O'Malley's Tax Misstep

The Maryland governor's tax scheme won't solve the state's problems, but it will send businesses packing.

The problem with tax schemes designed to go after rich people is that the rich don’t generate enough wealth to underwrite as much of the government as the government usually wants. In 2009, for example, the top 1 percent of U.S. taxpayers earned about 17 percent of all adjusted gross income in the country and yet paid 37 percent of the taxes.

That same year, the top 5 percent of Americans earned 31.7 percent of the national income but paid 58.7 percent of federal income taxes. That was far more than the entire bottom 95 percent paid. But those who want to soak the rich never seem to be satisfied with these lopsided numbers. They want more from the top 1 percent and the top 5 percent.

And yet, as governments grow and politicians pander to the hallowed middle class, the rich become the target of choice, even as it becomes increasingly clear to discerning observes that there isn’t enough revenue from these groups to fund the public sector. That tends to get lost in all the talk of Mr. Buffet’s famous rule and other such calls for greater contributions from the rich.

Which brings us to Maryland and its liberal Democratic governor, Martin O’Malley. In pushing a major tax increase through the legislature the other week, O’Malley started his tax hikes at what The Washington Post called "six-figure earners"—those making more than $100,000 for single filers and $150,000 for joint filers.

These aren’t rich people. President Obama, by contrast, has insisted he doesn’t want to raise taxes on single filers making less than $200,000 or joint filers earning $250,000. That may be getting into territory where he can credibly say he is targeting only the rich. New York’s recent tax hikes affected only taxpayers making more than $300,000—and cut taxes for those below that amount. Even California’s governor Jerry Brown, in pushing for higher taxes on the wealthy, begins the bite at incomes above $250,000.

But O’Malley has given the game away by tacitly acknowledging that the rich alone can’t fund his idea of all that government should do. Thus, a two-earner family in which husband and wife are federal government employees at the GS-12 level and at Step-5 (out of ten steps) would get hit with O’Malley’s tax increase. (Each salary at that level and step would be $84,855). But if they were at Step-10, their joint income would approach $200,000, and the hit would be even bigger.

A construction manager and his wife, a pharmacist, probably don’t consider themselves rich either. With a mortgage in, say, Montgomery County (one of the richest in America in income and real-estate prices) and two children in college or headed there (with tuition approaching $40,000 a year for each), they could actually be feeling pretty squeezed. But O’Malley would increase their tax bite by a quarter to a half of a percentage point for income above $150,000 (for this couple, based on median salary figures, the income subject to the new taxes would probably amount to some $60,000 or more).

Maryland budget analysts estimate the average tax hit in the state for those affected to be about $745. A Tax Foundation executive says the increase likely will approach $1,000 for a family of four reporting a combined income of $250,000.

Combining O’Malley’s state income-tax rates with local tax brackets, Maryland now ranks fourth in the nation in its state-local tax burden (tied with the District of Columbia). The top rate, according to The Post, is 8.95 percent. That compares to a top rate of just 5.75 percent across the Potomac in Virginia.

So it isn’t surprising that, when Northrop Grumman decided to move its headquarters east from California, it chose Northern Virginia over Maryland. Bechtel recently moved six hundred jobs from Frederick County, Maryland, to Virginia’s Fairfax County. Maryland reportedly offered major financial incentives to persuade Bechtel to leave some operations in Frederick County.

O’Malley apparently hasn’t heard that there’s a big competition going on among governors intent on bringing businesses, and hence economic growth, to their states. Indiana governor Mitch Daniels smiled for the cameras when neighboring Illinois was poised to raise its personal-income tax by 75 percent—to 5.25 percent from 3 percent.

"We already had an edge on Illinois in terms of the cost of doing business, and this is going to make it significantly wider," he said. Then, reaching for a little more levity on the matter, he added that having Illinois as an adjoining state was "like living next door to the Simpsons" of television fame—"you know, the dysfunctional family down the block."

Indiana has built up a reserve fund of some $678 million; Illinois is facing a budget shortfall of some $2 billion.

Maryland’s O’Malley doesn’t seem to take seriously the potential problem of his state losing competitiveness vis-à-vis neighboring states. He proudly notes a production increase at the General Motors plant in Baltimore and suggests his state has been expanding the number of jobs, on a per capita basis, faster than Virginia.

But it’s difficult to see how such tax differentials as those between Maryland and Virginia won’t harm Maryland’s industrial recruitment and hence stunt its economic growth.

Discerning readers will note that these musings pose a conundrum—namely, if you can’t get enough revenue by going after the rich, and O’Malley’s use of a larger tax scythe simply retards economic development, then what’s the solution?

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