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Iowa Watchdog

Ending special tax privileges could save families thousands

9/22/2014

DES MOINES, Iowa — Jeremy Horpedahl knows most people find the tax code to be complicated, boring and hard to understand.

He also knows the tax code is so complicated because it is boring and hard to understand.

photo courtesy of Jeremy Horpedahl TAX PRIVILEGES: Economist Jeremy Horpedahl is hoping to start a conversation about the importance of reforming the state tax code to eliminate special tax breaks that drive up the overall rates.

photo courtesy of Jeremy Horpedahl
TAX PRIVILEGES: Economist Jeremy Horpedahl is hoping to start a conversation about the importance of reforming the state tax code to eliminate special tax breaks that drive up the overall rates.

“Most people don’t have the time or interest to examine the issues. That make it easier for those writing the laws to include special breaks, or what I call ‘tax privileges,’” Horpedahl told Iowa Watchdog.

“The average citizen also has no idea how much those tax privileges are really costing them.”

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Horpedahl, an assistant professor of economics at Buena Vista University in Storm Lake, Iowa, recently published a study of how tax privileges affect state tax codes, which he said he hopes make the issue more understandable.

In Nebraska, the state Horpedahl examined in depth, removing all the tax privileges would reduce the average family’s tax burden by more than $3,000.

“I define a tax privilege as a tax break or exemption that benefits a specific type of industry or an individual taking a certain type of action,” Horpedahl explained.

Not everything in the tax code that reduces the amount of taxes paid is a privilege, according to Horpedahl.

“The standard deduction on income tax isn’t a privilege, because that’s available to everyone. But a tax break that benefits just the construction industry is. For an individual, that certain goods or services they buy are exempt from sales tax is a privilege,” he said.

Horpedahl focused his study on Nebraska because that state has been considering fundamental tax reform for the past two years.

“I wanted to be able to use concrete examples that would make the benefits of reform intelligible to the average citizen. To show how simplifying the tax code by getting rid of privileges would lower the overall tax burden for everyone,” Horpedahl said.

Horpedahl was able to identify more than $2 billion in tax privileges in Nebraska’s tax code.

“If all those special breaks were eliminated, tax rates overall could be lowered and still produce the same amount of revenue. If that were done, the overall state tax burden on the average family would be reduced by $3,200,” Horpedahl said.

Although he hasn’t yet done a thorough analysis Iowa’s tax codes, Horpedahl said eliminating tax privileges would result in at least as great as savings.

“Actually, it would probably be a little higher, because Iowa has more privileges built into its tax code,” Horpedahl said.

Horpedahl pointed out that Iowa’s businesses would  also benefit from the elimination of tax privileges.

“Iowa has a very high corporate tax rate — 12 percent — so to be attractive to businesses, the state has to offer them a way of avoiding it,” Horpedahl said.

“But not every business can avoid it. So what we end up doing is rewarding lobbying. Those who are successful in lobbying for privileges get lower taxes. And that implicitly punishes those who don’t lobby, because they end up paying higher rates.”

Horpedahl said he isn’t optimistic about that changing any time soon.

“Politicians love to hand out these privileges,” Horpedahl said. “It allows them to say, ‘‘I’m doing something, I’m bringing businesses to the state, I’m creating jobs.’”

“They never mention that the tax rate has to be kept high to pay for all these privileges. And most people don’t realize that research has shown that these sweetheart deals very rarely pass the cost-benefit analysis test, so there’s very little push back.”

But just because reforming the tax code is politically difficult, doesn’t mean it’s impossible.

Horpedahl points to an unlikely place where reformers recently won: Washington, D.C.

He’s not using Washington, D.C., as shorthand for the federal government — the problem of tax privileges is much worse in the federal tax code — but the city itself.

In March, the D.C. City Council overhauled the city’s tax code. It eliminated a vast number of tax privileges, such as the sales tax exemption for gym memberships, and lowered taxes

The nonpartisan Tax Foundation said the reforms will result in “a net tax cut of approximately $67 million per year.”

Horpedahl said he is hopeful the example of Washington, D.C., and studies such as his that make the cost of tax privileges more understandable can start a conversation about reform in Iowa.

“It’s important to have this conversation,” Horpedahl said. “Reform is something we need to get right. It’s better for the economy and it’s fairer.”

Contact Paul Brennan at pbrennan@watchdog.org. This story originally appeared on Watchdog.org.

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