S.C. Taxpayers to Pay Filing Fees?

September 20, 2010

Investigative Reports

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The NerveIn what might be a first for the nation, a special legislatively created panel studying South Carolina’s tax structure is proposing charging all individual state income tax filers a filing fee, including the more than 800,000 people who annually owe no taxes.

In interviews last week with The Nerve, representatives of two national taxpayer-issue organizations each described the recommendation as “strange” and said they were not aware of any state that imposes such a fee.

A subcommittee of the S.C. Tax Realignment Commission has recommended charging all individual income tax filers – regardless of whether they owe any state income taxes – a filing fee ranging from $25 to $75 depending on their federal adjusted gross income (AGI). The proposed fee structure would be as follows:

  • $0 to $49,999 AGI – $25
  • $50,000 to $99,999 AGI – $50
  • $100,000-plus AGI – $75

The proposed fees, to be called “Invest SC” or “some like name,” would raise about $74 million annually, according to a Sept. 2 TRAC subcommittee report.

In South Carolina, individual income tax collections last fiscal year totaled about $2.17 billion, a decline of more than $700 million over the past three years, the report said.

“This subcommittee is concerned about the increasing number of South Carolina tax filers with zero ($0) individual income tax liability and the issues that surround the sheer magnitude of this reality,” the report said.

The report noted that of the approximate 2.1 million state individual income tax returns filed annually, more than 870,000, or 41 percent, have no tax liability.

“We worry that while the state’s income tax structure may appear appropriately progressive at first glance, the scale may have very well tipped towards ‘too progressive’ based on the fact that more than 40 percent of all tax filers now pay zero individual income tax to the state of South Carolina,” the report continued. “As the ‘taxable base’ … continues to erode, additional burden will be felt by the remaining filers who will have to shoulder more responsibility for generating revenue for the basic functions of state government.”

The full tax study committee has not decided whether to accept the filing fee recommendation, which was presented at its Sept. 10 meeting. TRAC Chairman Burnie Maybank told The Nerve last week that it could come up at its scheduled meeting on Tuesday, though according to the publicly posted agenda, that meeting will focus on property taxes.

In a written response last week to questions from The Nerve, Maybank said he wasn’t aware of any state that imposes filing fees on all individual income tax filers.

“It is akin to an AMT (alternative minimum tax on federal income tax returns),” Maybank acknowledged.

Contacted last week by The Nerve, Bill Ahern, director of policy and communications for the Tax Foundation, a nonpartisan tax research group based in Washington, D.C., described the proposed filing fee as a “strange suggestion,” and said that it would “enact a progressive fee structure as a kind of AMT for the poor.”

Of the total approximate 2.1 million individual income tax returns filed annually in South Carolina, nearly 32 percent of filers have no state taxable income, while another 35 percent have taxable income of less than $20,001, according to the most recently available figures from the S.C. Department of Revenue.

John Stephenson, the state government affairs manager for the National Taxpayers Union in Alexandria, Va., which bills itself as “America’s independent nonpartisan advocate for overburdened taxpayers,” believes the TRAC subcommittee proposal is “kind of strange.”

“It sounds like a sort of gimmick to try to collect more money from more people,” he told The Nerve last week.

Stephenson and Ahern said they didn’t know of any state that charges an income tax filing fee to all individual filers. Stephenson pointed out that the federal government charges no such fees.

In a written response to Stephenson’s and Ahern’s remarks, Maybank said the subcommittee’s proposal was “no more strange or gimmicky than the rest of the tax code.”

“We didn’t feel it was right that some 800,000 (individuals) annually pay no taxes, shifting the burden to everyone else,” Maybank said.

Maybank is an attorney with the go-to Columbia economic development firm of Nexsen Pruet and a two-time former director of the S.C. Department of Revenue. He was a chief architect of the taxpayer-funded incentives package – estimated earlier by The Nerve to be at least $500 million – for the new Boeing aircraft assembly plant in North Charleston.

HIGH INCOME TAX STATE?

The proposed S.C. income tax filing fees would apply to all individual filers. The subcommittee recommended that anyone who files a federal income tax return also be required to file a state return.

The subcommittee noted that South Carolina ranks sixth highest in the nation in the number of taxpayers who pay no federal income tax.

South Carolina’s relatively high percentage of filers owing no state income taxes stems from the way the state’s tax system is structured and is “no fault of” taxpayers, the report said. Unlike most other states, the Palmetto State uses federal taxable income instead of federal adjusted gross income as its starting point for determining state taxable income, according to the report.

“By using a tax basis of federal taxable income, South Carolina automatically adopts the federal level of both standard deductions and personal exemptions,” the report said. “Further compounding this issue is the fact that these deductions and exemptions automatically adjust for inflation each year.”

The subcommittee pointed out that South Carolina’s average “effective” tax rate – what filers actually pay after taking eligible deductions, exemptions and credits – is 2.8 percent, which it said is lower than the “effective” tax rates in 33 other states.

“Based on its thorough and complete analysis, the subcommittee finds that South Carolina is not a high individual income tax state by any honest and in-depth measure or assessment,” the report said.

South Carolina’s top marginal rate of 7 percent, however, is among the highest in the Southeast, and the Palmetto State has “one of the highest marginal tax rate schedules in the country,” College of Charleston associate professors Steven Arsenault and Douglas Walker wrote in Unleashing Capitalism, a book published last year by the South Carolina Policy Council, The Nerve’s parent organization.

“This is problematic for future economic growth in the state because high marginal tax rates stifle economic growth,” Arsenault and Walker wrote.

In his written response to The Nerve, Ahern, of the Tax Foundation, said the subcommittee’s premise that “what matters most to taxpayers is the low effective rate” is erroneous.

“Economically speaking, the marginal rate on productive investment is more important,” Ahern said. “A slew of politically motivated deductions, credits and exemptions may indeed lower the average effective rate, but in general those are not helpful to the economy.

“In fact, they are usually a net negative for the economy because the revenue deficiencies they cause usually force the statutory income tax rate up, or they shift the tax burden to other taxes.”

OTHER PROPOSALS

Besides proposed income tax filing fees, the TRAC subcommittee also made the following recommendations relating to individual income taxes:

  • Expand the 6 percent tax bracket to at least $21,249 from the current top level in that bracket of $13,700. That would give tax relief to those taxpayers with taxable income just above $13,700, which currently puts them in the top tax bracket of 7 percent.
  • Permanently cap standard deduction and personal exemption amounts at tax year 2009 levels. The report noted that those amounts in S.C. are between two and three times higher than in neighboring Georgia and North Carolina, and are “substantially larger” than in many other states.
  • Reduce the taxation exclusion for a portion of capital gains held for more than one year from the current level of 44 percent to 20 percent. The subcommittee contends that the change would bring in more tax dollars while maintaining the state’s “competitive advantage” over North Carolina and Georgia in that area.
  • Begin taxing lost-wage damages in lawsuit settlements and judgments. Federal law prohibits federal income taxation of that, and South Carolina currently adopts the federal law with respect to state income taxes.
  • Consider reducing the $15,000 income exclusion for seniors 65 and older, which includes pensions and wages from jobs. “This substantial exclusion appears unique compared to other states, where such benefits are often limited specifically to pension or retirement income,” the report said.

Although he disagreed with the proposed filing fee, Ahern, who was asked to review the subcommittee’s report at the request of The Nerve, said he believed the recommendation to base state income tax on the filer’s federal adjusted gross income rather than federal taxable income was “excellent.”

“The mantra of real tax reform is ‘broaden the base, lower the rate,’” he said. “By broadening the base from taxable to adjusted gross, and by eliminating some of the exemptions, deductions and credits that create such a wide gap between the top statutory rate (7 percent) and average effective rate (2.8 percent), SC could truly improve its state income tax.”

TRAC is an 11-member committee established by the General Assembly last year and charged with recommending changes in the state’s tax structure, including income, sales and property taxes. It has approved lowering the overall state sales tax to about 5 percent from the current 6 percent, but recommended taxing groceries, water and electricity bills, and prescription drugs; and increasing the state’s gasoline tax.

Any proposed changes would have to be approved by the Legislature.

Reach Brundrett at (803) 254-4411 or rick@thenerve.org.