Friday, December 6, 2013
By Steve Mistler email@example.com
State House Bureau
Gov. Paul LePage's proposed state budget makes no mention of a tax increase, but it would raise the tax bill of the average Mainer by $39 over the next two years.
Gov. Paul LePage
HOW CHAINED PRICE INDEXING WORKS
Numerous government programs, including Social Security benefits and income tax brackets, are indexed for inflation. The idea is to offset wages that climb into higher tax brackets without any corresponding increase in purchasing power.
But inflation is measured in various ways.
The Consumer Price Index, the index used for Maine income tax rates, is a survey that calculates inflation by measuring the prices of goods and services in a “market basket.”
Critics say that doesn’t necessarily reflect what people are buying. For example, if the price of oranges rises, consumer price indexing makes the assumption that consumers will keep buying them and applies a corresponding cost-of-living index.
Chained consumer price indexing assumes that if the cost of oranges increases, consumers will buy cheaper fruits.
Chained consumer price indexing, proposed in Gov. LePage’s budget, rises slower so it can keep incomes in higher tax brackets slightly longer than traditional indexing.
The result is more tax revenue without higher tax rates and, some say, a more accurate measurement of inflation.
The proposal relies on subtle, but lucrative, changes to the state's income tax indexing. The way it would work is complicated, but the result is a projected increase of more than $8.6 million in state income tax collections over the two fiscal years beginning July 1, and an estimated $1.5 million in subsequent years.
If the plan is approved by the Legislature, average Mainers who pay income taxes will pay $39 more over the next two years, said Michael Allen, LePage's associate commissioner of tax policy.
The impact on taxpayers beginning in fiscal year 2015-16, when the biggest indexing change would take effect, is unclear, but critics say it would disproportionately hit low- and middle-income earners.
The proposal is in LePage's two-year, $6.2 billion budget, which includes several controversial measures designed to protect $400 million in income-tax cuts passed by the Legislature in 2011.
Among the most contentious provisions is a two-year suspension of state aid to cities and towns – a proposal that Democrats and the Maine Municipal Association have described as a massive tax shift that would cause cuts in community services or increased property taxes.
The income indexing change has so far drawn less attention, but it is beginning to generate opposition.
"There is no other way to see this than a tax increase on middle- and low-income Maine families," said House Speaker Mark Eves, D-North Berwick, in a prepared statement. "Coupled with the cost shift from eliminating funds for our cities and towns, it only does more harm to Maine's struggling economy, our people and small businesses."
The budget provision calls for a two-year suspension of the state's indexing of the individual income tax rate.
Indexing is used to link tax or benefit rates to inflation. For income taxes, it's used to offset wages that climb into higher tax brackets without any corresponding increase in purchasing power.
After the two-year suspension, the state's current consumer price indexing could be replaced with "chained consumer price indexing."
The new metric essentially would leave people in higher tax brackets for a longer time than the old one, enabling the state to collect more income taxes.
Chained consumer price indexing has been around for years. It has been popularized in congressional negotiations over the federal government's "fiscal cliff." It's expected to remain a hot topic in the upcoming battle over the nation's debt ceiling.
Debt reduction hawks champion chained consumer price indexing as a way of reducing the national deficit. It has been heralded as a deficit reduction tool by the conservative Heritage Foundation, the Simpson-Bowles deficit commission and the Committee for a Responsible Federal Budget.
Allen, with the state's tax policy division, said the national talks about the indexing prompted the LePage administration to include it in its budget.
Allen said he doesn't know if other states have adopted the indexing.
Former state economist Charles Colgan, now with the Maine Center for Business and Economic Research, said he is not sure if Maine has ever considered adopting chained consumer price indexing for income taxes.
Allen and Colgan agree that it may be a more accurate measurement of inflation and the cost of living. But critics argue that it hits low- and middle-income earners harder by leaving them in higher tax brackets longer. Top earners aren't affected as much because they're already in the highest tax bracket.
"It does have distributional consequences," Colgan said.
Allen said Monday that Maine Revenue Services has not yet done a full analysis of the indexing change to calculate its impact on the state's income tax brackets.
The change would likely reduce the tax cut that some Mainers would receive in the reduction package passed two years ago.
The package reduced the number of tax brackets from four to three and eliminated income taxes for about 70,000 Mainers. Allen said some of those people could end up paying taxes if the indexing plan is adopted, but it would be small amounts.
The impact would be greater on middle-income earners.
According to Maine Revenue Services data, 40 percent of Maine taxpayers earn less than $27,312 a year, while 40 percent earn more than $47,255.
The group in between will see an average tax cut of $119 this year, according to a recent analysis by the Portland Press Herald.
However, some of those people could see a reduced tax cut because of the proposed indexing.
Earners at the lower end of middle bracket could end up with less of a benefit than they will if the current indexing metric remains.
Allen said the anticipated revenues from chained consumer price indexing are modest, but immediate.
"The chained CPI is probably raising $1 million or $1.5 million in the first year," he said. "It's the cumulative effect down the road where it would generate really meaningful savings."
Allen echoed supporters' argument that chained consumer price indexing is probably a more accurate reflection of inflation and cost of living.
But opposition is mounting over what critics call a regressive tax scheme that allows politicians to increase tax revenue without the exposure of raising rates.
That narrative will become part of the debt negotiations at the federal level. In Maine, the indexing could become part of a larger budget debate over the tax cut package.
Steve Mistler can be contacted at 791-6345 or at:
This story has been corrected to note the estimated tax increase in the budget proposal.