending creates a more honest and effective budget process.

For more information read our policy brief on tax break reform, “Every Dollar Counts: Why It is Time for Tax Expenditure Reform.”

Capital Gains Tax + Rainy Day Fund = Greater Economic Stability

Andy Nicholas — 2012-01-31T16:37:36Z

Last week legislation was introduced to create a new 5 percent excise tax on capital gains – profits on the sale of stocks, bonds, and other financial assets above $10,000 each year. The bill, based on our proposal, would provide badly-needed resources to help rebuild our ailing investments in health care, education, and other core public structures. It also offers our state an opportunity to stabilize financing for these and other important priorities in the long run. Both objectives can easily be accomplished by dedicating a portion of revenues from the proposed tax to the state’s constitutionally protected Budget Stabilization Account, more commonly known as the rainy day fund (RDF).

Dedicating a portion of capital gains excise tax revenues to the RDF would create a more stable system for financing our education and health infrastructure. Some have argued a capital gains excise tax would add volatility to our revenues system. Yet, with 35 percent of capital gains tax revenues dedicated to the constitutionally protected rainy day fund, Washington would have accumulated sufficient savings to maintain capital gains tax revenues at pre-recession levels throughout the course of the last two recessions (see graph below). Furthermore, even after repeatedly withdrawing funds to maintain pre-recession levels of resources during the current downturn, there still would have been about$500 million available in the RDF to help address shortfalls in the current fiscal year.

The thin green line in the graph above shows total capital gains tax collections, had the tax been in place between fiscal years 1996 and 2011. In the absence of a rainy day fund, it shows that capital gains revenues would have risen rapidly during good economic times while falling precipitously at the onset of recessions. The blue bars show the size of the RDF (cumulative balances) each year if 35 percent of capital gains tax revenues were dedicated to it during periods of economic growth. During recessions, savings from the RDF would have been withdrawn by the amount needed to maintain capital gains tax revenues at peak economic levels. Finally, the thick purple line shows capital gains tax revenues smoothed over time via deposits to and withdrawals from the RDF.

Let us be clear: combined with a more robust rainy day fund, a new excise tax on capital gains would create a more stable and adequate means of funding investments in good health, a high-quality education system, and safe communities – all of which are vital to our economic recovery.

Washington can learn from its own success in criminal justice policy reform

Lori Pfingst — 2012-01-19T21:07:04Z

Washington is one of the leading states in the country for improving criminal justice outcomes while saving the state money. A new report from the Center on Budget & Policy Priorities (CBPP) highlights Washington’s process for developing fiscal notes for criminal justice reforms. Comprehensive cost-benefit analysis has helped the legislature implement smart policies that lower criminal justice costs over the long-term by reducing total crime, juvenile crime, and recidivism.

This success could be expanded to other areas of state spending, many of which are not subject to such rigorous evaluation.

In the wake of the economic downturn, for example, Washington has cut over $10 billion from the state budget, reducing the impact of many education, health, and human service programs that research shows improve outcomes and save the state money over the long-term. A more robust use of fiscal notes in these areas of the budget could help our state ensure that the best and most cost effective programs remain in place.

As policymakers grapple with the current $1.5 billion shortfall, Washington’s progress on criminal justice reform should serve as a model for other areas of the budget.

Highlights from the CBPP report include:

Spending on corrections has increased in 44 states since the “war on drugs” was initiated in the 1980’s (see figure), diverting spending from essential public structures like education and health;
States that pursued criminal justice reform by introducing evidence-based policies accompanied by comprehensive cost-benefit analysis have been the most successful at saving taxpayer money and improving criminal justice outcomes; and
Washington is identified as one of the most effective cost-benefit models for analysis of criminal justice policy in the nation.

Read the full report from CBPP here.