Wednesday, February 23, 2005
Florida's Tax Changes
I was asked to write some comments on Florida's tax change proposals for 2005. Here are my ramblings:
Comments on Florida’s Budget Proposal
Cutting Taxes
One of the biggest misunderstandings of tax cuts is the difference between a reduction in the tax rate and a reduction in tax revenue. Some definitions are in order here before we continue. A tax rate is the percentage rate at which a particular activity is taxed. The tax revenue is the actual amount of money that is generated from the tax on a particular activity. This is a very important distinction because the only thing that a legislator has control over is the tax rate, NOT the tax revenue. When you change the tax rate you also get a change in peoples’ spending and saving behaviors. This change in behavior will also change the amount of tax revenue that is generated. The change in tax revenue that is caused by a change in the tax rate is never fully known until the end of the year when all of the tax has been collected. Any tax revenue numbers that are reported before then are estimations. A decrease in the tax rate can either cause a decrease or an increase in the tax revenue. Just the same, an increase in the tax rate can cause an increase or a decrease in the tax revenue. Here is a possible (and very simplified) example:
The Florida sales tax is raised from 7% to 70%. It could be said that because the tax rate increased tenfold then the tax revenue should also increase tenfold. The reality is that peoples’ spending habits will change to avoid the new tax as much as possible. People will buy less, or they will make more tax-free purchases (Internet purchases), or they will leave Florida for a state with more affordable taxes, etc. In this case it is highly likely that an increase in taxes will lead to a decrease in sales tax revenue because there will be less taxable purchases.
So when we see numbers in the news that say “there will be a $300 million tax cut” those numbers are estimates, but we will never know for sure about the actual change in tax revenue until the end of the year when all funds have been collected.
Impact on Students
One of the proposed revenue increases is a 7.5% increase in the tuition for state school tuition. 7.5% sounds life quite a large increase especially when inflation last year only hovered around 2%. The actual amount that tuition will be increased is only about $224 per year. This number was determined by figuring what a 7.5% increase in UCF’s tuition (not fees) would be for next year. Students can easily offset this tuition increase by taking advantage of the back-to-school 9-day sales tax break by making most of their purchases during this time. Another way that students can offset this increase is to increase their consumption of alcohol and take advantage of the tax repeal on alcohol served at restaurants and bars (a little economic humor there).
Tax Cuts for the “Rich”
When we read about tax cuts for the “rich” we are reading a politically slanted statement generally made by a bias media. The statement “tax cuts for the rich” would look very different if a non-politically biased economist wrote it. The statement would look more like “tax rate reduction implemented on a specific segment of the population in order to stimulate a specific economic action”. It sounds quite bland and probably wouldn’t look very flashy on the cover of the Orlando Sentinel, but we need to look at the reasons for tax cuts through objective economic eyes, not bias political eyes. A reduction in a tax rate will always impact different people in different ways. Some will see the benefit of the change and some will not. The same can be said for the change in government spending. Some will see the benefit of the change and some will not.
Let’s look at the specific tax rate change that was proposed. The proposal was to reduce, by half, the state tax on stocks and bonds owned by investors. Currently, individuals and businesses pay this tax only if they have more than $310,000 of such investments. Married couples pay this tax if they have more than $560,000 of such investments. The term “rich” is quite a subjective term and in this case “rich” would be people who fall into the category of owning stocks and bonds over the said amount. So, then, what possible economic activities could be rewarded from this tax cut? Listed below are some of the POSSIBLE effects:
· A lower tax burden could lead to increased spending because there is more money “in pocket” to spend.
· A lower tax burden could lead to increased saving since there is more money “in pocket” to save.
· A lower tax burden could lead to more investing in stocks and bonds because it is now more profitable to invest in stocks and bonds.
Generally the people who are against tax cuts for the “rich” are the people who do not directly benefit from the tax rate decrease. In this case it is anyone who does not own at least $310,000 in stocks and bonds. Keep in mind that IN GENERAL people accumulate wealth as they progress in life. So the people who do not benefit from this specific tax rate decrease right now will most likely benefit from it in the future. It is a very common financial strategy for retirees to put most of their retirement investment in interest bearing bonds and low risk stocks and, although it sounds like a tremendous amount of money right now, $310,000 is not that much money to survive on if you are retired. Most people (especially students) will need much more than that to sustain their lifestyle when they retire.
Comments on Florida’s Budget Proposal
Cutting Taxes
One of the biggest misunderstandings of tax cuts is the difference between a reduction in the tax rate and a reduction in tax revenue. Some definitions are in order here before we continue. A tax rate is the percentage rate at which a particular activity is taxed. The tax revenue is the actual amount of money that is generated from the tax on a particular activity. This is a very important distinction because the only thing that a legislator has control over is the tax rate, NOT the tax revenue. When you change the tax rate you also get a change in peoples’ spending and saving behaviors. This change in behavior will also change the amount of tax revenue that is generated. The change in tax revenue that is caused by a change in the tax rate is never fully known until the end of the year when all of the tax has been collected. Any tax revenue numbers that are reported before then are estimations. A decrease in the tax rate can either cause a decrease or an increase in the tax revenue. Just the same, an increase in the tax rate can cause an increase or a decrease in the tax revenue. Here is a possible (and very simplified) example:
The Florida sales tax is raised from 7% to 70%. It could be said that because the tax rate increased tenfold then the tax revenue should also increase tenfold. The reality is that peoples’ spending habits will change to avoid the new tax as much as possible. People will buy less, or they will make more tax-free purchases (Internet purchases), or they will leave Florida for a state with more affordable taxes, etc. In this case it is highly likely that an increase in taxes will lead to a decrease in sales tax revenue because there will be less taxable purchases.
So when we see numbers in the news that say “there will be a $300 million tax cut” those numbers are estimates, but we will never know for sure about the actual change in tax revenue until the end of the year when all funds have been collected.
Impact on Students
One of the proposed revenue increases is a 7.5% increase in the tuition for state school tuition. 7.5% sounds life quite a large increase especially when inflation last year only hovered around 2%. The actual amount that tuition will be increased is only about $224 per year. This number was determined by figuring what a 7.5% increase in UCF’s tuition (not fees) would be for next year. Students can easily offset this tuition increase by taking advantage of the back-to-school 9-day sales tax break by making most of their purchases during this time. Another way that students can offset this increase is to increase their consumption of alcohol and take advantage of the tax repeal on alcohol served at restaurants and bars (a little economic humor there).
Tax Cuts for the “Rich”
When we read about tax cuts for the “rich” we are reading a politically slanted statement generally made by a bias media. The statement “tax cuts for the rich” would look very different if a non-politically biased economist wrote it. The statement would look more like “tax rate reduction implemented on a specific segment of the population in order to stimulate a specific economic action”. It sounds quite bland and probably wouldn’t look very flashy on the cover of the Orlando Sentinel, but we need to look at the reasons for tax cuts through objective economic eyes, not bias political eyes. A reduction in a tax rate will always impact different people in different ways. Some will see the benefit of the change and some will not. The same can be said for the change in government spending. Some will see the benefit of the change and some will not.
Let’s look at the specific tax rate change that was proposed. The proposal was to reduce, by half, the state tax on stocks and bonds owned by investors. Currently, individuals and businesses pay this tax only if they have more than $310,000 of such investments. Married couples pay this tax if they have more than $560,000 of such investments. The term “rich” is quite a subjective term and in this case “rich” would be people who fall into the category of owning stocks and bonds over the said amount. So, then, what possible economic activities could be rewarded from this tax cut? Listed below are some of the POSSIBLE effects:
· A lower tax burden could lead to increased spending because there is more money “in pocket” to spend.
· A lower tax burden could lead to increased saving since there is more money “in pocket” to save.
· A lower tax burden could lead to more investing in stocks and bonds because it is now more profitable to invest in stocks and bonds.
Generally the people who are against tax cuts for the “rich” are the people who do not directly benefit from the tax rate decrease. In this case it is anyone who does not own at least $310,000 in stocks and bonds. Keep in mind that IN GENERAL people accumulate wealth as they progress in life. So the people who do not benefit from this specific tax rate decrease right now will most likely benefit from it in the future. It is a very common financial strategy for retirees to put most of their retirement investment in interest bearing bonds and low risk stocks and, although it sounds like a tremendous amount of money right now, $310,000 is not that much money to survive on if you are retired. Most people (especially students) will need much more than that to sustain their lifestyle when they retire.
# posted by The Professor @ 8:37 AM 
