Arkansas legislators made many improvements to the tax code during the 2019 legislative session, but is there more to be done?

ACRE Scholar and BT����Assistant Professor of Economics Dr. Jeremy Horpedahl and the Tax Foundation’s Vice President of Federal and Special Projects Nicole Kaeding answer in the affirmative in “Talk about taxes,” an op-ed published on May 31 in the Arkansas Democrat-Gazette.

Horpedahl and Kaeding begin by outlining numerous changes the Legislature made to the tax code in the 2019 session. These include dropping the corporate income tax rate from 6.5 percent to an eventual 5.9 percent, enforcing a sales tax on Internet purchases, and increasing gas and diesel taxes. For a full summary of the many tax changes during the previous session, check out Horpedahl and Kaeding’s blog post at the ACRE Review on April 11th.

However, Horpedahl and Kaeding spent most of the op-ed explaining one change: individual income tax cuts.

Horpedahl and Kaeding said:

Changes to the individual income tax will most directly impact your budget. In 2019, the Legislature once again reduced individual income-tax rates, the third time since 2015. The most recent changes primarily impacted high-income Arkansans, but what are the cumulative changes since 2015?��For a single taxpayer earning $20,000, income taxes in 2021 (when the law is fully phased in) will be about $154 less than without these changes. That’s a 30 percent cut in the amount of income taxes paid. A single individual earning $50,000 will see a $333 cut in 2021 compared with 2015, or about a 14 percent cut. A single individual earning $100,000 will have the income tax bill lowered by $367, or a 6 percent cut. And since Arkansas has no marriage penalty, two-income households can roughly double these amounts.”

Legislators should improve on these reforms by following the advice in Arkansas: The Roadmap to Tax Reform, written by Horpedahl and Tax Foundation experts, and use revenue gains from broadening the sales tax base to further reduce the top individual income tax rate.

Generally speaking, income taxes are more harmful to the economy than sales taxes, because income taxes reduce the incentive to work and create or expand businesses. Shifting the tax burden in this way would create more jobs and investment in the state without reducing government revenue.

Horpedahl and Kaeding said:

First, we argued that it is very possible to reduce the top income-tax rate to 5 percent, as well as lower other income-tax rates. Important progress was made in this area, but Arkansas still has four neighboring states with lower individual income-tax rates (two at zero percent). We also recommended extending the sales tax to a number of goods and services that are currently exempt or partially exempt. While the second recommendation may seem like a big tax increase, these two ideas are linked: broadening the tax base allows us to lower tax rates while keeping overall government revenue relatively constant.”

You can read their entire op-ed .

For more of ACRE’s work on taxes, check out the below links:

The Road Map to Tax Reform in Arkansas

Lessons From Other States Tax Reform Attempts

More on State Taxes and Spending

Arkansas dropped three spots from 43rd to 46th from 2018 to 2019 in the Tax Foundation’s annual .

The report was released on September 26th and is authored by the Tax Foundation’s Jared Walczak, Scott Drenkard and Joseph Bishop-Henchman.

According to the authors, the index is “designed to show how well states structure their tax systems and provides a road map for improvement.”

Arkansas is ranked 46th in the 2019 Business Tax Climate Index. Taxes factored into the score include corporate income (40th), individual income (40th), sales (44th), property (26th) and unemployment insurance (34th). Being ranked 46th means that only 4 states are worse than Arkansas (they are Connecticut, New York, California, and New Jersey).

Nicole Kaeding, Director of Special Projects at the Tax Foundation, told legislators at an Arkansas Legislative Tax Reform and Relief Task Force meeting on September 26th that the drop in rank was mainly a result of other states reforming their tax code recently.

Kaeding and ACRE Scholar and BT����Assistant Professor of Economics Jeremy Horpedahl discuss some of the reforms other states have made to their tax code in Learning from Other States’ Successes and Failures in Tax Reform. Their op-ed on the same topic, “Reform Taxes Now,” in the Arkansas Democrat-Gazette on May 21st can be read .

Kaeding told legislators:

Your score did fall by three spots. It was largely not because you all made changes, but it was that other states moved ahead of you. Arkansas is falling behind because you’re standing still.”

The task force approved the so-called “Option A” plan on August 22nd to reduce the top individual income tax rate from 6.9 percent to 6.5 and consolidate its rate schedules. ��The plan would cut taxes for individuals by about .

However, a separate plan released by the Department of Finance and Administration (DF&A) is also being considered. This plan would reduce the top individual rate even further, to 5.9 percent, while also increasing the standard deduction for taxpayers.

Kaeding said:

All else being equal, I’d pick the DF&A plan over Option A. It goes a long way to simplify your individual income tax structure, resulting in fewer brackets. It also, on a revenue basis, has a bigger bang for its buck.”

In to legislators, Kaeding noted that both plans would improve Arkansas’s overall tax competitiveness as measured by the Tax Foundation’s Small Business Tax Climate index. The plans would improve Arkansas’s corporate and individual income tax rankings while sales, unemployment insurance and property tax rankings would remain unchanged.

More of ACRE’s research on taxation can be found here. Kaeding and Horpedahl were co-authors of an op-ed published in the Arkansas Democrat-Gazette entitled “” on September 13th. Note that this op-ed was written prior to the new Tax Foundation data release, and Arkansas’s 39th rank on the previous version of their Index is not directly comparable to the current rank.

And then there were three.

Three tax reform proposals were selected by the Arkansas Tax Reform & Relief Task Force as worthy of further study by outside consultants on June 26th.

Income Tax Proposals

The three proposals include a plan previously announced by Gov. Asa Hutchinson and two new plans. Hutchinson’s plan includes a reduction in the top individual income tax rate from 6.9 percent to 6 percent. The two other proposals include reducing the top individual income tax rate while also simplifying the tax code by reducing the number of individual income tax tables from three to one. The “Option A” proposal would cut the top individual income tax rate from 6.9 percent to 6 percent. The “Option B” proposal would cut the rate from 6.9 percent to 6.5 and include an earned income tax credit. There could also be various changes to the corporate income tax, and not just lowering the rate. Possible changes include modifications to net operating losses (how many years a business can carry forward losses), the throwback rule, and corporate income tax apportionment (these last two apply to businesses operating in more than one state).

These rate and table reductions are similar to the reform suggestions outlined by ACRE scholar Jeremy Horpedahl and Tax Foundation experts in their book, ‘.’ In the book they outlined two plans that would consolidate the income tax tables from three to one, reduce the top tax rate to either 5 or 6 percent, and lower other tax rates as well (see ).

According to the , “Option A” would cost the state $276 million in revenue annually while “Option B” would reduce revenue by $125 million. Both of these estimates are about $80 million more than previously estimated by the state’s Department of Finance and Administration. These two options and the Governor’s plan have been sent to Regional Economics Models Inc. at Amherst, Massachusetts to estimate of the economic effects of lowering taxes in these ways.

‘Arkansas: The Road Map to Tax Reform’ authors recommend repealing certain sales tax exemptions to mitigate the effects of lost revenue from possible income tax cuts, but the task force has so far been hesitant to propose any substantial exemptions for repeal.

Nicole Kaeding, Special Projects Director with the Tax Foundation, recommended task force members cut the top marginal income tax rate below 6 percent while also consolidating the state’s three income tax brackets.

Kaeding said in her presentation to the task force on June 21st:

I think it’s important because it will bring you closer in line to all of your neighboring states. You all at 6.9 for a top rate kind of stick out in the region.”

Kaeding will present to the task force this Friday, July 27th at their 9 a.m. meeting on Arkansas’s overall tax burden and tax triggers. You can read the agenda for the meeting .

While income tax changes have made the most headlines in tax reform news in recent weeks, task force members have also suggested property and excise taxes for further study.

Property Tax Proposals

The following is a list of property tax proposals approved for further study by the , but this list will be narrowed down at a future meeting:

• Create an individual income or corporate income tax credit or deduction to offset the ad valorem (assessed value) personal property tax paid on business inventory (Rep. Cavenaugh and Rep. Dotson)
• Repeal the Arkansas corporate franchise tax (Rep. Dotson, Rep. Johnson, and Sen. Irvin)
• Implement a tax deduction or tax credit to be taken against Arkansas individual income tax liability or corporate income tax liability to offset payments made under the Arkansas corporate franchise tax (Sen. Irvin)
• Reduce the rate of the Arkansas corporate franchise tax from three-tenths percent (0.3%) to one-tenth percent (0.1%) under Arkansas Code § 26-54-104 for corporations, banks, and mortgage loan corporations with outstanding capital stock (Rep. Cavenaugh)
• Amend Arkansas law to create uniform and transparent statewide guidelines for assessing property that is exempt from ad valorem (assessed value) taxation (Sen. Hendren, Sen. Elliott, Sen. Hester, and Sen. Irvin)
• Amend Arkansas law to transfer the Assessment Coordination Department (ACD) into the Department of Finance and Administration (DFA) (Sen. Irvin)
• Use the excess funds in the Property Tax Relief Trust Fund from the one-half cent (0.5¢) sales tax under Arkansas Code §§ 26-52-302(c) and 26-53-107(c) that are not used to fund the homestead tax credit under Arkansas Constitution (Sen. Hendren)

Excise and Miscellaneous Tax Proposals

The following is a list of excise and miscellaneous tax proposals approved for further study by the task force on :

Cigarettes, E-cigarettes, Alcoholic Beverages

• ��Create an e-cigarette tax (Sen. Wallace)
• Levy a tax on e-cigarettes that is equal to the tax on other tobacco products (Rep. Cavenaugh, Rep. Pitsch)
• Levy a tax on e-cigarettes that is “middle of the road” among other states (Sen. Irvin) Cigarette Taxes
• Increase the excise tax on cigarettes to $1.30 per pack and use resulting revenues to reduce income tax burden (Sen. Irvin)
• Increase the cigarette tax to $1.65 per pack (Sen. Wallace)
• Convert the excise taxes on alcoholic beverages from a volume-based tax to a percentage of the purchase price (Sen. Hendren)
• Increase the excise taxes on wine and beer (Sen. Wallace)
• Levy a special excise tax on alcoholic beverages, cigarettes, and other tobacco products (Rep. Johnson)

Fuel and Vehicle Tax Proposals

• Index the excise taxes on fuel using a combination of the Consumer Price Index, fuel efficiency, and income (Sen. Hendren)
• Index the excise taxes on fuel using several factors, such as the Consumer Price Index, population, personal income growth, and other indexes and implement a floor and ceiling on the tax (Sen. Irvin)
• Index the excise taxes on fuel using the inflation of construction costs (Rep. Johnson)
• Index the excise taxes on fuel using inflation (Rep. Pitsch, Sen. Wallace)
• Impose an indexed retail sales tax on fuel using Arkansas highway construction costs and to implement a floor and ceiling on the tax (Rep. Jett)
• Impose a road-user fee for electric/hybrid vehicles at the point of registration (Sen. Irvin)

Tax Reform in Arkansas

The Arkansas Tax Reform and Relief Legislative Task Force during the 2017 legislative session to:

• Modernize and simplify the Arkansas tax code
• Make the Arkansas tax laws competitive with other states in order to attract businesses to the states
• Create jobs for Arkansans
• Ensure fairness to all individuals and entities impacted by the tax laws of the State of Arkansas

Members of the task force have a September 1st deadline to submit a report to the Governor, Speaker of the House and President Pro Tempore of the Senate that contains the task force’s recommendations for tax reform.

For further information, you can read Learning from Other States’ Successes and Failures in Tax Reform by Horpedahl and Kaeding. Their op-ed on the same topic “Reform Taxes Now” in the Arkansas Democrat-Gazette on May 21st can be read . More of ACRE’s research on taxation can be found here.