Maryland has better alternatives to the millionaire's tax
Originally published in the Washington Examiner
Democratic presidential nominee Sen. Elizabeth Warren of Massachusetts has recently drawn Americans’ attention to the top 1 percent with her proposal to increase the wealth tax for the ultra-rich. Many millionaires in Maryland could be affected by that, but wealthy Marylanders may also be facing a more immediate tax hike in 2019.
In 2018, New Jersey took Maryland’s spot as the top state for millionaires per capita, while Maryland fell to number four. It’s no secret why many millionaires left Maryland.
In 2009, then-Gov. Martin O’Malley introduced a 6.25 percent millionaire’s tax to raise an additional $106 million in state tax revenue. Instead of bringing more revenue, the number of millionaires who filed Maryland taxes dropped by about one-third the year after. The tax expired at the end of 2010.
Now Democrats are discussing bringing it back. Benjamin Jealous, the 2018 Democratic nominee for governor, endorsed a millionaire’s tax. Although he lost, another millionaire’s tax is being considered in the 2019 Maryland General Assembly. Democratic Del. Vaughn Stewart, aims to increase the state’s marginal income tax rates for individuals with taxable income in excess of $1 million by 2 percentage points, and to use the proceeds for subsidized state housing for Maryland.
Some economists are not convinced higher taxes lead to millionaire out-migration. There is another possible explanation for what happened with O'Malley's millionaire tax: The financial crisis of 2008 caused many millionaires to lose their millionaire statuses. According to Stanford University scholars, “Millionaire-bracket incomes are especially sensitive to the business cycle, and revenues from the tax will fall sharply during recessions.”
When assessing whether it’s a good idea to bring the millionaire’s tax back to Maryland, however, it does not matter which logic is more accurate. With economists predicting another recession in 2020 or even earlier, another millionaire’s tax will not help Maryland prepare for a potential downturn. When a substantial amount of tax revenue comes from a narrow group of rich taxpayers whose incomes fluctuate based on the business cycle, Maryland becomes especially vulnerable to recession.
Instead of relying on the decreasing pool of millionaires to provide social services, Maryland should consider an alternative approach to increase its tax revenue by broadening the tax base. There are various ways to broaden its tax base. For one, putting more Maryland residents to work would help increase the number of people filing income taxes in the state.
Maryland legislators are considering a couple of different tax bills that would reduce marginal income tax rates. Republican Del. Kathy Szeliga seeks to reduce marginal personal income tax rates for all Maryland taxpayers by 0.25 percent. Republican Sen. Andrew A. Serafini would impose a flat personal income tax rate of 3.9 percent for everyone.
Maryland has one of the worst personal income tax climates in the nation. The state’s income tax rate ranges from 2 percent to 5.75 percent, but there are additional local taxes that average 2.9 percent. In 2018, the Tax Foundation’s 2019 State Business Tax Climate Index ranked Maryland 45th out of 50 states in terms of personal income tax climate.
According to the neoclassical growth model, lower after-tax rewards hurt economic growth by discouraging people from working, saving, and investing through the “substitution effect.” Therefore, one way to induce more Marylanders to engage in productive economic activity would be by lowering their tax burden. A study by Karel Mertens of Cornell University and Morten O. Ravn of University College London showed that a 1 percentage point cut in the average personal income tax rate raises real GDP per capita by up to 1.8 percent.
Furthermore, a lower personal income tax would help boost Maryland’s small business formation and job creation, providing another way to broaden the state’s tax base. High personal income tax hurts entrepreneurs because pass-through entities, such as sole proprietorships, partnerships, LLCs and S corporations, file their business earnings under the personal income tax code. A study by the National Bureau of Economic Research found that high personal income tax discourages the growth of small businesses.
Whether higher taxes incentivize wealthy people to move or not, it is misguided public policy to depend on millionaires to improve Maryland’s social services. In light of a potential upcoming recession, Maryland needs a tax structure that provides state government with stable revenue without discouraging the workers, millionaires, and businesses that Maryland needs in order to push its economy forward.
Carol Park is a senior policy analyst at the Maryland Public Policy Institute.