An Income Tax in Tennessee Would Reduce Economic Growth, Job Creation

An income tax in Tennessee would be the most economically destructive way to close the state's budget shortfall, according to a study to be released by the Cato Institute. Tennessee's Republican governor, Don Sundquist, has proposed a 3.75 percent state income tax that will be debated in a special session of the state legislature beginning November 2. Tennessee is currently one of only 9 states without an income tax.

In "The Case against a Tennessee Income Tax," Stephen Moore, director of fiscal policy at the Cato Institute, and Richard Vedder, economics professor at Ohio University, argue that "Tennessee's structural deficit problems are a result of a huge growth in state expenditures, not insufficient revenues." Since 1990, Tennessee has substantially outspent other states. Its tax burden has risen more rapidly than all but a handful of states, with taxes growing at twice the rate of population plus inflation. Social services and health care (TennCare) account for the major sources of this spending acceleration, the authors note.

Of all the options available to close the state budget deficit, estimated to be between $300 million and $500 million, introducing an income tax in Tennessee "would likely be the single most economically harmful. Tennessee derives large economic benefits from not having an income tax, and it should not forfeit those benefits," according to the authors. Current taxes and spending in Tennessee are about $500 per person below the national average, helping to place it in the top 10 in terms of almost all measures of economic health, such as new-business start-ups.

Tennessee's neighbor Kentucky instituted a state income tax in 1980, and since then has had considerably weaker economic performance. The per capita economic growth rate of Tennessee was 47 percent, compared to Kentucky's 36 percent, according to the study.

"There is substantial evidence that if Tennessee were to adopt an income tax its growth rate would be lower than without one. By reducing economic growth, an income tax will surely make the tax burden on businesses heavier, not lighter; it will make the tax structure more unfair for the poor because there will be fewer economic opportunities and lower after-tax wages; and it will accelerate state spending, thus perpetuating deficits," they write. The authors make several recommendations to improve Tennessee's fiscal climate without instituting a state income tax. These are (1) instituting tax and spending limits prohibiting the state budget from growing faster than personal income; (2) voter approval of any tax increase approved by the legislature; (3) a supermajority requirement to raise taxes or debt; (4) reform of the TennCare program; and (5) a half-cent reduction in the state sales tax.

"The Case against a Tennessee Income Tax"