States could be expanding wealth gap with tax policies

Lawmakers in many states have been trying to boost their post-recession economies by cutting income taxes, curbing aid to the long-term jobless or holding down the minimum wage. Some have pursued all of these steps.

Whether such policies will spur businesses to expand as hoped isn't yet clear. But collectively, the actions could ease the financial burden for the states' most affluent residents while reducing the safety net for those at the bottom.

The shift may also contribute to a trend that is prompting growing national concern: the widening gap between the richest Americans and everyone else. The divergence has developed over four decades and accelerated in recent years.

Economic statistics show that incomes for the top 1 percent of U.S. households soared 31 percent from 2009 through 2012, after adjusting for inflation, yet inched up an average of 0.4 percent for those making less. Many economists are sounding alarms that the income gap, greater now than at any time since the Depression, is hurting the economy by limiting growth in consumer spending.

Yet those concerns aren't resonating in some states. Last year, at least 10 states passed income tax cuts targeted at businesses or those in the top individual brackets. Earlier this year, Indiana passed a package of tax cuts for businesses, including reducing the state's corporate income-tax and banking-tax rate from 6.5 percent next year to 4.9 percent by 2021, and giving counties the option of reducing or eliminating business personal property taxes.

Several more states have cut taxes this year, including Democratic-led New York and Republican-led Oklahoma. And many states have pared back unemployment benefits, with more cutbacks under consideration.

The theory is that business owners are more likely to hire, expand and drive economic growth when their own financial burdens are eased. But others contend that formula comes with side effects.

"What's happening at the state level is increasingly important, and, to many eyes, it appears to be moving things in one direction — towards greater inequality," said Matthew Gardner, executive director of the Institute on Taxation and Economic Policy, a Washington-based tax research group.

The once-obscure income gap has become an issue in the 2014 elections as Democrats and Republicans differ over the best way to ensure America fulfills its promise as a land of opportunity.

Economists point to a variety of factors contributing to the gap, from the shift toward foreign manufacturing to a growth in single-parent households. Federal policies also come into play.

But state governments also have an impact.

Since the mid-1970s, states as a whole have cut their top individual income tax rates by nearly one-fourth, while boosting state sales tax rates by almost half, according to an Associated Press analysis. That has meant lower taxes for those earning the most and a bigger proportionate tax bite for those who spend more of their income on retail sales. Vermont, for example, has cut its top personal income tax rate from 17.5 percent to less than 9 percent while doubling its sales tax rate to 6 percent.

At the same time, states have scaled back some of the aspects of the financial safety net that keep low-income people out of poverty. The inflation-adjusted value of state welfare payments has been dropping in every state except Maryland and Wyoming and — even with federal food stamps included — leaves recipients below the poverty level in all states.

A divorced mother of three, Amy Jennewein came to the Missouri Capitol earlier this year imploring lawmakers to raise the minimum wage from $7.50 an hour to $10. Instead, the Republican-led Legislature voted to gradually cut the top individual income tax rate from 6 percent to 5.5 percent and referred a three-quarters cent sales tax increase to the ballot. It also curbed unemployment benefits.

"The middle class is disappearing — that's what it feels like," said Jennewein, who works two jobs at a preschool and a grocery store to support her family at a poverty-level income. "Every single day, I feel it's getting worse instead of getting better."

As the safety net shrinks, the chance that residents will be impoverished at some point has grown. The percentage of people ages 35-45 experiencing poverty rose by one third during 1988-2008 compared with the previous two decades, according to research by Mark Rank, a social welfare professor at Washington University in St. Louis.

"Folks are getting less in terms of redistribution on the bottom end, and folks are getting more in terms of tax cuts on the top end," Rank said.

The last time the income gap was this wide was in the Roaring '20s, when government did little to redistribute income. That changed after the Great Depression, when many states began using income taxes to improve public education, prevent poverty and add services to boost the quality of life.

But business groups began protesting their growing share of the burden.

In Missouri this year, business leaders stood beside GOP lawmakers at news conferences before they enacted an income tax cut with a special break for many business owners.

Jack Lonsinger, who employs about 20 people at a carbon recycling business near Kansas City, said he would put the eventual tax savings toward the purchase of new equipment.

"We use the money we get back to invest — it's nothing we're going to stick in our pocket," he said.

Income inequality among households has grown by 13 percent over the past several decades in Missouri. But state officials who are pushing for tax cuts said they aren't seeking to exacerbate the gap and, in some cases, weren't aware of it.

"The ultimate goal is to increase our state's economy and get it flowing in a better direction," said Missouri Sen. Mike Kehoe, a Republican.

The debate over the impact of reducing taxes on economic growth is long running and unresolved. Though taxes are a factor in business expansions, the cost and availability of skilled labor and good transportation systems often are rated as more important. An analysis for the nonpartisan Congressional Research Service in 2012 found that reductions in top tax rates have had "little association" with investment or economic growth.