I wrote last year about how my BFF Rush Limbaugh doesn’t like taxes:
Personal income taxes for the uhh…upper middle class and the rich are about to skyrocket 31 percent for all New Yorkers making more than $500,000 a year. So I’ll tell you what I’m gonna do, I’m gonna look for an alternative studio somewhere outside New York. I’ll sell my apartment, I’ll sell my condominium, I’m gonna get out of there totally because this is just absurd, and it’s ridiculous…
Even though I am inclined to some degree to play the world’s smallest violin in honor of his tremendous hardship, I do respect that he certainly has a point in this regard. When you read in Principles of Economics textbooks that taxes raise tax-inclusive prices for consumers, lower prices (net of taxes) for producers and decrease the amount of economic activity in a market, it’s important to note that these models arise as a result of the assumption that consumers only care about the after-tax price of an item and producers only care about what they have left in their pockets after paying the tax.
Now, this assumption may be reasonable in some situations, such as when the tax is included in the price of the item as is the case with gasoline and alcohol. In other cases, however, it’s less clear that people and companies always behave in this way. Think about a sales tax- have you ever decided to purchase something only to realize at the register that the tax makes you wish that you had left the item on the shelf? (I have this feeling when I am shopping for nice clothes in New York, for example, since I am accustomed to Massachusetts sales tax rates and don’t internalize the difference until it’s too late.) Most people don’t decide to put the item back, probably due to some combination of wanting to avoid embarrassment and wanting to avoid a perceived loss, since your brain had likely habituated to the idea of you owning the item. In a situation particularly relevant to the issue at hand, how many of you out there specifically calculate the after-tax compensation of different job offers when making a decision? Yeah, I didn’t think so.
If producers or consumers don’t change their behavior due to a tax, the tax doesn’t result in a decrease in economic activity or a distortion in the market. In a way, this is actually a good thing- if there is no decrease in production and consumption, then by some measures there is no deadweight loss (read, economic black hole, pit of doom, etc.) created by the tax, and the tax creates a frictionless transfer from citizens and firms to the government. In another way, however, it’s a bad thing- objectively speaking, some consumers and producers are losing rather than gaining value from buying and selling, since ignoring the tax causes them to participate in transaction that are not profitable or utility-maximizing. Furthermore, if people ignore taxes, this makes it easier for governments to get away with raising taxes. Fun, huh? Hopefully it doesn’t shock you, given this discussion, that governments often raise tolls after they roll out their versions of the EZPass. From MIT:
In a landmark 2007 paper, “E-ZTax: Tax Salience and Tax Rates,” Finkelstein reported that when toll authorities implement electronic toll collection systems like E-ZPass, toll rates begin to creep up more than they would have under the old manual toll system.
Drivers appear to be much less aware of toll rates when they pay tolls electronically, which makes it politically easier to raise tolls. As a result, she estimates that–after the new system is phased in–toll rates are 20 to 40 percent higher on roads and bridges that offer electronic toll collection than they would be if all drivers still paid tolls by cash.
Hmph. I don’t know what to think about this- is the government taking advantage of its citizens’ psychological biases or is it being nice and enabling citizens to remain ignorant and blissful? After all, fundamental laws like gravity don’t kick in until you realize you’re falling, right Wile E. Coyote? Okay, maybe I do know what to think about this. At least the visual makes me feel a little better:
So back to the matter at hand…how similar is Rush Limbaugh to Wile E. Coyote? (You know I’ve been dying to make that comparison for a long time now.) One reader writes:
With rental prices falling with incentives like 1 month free, and selling prices down 30%, it’s a wash, especially when you factor in the extra commute time from outside the City and the lost opportunity cost. Time is money, and I really doubt Mr. Potato Head is going anywhere.
Sooo…Rush has had a house in Palm Beach for a while now, and he actually switched to doing his radio show from sown there for the most part. However, he wasn’t able to move his TV gig, so it got shelved. Who’s the big loser in this situation? David Henderson says it’s the state of New York:
A friend of mine who’s a friend of Rush Limbaugh told me that when Rush dropped his daily TV show, which was very successful, and moved from NYC to Florida, his loss in income from the lucrative TV show was less than his gain in after-tax income from moving to Florida.
Now I understand why it’s called the Laffer Curve, since, despite my tumultuous relationship with Mr. Limbaugh, I giggled a little when I read that.
Similar tradeoffs have come into the public eye recently as well- I mean, who among us hasn’t stopped to consider the tax implications of Lebron James leaving Ohio for state-income-tax-free Miami-Wade county? (Hee.) Stephen Colbert almost has it right:
This Thursday LeBron James begins his free agency, and he’s being courted by Chicago, Miami, Dallas, New Jersey and the L.A. Clippers. Of course, according to the NBA rules, those teams can only offer him $95 million over five years, while his current team, the Cleveland Cavaliers, can give him $125 million over six years, meaning we will soon have the answer to the eternal question: would anyone choose to live in Cleveland for $30 million?
What he forgot is that the differential is smaller given the differences in tax rates. Granted, athletes have to pay state incomes taxes for the states in which they play away games (not even kidding, and apparently states are cracking down on this in order to generate some cash). Now, last I heard, LeBron’s numbers weren’t finalized, and technically the maximum is $96 million rather than $95 million, so let’s compare $96 million to the 5-year Cleveland amount of $104 million. (Yes, I realize that there is value in the guarantee of the sixth year, but let’s not make things difficult.) So he’s missing out on $8 million pre-tax, but he is saving somewhere in the neighborhood of 6 percent on half of his income by being based in Florida. So let’s see, 6 percent of half of $96 million is…drumroll…$2.88, let’s say $3 million. (Gotta love how i just turned an amount that is likely larger than my annual compensation into rounding error.) By this calculation, he’s still out $5 million by choosing Florida…but he’s up some sandy white beaches and hot Latina women and down some, well, depressing rusty bridges and cold winters. (Before you go jumping down my throat, keep in mind I grew up in Miami but most of my family lives outside of Clevelend. Feel free to call LeBron “econgirl 2.0″…on second thought, don’t.)
There’s also another piece of the puzzle to consider- LeBron also keeps some more cash in his pocket from his endorsement income, and if this is large enough he could actually do better financially in Miami than in Cleveland. Or at least he could as long as the NBA doesn’t follow the NFL’s lead and start moving games to London:
Usain Bolt won’t compete at next month’s Crystal Palace Diamond League meeting because of British tax rules.
Speaking at a news conference ahead of Friday’s Areva meeting at the Stade de France, the Olympic and world champion in the 100 and 200 meters said he decided to skip the event after his agent informed him he would lose money by competing in London.
Bolt’s agent Ricky Simms told The Associated Press the British tax law stipulates that foreign sports stars have to pay taxes on their worldwide endorsements, a situation that “in recent sports has kept a lot of the big stars in other sports away from Britain.”
“Usain is possibly the first athlete to have endorsements at the level where he stands, but he would see his fees greatly diminish after taxes,” Simms said.
According to British newspaper the Daily Mail, if Bolt competes once in Britain and only five races elsewhere, the British tax will demand one-sixth of his global earnings.
Simms said it was unlikely Bolt will compete in Britain again unless the country changes its tax rules.
Oops. Good thing that there is an exception in the law for the Olympics, or this could get real ugly real quickly.
So, we’ve established that tax differences across regions do in fact provide a mechanism where areas compete for resources, and we’ve shown that, at least in some cases, these tax differentials affect the behavior of at least a subset of very wealthy individuals. What separates these people from me is, aside from height and athletic ability for the most part, the fact that they probably have accountants making them all too aware of these tax consequences. What about use regular folks who have to fend for ourselves in this big scary economic world?
I wrote last year about the effects of tax rate changes in a few states. Here’s what Maryland had to say:
Maryland couldn’t balance its budget last year, so the state tried to close the shortfall by fleecing the wealthy. Politicians in Annapolis created a millionaire tax bracket, raising the top marginal income-tax rate to 6.25%. And because cities such as Baltimore and Bethesda also impose income taxes, the state-local tax rate can go as high as 9.45%. Governor Martin O’Malley, a dedicated class warrior, declared that these richest 0.3% of filers were “willing and able to pay their fair share.” The Baltimore Sun predicted the rich would “grin and bear it.”
One year later, nobody’s grinning. One-third of the millionaires have disappeared from Maryland tax rolls. In 2008 roughly 3,000 million-dollar income tax returns were filed by the end of April. This year there were 2,000, which the state comptroller’s office concedes is a “substantial decline.” On those missing returns, the government collects 6.25% of nothing. Instead of the state coffers gaining the extra $106 million the politicians predicted, millionaires paid $100 million less in taxes than they did last year — even at higher rates.
No doubt the majority of that loss in millionaire filings results from the recession. However, this is one reason that depending on the rich to finance government is so ill-advised: Progressive tax rates create mountains of cash during good times that vanish during recessions. For evidence, consult California, New York and New Jersey (see here).
The Maryland state revenue office says it’s “way too early” to tell how many millionaires moved out of the state when the tax rates rose. But no one disputes that some rich filers did leave. It’s easier than the redistributionists think. Christopher Summers, president of the Maryland Public Policy Institute, notes: “Marylanders with high incomes typically own second homes in tax friendlier states like Florida, Delaware, South Carolina and Virginia. So it’s easy for them to change their residency.”
Hmm…so ordinary non-famous millionaires behave more or less like Rush and Usain…can we get some regular people to chime in? I suppose for this we have to go to New Jersey:
That’s a good idea that would give the Garden State the lowest tax rate in the Northeast after New Hampshire. Mr. Lonegan says this will ensure that when New Jersey incomes “move-up,” the residents “don’t move out.” Over the past decade, New Jersey has suffered the fourth highest rate of out-migration of all the states, with nearly half a million residents fleeing to the likes of Delaware, Florida and even New York.
Now, New Jersey can’t exactly complete with Florida (on this dimension or others), but a lower tax rate would at least tip the scale somewhat in its direction…at least if people pay attention to such things. And it seems like, while they may not with a sales tax on their morning coffee, they do when it “matters.” In that case, I will give you a very important piece of advice: those morning coffees add up, so the sales tax shouldn’t be thought of as a minor rounding error. At the very least, it’s nice to know that there are some competitive forces at work to keep taxes down for us little people.