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Understanding The Need For Tax Relief

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By Lowell L. Kalapa

Last week we looked at ways to best utilize the large surplus in the state treasury to make government more efficient and responsive. On the other side of the table are those, including the governor, who are calling for tax relief.

While there are many pressing needs, such as the deferred maintenance of the state’s educational facilities, policymakers should take this opportunity to also provide relief from what most statistics report as a heavily burdened economy. Note well that the burden is on the economy, as the economic well-being affects all segments of the community. If the economy is not doing well, then the people who must struggle to survive in that economy will also not do well. 

Therefore, any tax relief to be adopted must insure that the very rich to the very poor will benefit in some way from that tax relief. Although the tax relief package adopted in 1998 as a result of the governor’s Economic Revitalization Task Force (ERTF) adjusted income tax rates, the benefits went largely to those in the middle and top end of the income scale. The maximum rate was lowered from 10% to 8.25% and the threshold at which the maximum tax rate kicks in was doubled from its previous level for both single and joint filers. 

However, when it came to those at the very bottom of the income ladder, only a small tax credit was adopted for those with adjusted gross incomes of less than $20,000. This credit replaced more generous credits established by legislation dating back to 1973 and to 1986. These earlier credits were designed to mitigate the bite of the 4% (soon to be 4.5%) general excise tax on necessities such as food and drugs for those taxpayers at the lower end of the income scale. Because the general excise tax takes a much larger percentage of a low- income family’s budget than of those families at the high end, it is what is known as a regressive tax. The tax credit targets relief to those families who really need relief as opposed to the shotgun approach of merely exempting food and drugs from the general excise tax, a strategy that benefits both poor and rich families and which jeopardizes the stability of the tax base.

However, unlike the proposal the administration submitted last year that would have granted a flat dollar amount credit of initially $27 and later $55 per exemption for returns with $40,000 or less of adjusted gross income, the credit should be inversely graduated. Consideration should be given to granting a much larger amount to those in the very low-income categories, returning most, if not all, of the general excise tax paid and then reducing the amount of the credit as the income of the taxpayer rises, phasing it out at the $40,000 level or higher. This inversely graduated schedule recognizes that those at the bottom are least capable of paying the general excise tax, but as income rises, those taxpayers should pay their fair share of the excise tax burden. Finally, this credit should probably be based on federal adjusted gross income, the number reported on line 7 of the N-11 state income tax return, as it does not include some major exclusions provided under the state income tax law for certain types of income.

Since 1998 numerous proposals to raise what is known as the standard deduction have been submitted to the legislature with no luck. The major stumbling block has been the potential loss of revenue. With the recent surplus, that argument should be obviated. Hawaii has the distinct infamy of having the third lowest income threshold requiring taxpayers to pay the state income tax. By raising the standard deduction, it is anticipated that thousands of taxpayers who currently have to file a state income tax return would no longer have to do so.

Finally, consideration should be given to either reducing the number of tax brackets or raising the threshold at which the top tax rate kicks in. Currently, the maximum tax rate is imposed on single filers earning $40,000 or more and for joint returns at the $80,000 threshold. The brackets are also relatively narrow such that the slightest additional income throws the taxpayer into the next higher rate.

While there are some who believe that Hawaii should join some 17 other states in adopting the federal Earned Income Tax Credit (EITC) to help the poor, there are some very good reasons why that is a bad idea. Unfortunately, it appears that the discussion of the EITC is being reduced to partisan politics rather than being discussed on its merits or demerits. Next week we will look at why the federal EITC would not be good for Hawaii.

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