State Income Tax
Burdens on Low-Income Families in 1997:
Assessing the Burden and Opportunities for Relief
III. Recent Changes in State Income Tax Burdens on the Poor
More than a decade ago, the federal government recognized that taxing poor families was counterproductive and unfair. As part of federal tax reform of 1986, virtually all families below the poverty line were removed from federal income tax rolls. Before 1987, only a handful of states exempted poor families from their income taxes. In the wake of federal tax reform, many more states followed the federal government's lead. The eight states that based their income taxes on federal taxable income or federal tax liability incorporated the federal changes into their state tax systems automatically and as a result removed poor families from their state income tax. Other states moved to revise their tax systems in similar ways. As a result, by 1991, some 18 of the 42 states with income taxes exempted married-couple families of four with below-poverty income from state income tax.
Since 1991, some additional progress has been made in removing poor families from state income tax rolls. Income tax thresholds increased more than the poverty line in a majority of states between 1991 and 1997, and the number of states with below-poverty thresholds fell by three. Still, given the healthier fiscal condition most states have achieved over this period and the large number of tax cuts states have enacted, the pace of progress in relieving tax burdens on poor families has been disappointing. Only after seven years of economic growth has the number of states taxing poor families begun to decline appreciably.
- Seventeen of the 24 states with below-poverty thresholds for families of four in 1991 raised their thresholds since then, but the amount of increase was seldom adequate to bring the states' thresholds above the poverty line. Four of those states Iowa, Massachusetts, North Carolina and Pennsylvania did raise their thresholds enough after 1991 to eliminate income taxes on poor families of four.
- In the remaining seven states with below-poverty thresholds in 1991, the income level at which families enter the tax system either did not change (Alabama, Arkansas, Illinois, Kansas, Kentucky, Virginia) or declined (Hawaii). Because the poverty line increases each year as the cost of supporting a family rises, income tax thresholds in these states fell further and further below the poverty line.
- States with thresholds that were already above the poverty line in 1991 almost universally increased them between 1991 and 1997. Moreover, thresholds in most of these states increased by an amount greater than the increase in the poverty line over that period. This extended income tax relief in these states to the near-poor as well as to the poor. In only one state Mississippi was the tax threshold above the poverty line in 1991 but below it in 1997. Mississippi is phasing in tax changes that are expected to raise the threshold above the poverty line once again for the 1998 tax year.
The 1990s Were a Time of Change for State Income Tax Systems
Given the number and magnitude of changes made to personal income tax systems between 1991 and 1997, it is surprising that only slow progress was made in removing poor families from state income tax rolls. As states adapted their tax systems to changing times, most did not make ending of taxation of the poor a priority.
The 1990s began with state budgets reeling from the effects of the national economic downturn. In 1991, states confronted their most serious fiscal crisis since the recessions of the early 1980s. The economic downturn both depressed revenue and increased demand for services, aggravating state budget problems. Rising health care, prison, and education costs added to state fiscal woes. According to a May 1991 survey by the National Conference of State Legislatures, prospective state deficits for fiscal year 1992 totaled more than $30 billion.
As a result of this fiscal crisis, many states increased taxes. Most states adopting significant tax increases in the early 1990s relied largely on regressive taxes such as sales and excise taxes to raise revenue. While states could have lessened the burden such taxes impose on the poor through enacting offsetting reductions in income taxes, only a few chose to do so. Of the 34 states that raised taxes in 1991, only six provided some offsetting low-income tax relief.
By the 1991 tax year, the largest tax increases that resulted from the fiscal pressures of the recession had been enacted. In 1991, the average state income tax threshold for families of four equaled $11,762 or 84.5 percent of the poverty line. Income tax thresholds were below the poverty line for families of four in 24 states.
The national recession ended in 1991 and the economy began to expand again. By the mid-1990s, most state economies had been growing for a number of years. With stronger economies came stronger revenue growth, and many states were ending their fiscal years with positive balances for the first time in several years. These balances were enhanced by continued conservative budgeting as states faced the uncertainties of federal actions and future economic trends; various government programs that had been cut or eroded during the recession were not restored to their pre-recession funding levels. As a result of the budget surpluses brought about by good times and constrained spending, many states began to consider tax cuts. The personal income tax was the major focus of tax-cutting activity in many states. Twenty states enacted significant personal income tax cuts over the past four years; almost 20 states are contemplating further income tax cuts in 1998.
Most States With Below-Poverty Thresholds in 1991 Continue to Tax the Poor But Some Progress Is Being Made
In 1991, 24 states imposed income taxes on families of four with incomes below the poverty line. Table 4 shows the changes in thresholds for these states between 1991 and 1997. Of the 24 states, seven did not increase their thresholds at all; in one of the seven Hawaii the threshold actually fell. Another seven states increased their thresholds, but the increase was less than the amount by which the poverty line increased during the period. A final 10 states increased their thresholds by more than the amount by which the poverty line increased. In six of these 10, the increases were not enough to bring the states' thresholds above the poverty line. But in four states, the tax thresholds were increased enough between 1991 and 1997 to remove poor families of four from the income tax rolls completely.
Each year, the federal poverty line is adjusted to take into account the impact of inflation on the costs of supporting a family. If a state's tax threshold remains the same or increases by less than the amount by which the poverty line rises, a higher proportion of the income of a poor family will be subject to tax. For all states, average thresholds increased modestly relative to the poverty line, from 85 percent of poverty in 1991 to 91 percent in 1997. In states with below-poverty thresholds for families of four in 1991, the average increase in the tax threshold between 1991 and 1997 was $2,517 slightly more than the $2,484 by which the poverty line increased.
Income Tax Thresholds for Two-Parent Family of Four
Average Threshold $11,762 $13,088 $13,645 $14,210 $14,919 Percent of Poverty Line 84.5% 86.4% 87.6% 88.6% 90.9% Number Below Poverty 24 23 23 24 21 Poverty Line $13,921 $15,141 $15,569 $16,036 $16,405
Of the 10 states that increased their thresholds by more than the amount by which the poverty line increased between 1991 and 1997, only four Iowa, Massachusetts, Pennsylvania, and North Carolina raised their thresholds enough to move from taxing the poor to not taxing the poor.
Changes in State Tax Thresholds for Two-Parent Families of Four
States with Below-Poverty Thresholds in 1991
1991 to 1997
Pennsylvania $10,800 $15,300 $15,300 $15,300 $20,600 $9,800 Iowa 9,000 15,300 16,100 16,400 16,500 7,500 Massachusetts 12,000 12,000 14,000 15,500 17,400 5,400 Indiana 4,000 4,000 4,000 4,000 8,500 4,500 Delaware 8,600 8,600 8,600 12,500 12,700 4,100 Georgia 9,000 11,100 11,100 11,100 13,100 4,100 North Carolina 13,000 13,000 16,000 17,000 17,000 4,000 Oregon 10,100 10,900 11,100 11,400 14,000 3,900 Utah 12,200 13,600 14,100 14,400 14,900 2,700 New Jersey 5,000 7,500 7,500 7,500 7,500 2,500 Montana 6,600 7,200 7,400 8,600 8,800 2,200 Oklahoma 10,000 10,900 11,600 11,800 12,200 2,200 West Virginia 8,000 8,000 8,000 10,000 10,000 2,000 Michigan 8,400 8,400 9,600 9,600 10,000 1,600 Ohio 10,500 10,500 10,500 11,500 12,000 1,500 Louisiana 11,000 11,000 11,000 12,300 12,300 1,300 Missouri 8,900 9,700 9,900 10,000 10,200 1,300 Alabama 4,600 4,600 4,600 4,600 4,600 0 Arkansas 10,700 10,700 10,700 10,700 10,700 0 Illinois 4,000 4,000 4,000 4,000 4,000 0 Kansas 13,000 13,000 13,000 13,000 13,000 0 Kentucky 5,000 5,000 5,000 5,000 5,000 0 Virginia 8,200 8,200 8,200 8,200 8,200 0 Hawaii 6,300 6,300 6,300 6,100 6,100 (200) Average 8,704 9,533 9,900 10,438 11,221 2,517 Poverty Line 13,921 15,141 15,570 16,036 16,405 2,484
- Iowa's threshold for a family of four increased from $9,000 in 1991 almost $4,000 below the poverty line to $16,500 in 1997. This increase resulted mainly from an increase in the state's no-tax floor a special feature of Iowa's income tax that established an income below which families owe no tax. In addition, Iowa's earned income tax credit increased as a result of expansions of the federal credit.
- Massachusetts raised its no-tax floor for a family of four from $12,000 in 1991 to $15,500 in 1996. This change left the threshold for a family of four slightly below the poverty line. Last year, however, Massachusetts enacted a new, refundable earned income tax credit equal to 10 percent of the federal EITC. This raised the income tax threshold for a family of four to $17,400, approximately $1,000 above the poverty line.
- North Carolina's threshold of $13,000 for a family of four was below the poverty line in 1991. It remained unchanged until 1994 and so stood in that year more than $2,000 below poverty. In 1995, the state increased its tax threshold through a combination of an increase in personal exemptions and the establishment of a credit of $60 per child for families with incomes below $100,000. By 1997, North Carolina's tax threshold equaled $17,000 $600 above the poverty line for a family of four.
- Pennsylvania increased its threshold substantially during this period by increasing its low-income "tax forgiveness" credit from $10,800 in 1991 to $15,300 in 1994. In 1996, the state's threshold for a family of four was approximately $700 below the poverty line. However, last year the tax forgiveness credit was increased again, raising the tax threshold to $20,600, $4,200 above the poverty line.
Six other states with below-poverty thresholds in 1991 increased their thresholds by an amount equal to or greater than the increase in the poverty line between 1991 and 1997. However, the thresholds for families of four in these states were below the poverty line in 1991 and remained below the poverty line in 1997 even after these increases.
- Delaware converted its personal exemption to a credit of $100 per family member starting in 1996. This, combined with a cut in tax rates in 1997, increased the tax threshold from $8,600 to $12,700 for a family of four. The threshold is now 77 percent of the poverty line.
Future Increases in Income Tax Thresholds
This report shows income tax thresholds for 1997. As a part of legislation enacted early in 1998 and in previous years, some states have adopted changes to their income tax systems that will lead to increased thresholds in 1998 and beyond. Only one additional state, however, will eliminate income taxes on the poor as a result of legislation that will take effect in 1998 or later years.
- During the 1997 legislative session, Arkansas enacted legislation that includes significant income tax relief for low-income taxpayers. Beginning in the 1998 tax year, the state will exempt married taxpayers with income below $15,500 from Arkansas' income tax. Single heads of households earning less than $12,000 will also be exempt, as will individuals earning less than $7,700. In addition, the state's standard deduction will increase substantially. Once these changes are implemented, Arkansas' tax threshold will increase substantially. However, the state's threshold will remain below poverty.
- California in 1997 enacted legislation to raise its dependent credit by $150 over two years. This change will raise California's threshold, which is already above the poverty line, by several thousand dollars.
- Georgia has increased both personal and dependent exemptions which now equal $1,500 and $2,500, respectively to $2,700 per person, effective for the 1998 tax year. As a result of these increases, Georgia's threshold will increase substantially, but it will remain lower than the poverty line.
- As part of tax changes made in 1996, Kentucky's standard deduction is being increased over several years from $650 to $1,700. After the increase is fully implemented, the standard deduction will be indexed for inflation. The increase in the standard deduction will result in a small increase in the state's tax threshold, but the threshold will still be less than half the poverty line.
- Maryland in 1997 enacted a bill which will cut tax rates and also increase the state's personal exemption by $1,200 over five years, starting in tax year 1998. This legislation will raise the state's income tax threshold, already above the poverty line, by several thousand dollars.
- Beginning in the 1998 tax year, Michigan will allow additional deductions for dependent children of $600 per child for children under 7 years old and $300 per child for children ages 7 to 13. The threshold will remain below the poverty line.
- Minnesota's working family credit in 1998 is scheduled to increase from 15 percent of the federal credit to 25 percent of the federal credit for families with children. This increase will raise the state's threshold, which is already above the poverty line.
- Mississippi is phasing in increases in the personal exemption and standard deduction for married filers. The personal exemption will increase from $9,500 to $12,000 and the standard deduction will increase from $3,400 to $4,000. These changes will bring the state's threshold for families of four above the poverty line. The threshold for a single-parent family of three, which is already above the poverty line, will be unchanged.
- New Mexico has expanded the state's Low-Income Comprehensive Tax Rebate (LICTR), a credit for low-income families and individuals, beginning with the 1998 tax year. The legislation increases the maximum income level at which a family may qualify for the credit from $14,000 to $22,000. It also increases the amount of the credit. The expanded credit will have the effect of increasing the income tax threshold, which is already above the poverty line. In addition, the credit will remain "refundable," resulting in increased refunds received by families whose incomes are below the poverty line.
- Ohio enacted an increase in the state's personal exemption in 1996. The exemption is increasing from $750 to $1,050 over four years. In addition, the state's dependent exemption was increased. These increases will not raise the state's threshold enough to bring it above the poverty line.
- In Wisconsin, where the threshold is already above the poverty line, the legislature last year enacted a new Working Families Tax Credit which will further raise the threshold beginning in tax year 1998.
- Georgia's threshold for a family of four increased by $2,100 between 1991 and 1994 as the result of increases in the state's dependent exemption. The threshold did not change between 1994 and 1996. In 1997, the combined effect of a number of changes to Georgia's tax system increased the tax threshold from $11,100 to $13,100, or 80 percent of the poverty line.(1)
- Indiana's income tax threshold for a family of four was $4,000 from 1991 through 1996. The threshold increased to $8,500 last year, due to adoption of a new earned income tax deduction and a new dependent exemption. The threshold is now 52 percent of the poverty line.
- New Jersey raised its no-tax floor from $3,000 to $7,500 in 1994. This increase left New Jersey's threshold at half the poverty line for a family of four. The threshold has remained at $7,500, eroded by inflation to 46 percent of the poverty line in 1997.
- Oregon's tax threshold for a family of four increased from $10,100 in 1991 to $11,300 in 1996 due to the indexing for inflation of its personal exemption credit. In 1997 Oregon instituted a non-refundable earned income tax credit equal to 5 percent of the federal EITC. This increased the tax threshold to $14,000, 85 percent of the poverty line.
- Utah's threshold rose automatically between 1991 and 1997 because its personal exemption and standard deductions are indexed to increase with inflation. In 1997, Utah's threshold for a family of four stood at $14,900, 91 percent of the poverty line.
Most States With Above-Poverty Thresholds in 1991 Raised Their Thresholds
In contrast to the states that started the 1990s with below-poverty thresholds, all but two of the states with thresholds above poverty in 1991 increased them by amounts greater than the increase in the poverty line. As Table 5 shows, threshold increases in these states from 1991 to 1997 averaged $4,000, well above the increase of $2,500 in the poverty line during that period. Because these increases go beyond the increases that were necessary to maintain the threshold at or above the poverty level, they served to exclude from income tax the incomes of more near-poor families in these states.
Tax relief for the near-poor can be particularly important in a state with a high cost-of-living. In addition, many analysts believe that the poverty line underestimates the income level that a working family needs to afford basic items in a household budget, such as housing, food, transportation, health care and child care. For these and other reasons, tax relief for working near-poor families has become a priority for a number of states.
The six states with the largest increases in their thresholds over this period all include tax credits targeted on low-income residents as part of their tax systems.
- New York's income tax threshold for a family of four rose from $16,900 to $22,300 between 1994 and 1997. These increases resulted from legislation enacted in 1994 and 1995 that phased in through 1996, including provisions that scaled back one low-income credit, increased the standard deduction, created a state earned income tax credit, and reduced tax rates.
- The Arizona income tax threshold for a family of four rose from $15,800 in 1994 to $20,000 in 1997. This resulted from the creation of a $30 tax credit per family member for families with income below $20,000, as well as an increase in the state's personal exemption.
- Substantial expansions of the federal earned income tax credit through 1996 led to large increases in the income tax thresholds in four of the states with a state earned income tax credit tied to the federal credit Maryland, Minnesota, Rhode Island, and Vermont.(2) These increases have taken place without any major change in state tax policy.
Changes in State Tax Thresholds for Two-Parent Families of Four
States with Above-Poverty Thresholds in 1991
1991 to 1997
New York $14,100 $16,900 $18,700 $21,600 $22,300 $8,200 Maryland 15,800 19,400 20,900 22,300 22,900 7,100 Rhode Island 17,400 21,100 22,400 23,700 24,400 7,000 Vermont 17,400 21,100 22,400 23,700 24,400 7,000 Minnesota 15,500 19,000 20,000 20,900 21,600 6,100 Arizona 15,000 15,800 20,000 20,000 20,000 5,000 Nebraska 14,300 16,200 16,600 16,900 17,900 3,600 Maine 14,100 14,800 15,000 15,200 17,500 3,400 North Dakota 14,700 16,500 17,100 17,400 18,000 3,300 Colorado 14,300 16,200 16,600 16,900 17,500 3,200 District of Columbia 14,300 16,200 16,600 16,900 17,500 3,200 Idaho 14,300 16,200 16,600 16,900 17,500 3,200 New Mexico 14,300 16,300 16,600 16,900 17,500 3,200 South Carolina 14,300 16,200 16,600 16,900 17,500 3,200 California 20,900 22,600 23,000 23,400 23,800 2,900 Wisconsin 14,400 16,400 16,400 16,700 17,000 2,600 Connecticut 24,100 24,100 24,100 24,100 24,100 0 Mississippi 15,900 15,900 15,900 15,900 15,900 0 Average 15,839 17,828 18,639 19,239 19,850 4,017 Poverty Line 13,921 15,141 15,570 16,036 16,405 2,484
In Maine, a new low income credit enabled that state to raise its tax threshold above the poverty line once again in 1997. The income tax threshold in Maine had been above the poverty line in 1991 but was below the line in 1994 through 1996. A new, low-income credit enacted last year raised Maine's threshold to $17,500, over $1,000 above the poverty line.
Thresholds in eight other states North Dakota, Colorado, the District of Columbia, Idaho, Nebraska, New Mexico, South Carolina and California increased about the same amount as the poverty line. These increases occurred because these states' personal exemptions and standard deductions are indexed to increase automatically with inflation.(3)
Finally, the threshold in only one state that had an above-poverty threshold in 1991 was below the poverty line in 1997. Because Mississippi does not adjust either its exemptions or deductions for inflation, its threshold fell below the poverty line in 1996 and 1997. However, during the 1997 legislative session, the state enacted changes to the personal exemption and standard deduction for married taxpayers. These changes will lift Mississippi's threshold for families of four above the poverty line again in 1998.
Despite Progress, Income Relief for Poor Families Overdue in Many States
Seven years into the economic recovery, renewed progress is being made in relieving tax income tax burdens on low-income families. In 1997, the number of states taxing two-parent families of four with poverty-level income dropped by three as compared to 1996. By next year, all of the states that had income tax thresholds above the poverty line for such families in 1991 are expected to regain that status. A majority of states are taking advantage of generally healthy fiscal conditions and have raised their tax thresholds during the current growth phase of the business cycle more quickly than the poverty line itself has increased. In states in which the tax threshold remains below the poverty line, this rate of increase in the tax threshold means fewer poor families are subject to income taxes. In states in which the tax threshold was above the poverty line to begin with, tax relief is provided to near-poor families as well.
Still, many states have failed to take full advantage of the opportunity that the recent healthy fiscal climate offers to remove poor families from the income tax rolls. A number of states that still tax poor families have already cut their top income tax rates during the current recovery, which provides disproportionate benefits to the well-to-do. For example, Michigan and Ohio cut income tax rates while allowing their income tax thresholds to fall relative to the poverty line. Some states have also chosen to cut income taxes while retaining higher sales and excise tax rates enacted during the 1990-91 recession, a pattern that is particularly unfair to low- and moderate-income families.(4) In sum, income tax relief for poor families is overdue in many states.
1. As discussed on page 10, this report does not include in the calculation of tax thresholds any tax credits that are granted as offsets to other state and local taxes, such as sales taxes or property taxes. In previous versions of this report, the Georgia low income credit was not included in the calculation of the tax threshold, because the history of the credit suggested that it was intended as an offset to the sales tax on food. This apparent intention was reinforced by the denial of the credit to food stamp recipients; states are prohibited by federal law from imposing sales taxes on food purchased with food stamps. Last year, Georgia began phasing out its sales tax on food. Nonetheless, the low income credit was not reduced; moreover, in tax year 1997 the credit was not denied to food stamp recipients. Effectively, the Georgia low income credit has been converted to a general low income credit. It is treated as such in the calculation of the 1997 threshold.
2. Wisconsin's earned income credit was not calculated as a percent of the federal credit for tax year 1994 but it has since recoupled with the federal credit. However, in 1996, the state reduced the percentage that the state EITC is of the federal EITC for families with two or more children. As a result, the EITC benefit for these families remained the same or fell slightly between 1995 and 1997.
3. In the District of Columbia's case, its no-tax floor is indexed by being tied to the level of federal exemptions and deductions.
4. See Nicholas Johnson and Iris J. Lav, Are State Taxes Becoming More Regressive? Center on Budget and Policy Priorities, October 29, 1997. This report documents that states tended to increase both personal income taxes and consumption taxes to maintain tax collections as the economy declined during the 1990-91 recession, but reduced only income taxes once the economy rebounded. Since consumption taxes are regressive, imposing a disproportionate burden on low-income households, this pattern of increases and decreases over the business cycle has made state tax systems more regressive overall.
Chapter I. Summary
Chapter II. State Income Taxes on Poor Families in 1997
Chapter III. Recent Changes in State Income Tax Burdens on the Poor
Chapter IV. Strategies for Relieving State Tax Burdens on Poor Families
Chapter V. Conclusion
Appendix I: State Earned Income Tax Credits in 1997