Governor Mike Pence is calling for a review of the
State’s tax code. His top goals are to simplify the code and to promote
economic development—two worthy pursuits.
First, if the government is going to take our money,
then it should do so as gently as possible. The U.S. income tax code is
notoriously burdensome in terms of the billions of hours and dollars required
to complete the paperwork. Governments will tax our money, but they shouldn’t
unnecessarily tax our time too.
Second, all things equal, fiscal and regulatory
policies should minimize the damage to the economy and increase the
possibilities of economic development. It is important for policy-makers to
strive for this goal.
But while Indiana’s leaders are looking at tax
reform, they should achieve one other goal: eliminating the income tax burden
on working poor households.
These days, it is common to make loud (and vague)
complaints about the “gap between the rich and the poor”. Related to that, it
is popular to advocate a higher minimum wage. But a higher minimum is a very
To name two reasons (among many): First, the minimum
wage has both benefits and costs. By artificially increasing the price of less-skilled,
it will be less attractive to firms. Depending on the context, firms may
respond by increasing prices to consumers or reducing other forms of
compensation (e.g., free uniforms, discounts on product). But if these are not
sufficient, firms will eliminate jobs.
It’s a shame to help some vulnerable people by
harming other vulnerable people. This hurts those who lose jobs—short-term and
then long-term, by taking away their opportunities to build skills, cutting off
the first few rungs of the economic ladder that would allow them to move to the
Second, the minimum wage is
poorly-targeted—impacting middle-class teens and the elderly, as well as poor
heads of households. Policy prescriptions should be as precisely targeted as
possible, limiting the costs of the policy and concentrating the benefits of
the policy appropriately.
Fortunately, there is a better policy alternative:
eliminating taxation on working poor households. By far, the most onerous
burden comes from the FICA payroll taxes on income that are used to support the
Social Security and Medicare of current retirees. These take 15.3% of every
dollar earned by the working poor—more than $3,000 annually from a
head-of-household at the poverty line. It always amazes me that so-called
champions of the working poor rarely talk about this devastating policy issue.
Of course, Hoosier leaders can’t do much about a nasty
federal policy. But they shouldn’t add to those burdens by imposing state
income taxes on the same vulnerable people. At present, Indiana is one of a
handful of states that impose taxes on hard-working, lower-skilled,
heads-of-household at the poverty line.
A decade ago, Indiana added an earned income tax
credit (EITC) to offset much of this burden. But Indiana legislators should
take the next step. They should remove all working poor households from the tax
rolls and freeing up the EITC to do what it was designed to do: subsidize
working-poor households. Poor households would have more money in their
pocket—without the risk of being priced out of the labor market by a higher
minimum wage. This would be a win-win for the working poor and the Hoosier