New Study: State’s Current Flat Tax System Overcharges Middle Class, Strains Public Budgets
La Grange: If Illinois were to join 33 other states in adopting a “progressive” or “graduated-rate” income tax system, most residents would pay less in income taxes, property taxes could be reduced by 10%, the state could eliminate its structural deficit while increasing investments in education and infrastructure, and the economy would grow by as much as $8 billion per year.
The findings are part of new research by the Project for Middle Class Renewal (PMCR) at the University of Illinois at Urbana-Champaign and the Illinois Economic Policy Institute (ILEPI), which have jointly evaluated the effects of 8 different scenarios for adopting a progressive income tax– including the “Fair Tax” that was recently proposed by Governor J.B. Pritzker. The study’s methodology was peer reviewed by Professor David Merriman and Amanda Kass at the University of Illinois-Chicago and Professor Lonnie Golden, an economist at Penn State University.
“One of the key reasons why Illinois faces bigger fiscal and economic challenges than its neighbors is because of a tax system that treats $50,000 in income the same as $50 million in income,” said study co-author and University of Illinois PMCR Director Dr. Robert Bruno. “It ultimately leads to a scenario where the average middle-class family is shouldering a disproportionate share of the state’s tax burden and spending less back in the economy. At the same time, Illinois’ public services are woefully underfunded.”
The study notes that low-income and middle-class families in Illinois currently contribute almost double the share of their income in state and local taxes than the state’s top 1 percent, who have an average net income of $1.7 million per year. Low-income and middle-class families also pay a significantly higher share of their incomes in taxes than their peers in the neighboring states of Iowa, Wisconsin, and Minnesota, while Illinois’ most affluent families pay less than neighboring states. Notably, Illinois’ low-income and middle-class families have experienced negative income growth (after adjusting for inflation) since 2000, while top earners have seen their incomes rise by 35% on average.
“From the vantage point of low-income and middle-class taxpayers, Illinois’ current ‘flat-rate’ tax system not only makes inequality worse, it is simply not competitive with neighboring states,” said study co-author and ILEPI Policy Director Frank Manzo IV. “In Illinois, the top 1 percent makes an average of 65 times more in adjusted gross income than the bottom 99 percent, yet pays the same marginal state income tax rate.”
The authors note that, despite efforts to improve the state’s fiscal condition by raising the flat income tax rate, a $1.2 billion structural deficit persists and debt continues to mount. Meanwhile, the current system has failed to generate the revenue necessary to make investments in vital public services on par with neighboring states and the nation as a whole.
“The shortfall in state investment resulting from Illinois’ flat tax has only led to more regressive tax policies, such as hiking property taxes to fund local schools,” Manzo added. “This hurts working and middle-class families most.”
The alternative, Bruno and Manzo write, is to adopt a “progressive” or “graduated-rate” system like the ones currently used by 33 other states, including most of Illinois’ neighbors. Under this system, higher-income earners would be taxed at a higher rate than lower-income earners. Using industry-standard IMPLAN economic modeling, researchers tested a total of 8 different progressive tax scenarios, including Governor Pritzker’s “Fair Tax” proposal. If implemented in Illinois, these models showed that:
Between 67% and 97% of taxpayers would receive an income tax cut or see no change in nearly every scenario.
- Annual state government revenues would increase by between $3 billion and $9 billion, allowing Illinois to boost investments in education, infrastructure, and healthcare.
- The state could help deliver a 10% cut in local property taxes by increasing K-12 education funding.
- Under every scenario but the Governor’s proposal, taxes for pass-through small businesses, S corps, and partnerships would be capped at 5%.
- By boosting consumer demand for low-income and middle-class taxpayers, the scenarios would create between 10,000 and 75,000 jobs and boost annual economic activity by as much as $8 billion.
“The bottom line is that most Illinois taxpayers would see a significant tax cut, our schools and infrastructure systems would receive much-needed funding that boosts the economy, and our state government would be on stronger and more sustainable financial footing,” concluded Dr. Bruno. “In other words, moving towards a progressive income tax system is a win-win-win scenario for Illinois.”
Finally, Bruno and Manzo’s study addresses frequent criticisms of graduated-rate tax systems, calling the claims “misleading at best.” In particular, the authors highlighted the recent experience of Kansas, which suffered a series of major fiscal and economic problems after flattening tax rates. They also noted research that has shown no link between state tax rates and the migration patterns of high-income earners.
“While the opposition to progressive taxation from super-wealthy elites can hardly be considered surprising, their arguments simply aren’t supported by real-world evidence,” Manzo concluded. “The evidence does show that progressive income tax systems produce more broad-based prosperity, balanced public budgets, and a stronger overall economy. And, in the case of Illinois, it will add the critical benefit of giving most families a tax cut.”