Guest Column: Tax credits not always sound practice

The Missouri legislature is considering a so-called “mega-project” tax credit worth, in present value, $550 million for Bombardier Aerospace, a large Canadian firm, to build a manufacturing plant in Kansas City.

Tax credits sound like a great idea for enticing businesses to expand, relocate or build in Missouri. With the Bombardier project, though, it might be useful to consider the basic economics of tax credits.

Two categories; one impact

Tax credits that focus on social goals can be called “public good” credits. The Historic Preservation Tax Credit, for instance, subsidizes renovations for historic buildings. Another example, the Earned Income Tax Credit, is available to assist state residents who are employed but whose annual income is low.

The second category targets economic development, or “corporate welfare.” In practice, these credits reduce tax bills for businesses within the credit’s boundaries. In exchange, the business typically must bring something to the equation, such as offering well-paying jobs.

Regardless of the type, tax credits share one common feature. For recipients, credits lower their individual or corporate income tax bills, which in turn impacts the state budget.

That impact is significant. For the state’s fiscal year that ended June 30, for example, the General Revenue Fund collected $7.7 billion. In that same fiscal year, Missouri redeemed $485.6 million in tax credits.

Less flow in the General Revenue Fund results in fewer dollars available for state programs and potential cuts to public schools, prisons and health care facilities.

The argument

Tax credit proponents contend that no such tradeoffs exist, particularly for economic development credits. Their tenuous argument is built on the proposition that if a business locates in Missouri, the tax base naturally will increase, and any lost revenues from the tax credit will be offset by greater individual income and sales taxes.

Unfortunately, this almost certainly is wrong. Historically, the General Revenue Fund receives between 3 cents and 4 cents of every dollar of final goods and services produced within Missouri’s borders. Thus, for every dollar of tax credit, Missouri’s economy has to produce between $25 and $33 worth of final goods and services in order for the fund to break even.

While some projects may offer such robust yields, there are no guarantees. Indeed, in the last century, the average annual return from equities in the United States, after adjusting for inflation, is $1.07 for every dollar invested. To bank on higher future tax revenues flowing from today’s tax credits is simply folly.

The risk of long-lasting economic damage looms much larger with “mega-tax credits” of the Bombardier variety, which are unprecedented in Missouri. If large corporations such as Bombardier are given lower tax rates, the marginal tax rates for everyone else must become higher in order to raise the same amount of revenue. However, high marginal tax rates actually eliminate more jobs than are created through tax credit beneficiaries.

A much better economic development policy would be to keep a level playing field and lower marginal tax rates for all individuals and businesses. Better yet, get rid of the income tax altogether, as our neighbor Tennessee has done and whose growth has outstripped Missouri’s for the last decade.

Letting politicians and bureaucrats guide private-sector investment is an economic stagnation policy.

Rex Sinquefield is co-founder of Show-Me Institute, a St. Louis-based statewide think tank. He retired in 2005. Joseph Haslag, Show-Me Institute’s executive vice president and University of Missouri–Columbia economics professor, also contributed to this column. The authors can be contacted at info@showmeinstitute.org.[[In-content Ad]]