Many Arkansans just finished filing their income taxes this year. Due to the pandemic, the deadline was moved from mid-April to mid-May. But as we filed our taxes, many Arkansans may have wondered: Will this be one of the last times that I have to pay income taxes?
It's a very tempting idea. Arkansans pay in total about $3 billion per year. That's about $2,500 on average per household, but of course that amount varies widely depending on your income (and some Arkansans don't pay any income tax already, primarily due to our existing Low Income Tax Credit).
Recently, there have been increasing calls to eliminate the income tax in Arkansas. Several candidates for governor have supported the idea, and state Sen. Trent Garner proposed legislation to do so as well (the bill was referred to interim study).
Is eliminating the income tax in Arkansas possible? Yes and no.
First, we know that it is possible for a state to get by without this tax. Eight U.S. states currently have no personal income taxes, and one more (New Hampshire) doesn't tax wages and salaries.
It's true that some states, such as Texas and Alaska, partially make up for it with unique taxes on natural resources that Arkansas can't replicate. But other states, such as Tennessee and South Dakota, manage to get by without an income tax because their governments (state and local combined) spend less as a percentage of their state personal income--about 20 and 18 percent in those states, versus over 21 percent in Arkansas. They also have more of their government spending concentrated at the local level than Arkansas does, where the income tax is not an option.
Unfortunately, in the short term, eliminating the personal income tax in Arkansas is not an option. That $3 billion that Arkansans pay each year? That represents about half of the state's general fund. Without some major new tax, there is no way to eliminate that much state spending at once.
But over the long run, it is a real possibility and a good goal.
How do we get there? The Legislature plans to meet in a special session this fall, and tax reform will be one of the main issues on the table in addition to legislative redistricting. This special session and the months leading up to it give Arkansas an excellent opportunity to think about long-term priorities for tax reform, just as the Arkansas Tax Reform and Relief Legislative Task Force did in 2018 under the co-leadership of Sen. Jim Hendren and Rep. Lane Jean.
One current proposal is to reduce the top income tax rate from 5.9 to 5.5 percent. This is in line with past tax reforms and could be a part of a long-run strategy to get to zero. Cutting the top rate by that much every year is easy to absorb in the budget, and after about 30 years we could completely eliminate the tax. That's a long time to wait, but it is both prudent and realistic.
Cutting the top rate primarily benefits the richest Arkansans, but other changes, such as increasing the standard deduction, benefits taxpayers throughout the income distribution. Rep. David Ray proposed two bills last session to alter this deduction, which is the amount of your income that you pay no tax on. Ray's bills would have doubled the standard deduction to $4,400 and indexed it annually to inflation. Most parts of our tax code are already adjusted for inflation, but not this one.
Increasing the standard deduction is a good change that benefits most taxpayers and makes state government less reliant on the income tax for revenue, thus making future reforms easier. A bolder plan would increase this deduction further, possibly matching the federal standard deduction, which is approaching $13,000.
Doing this in one year would be a major revenue challenge, but over time it could be done. North Carolina's standard deduction was just $3,000 in 2013, but it has been gradually increased to $10,750, and now the state is proposing to match the federal deduction next year. A lot can happen in a decade.
We all enjoy many government services, and those must be paid for, but not necessarily with an income tax. However, moving away from an income tax requires careful fiscal planning.
A special session on taxes is the perfect time to think about long-run plans, and whether Arkansas wants to move in the direction of having a zero percent income tax.
Jeremy Horpedahl is an associate professor of economics at the University of Central Arkansas. The views expressed here are his own, not UCA's. He is also a research scholar at the Arkansas Center for Research in Economics at UCA.