Franklin Matters: Personal income tax rate resumes march downward

Saturday, December 17, 2011

Personal income tax rate resumes march downward

Sent to you by Steve Sherlock via Google Reader:

Personal income tax rate resumes march downward

via Commonwealth Conversations: Revenue by Robert Bliss on 12/16/11

Posted by:
Robert Bliss, Director of Communication, Department of Revenue

The Department of Revenue yesterday certified that the personal income tax rate will drop from 5.30 percent to 5.25 percent effective January 1, 2012. The savings to taxpayers will vary, but for most taxpayers it will be less than $40 and as little as $5 or $10 for those with smaller taxable incomes.

Despite the relatively small magnitude of the reduction, there is a lot of fiscal and politcal history behind it. The 0.05 percent decrease will mark the first decrease in the income tax rate in 10 years, and is the result of a legal process laid out in legislation approved in 2002.

That year, in the wake of both the dot com crash and the post-9/11 economic downturn, tax revenues in the Commonwealth fell and legislators scrambled to fill the gap. The House proposed to freeze the rate at 5.3 percent; it had been scheduled to drop to 5.0 percent effective Jan. 1, 2003, as a result of a voter referendum that had lowered the rate from 5.95 percent to 5.6 percent on Jan. 1, 2001 and to 5.3 percent on Jan. 1, 2002.

The Legislature wound up approving the freeze as well as a reduction in the value of personal exemptions for both single individuals and couples; the exemption dropped from $4,400 to $3,300 for individuals, and from $8,800 to $6,600 for couples.

In order to marshall legislative support for these tax increases, and to keep faith with voters who had approved the rate reduction to 5 percent, the legislature also created the process by which the personal exemptions would be restored to full value in four annual steps after which the income tax rate itself could resume its downward march.

The process involved a series of triggers and certifications. The first trigger; inflation adjusted baseline revenue growth had to exceed that of the previous fiscal year by 2.5 percent. But before final certification, revenues had to continue to remain steady, adjusted for inflation, over the months of September-November. If inflation adjusted revenue growth was not negative compared to the previous year in those months, the final certification for a rate reduction (or restoration of the personal exemption) would be issued no later than December 15.

That process was followed in the years subsequent to 2002, and the full value of the personal exemptions was restored in 2008 after four years of revenue growth.

But then the next and bigger revenue crash occurred in FY09, a year in which revenues fell more than $2.5 billion, removing the possibility of lowering the tax rate in accordance with the law.

It was not until FY11, which saw inflation adjusted revenue growth of 7.2 percent over FY10, followed by the required monthly certifications in the fall, that all requirements were met for the rate reduction that was announced yesterday.