Tax Reform Can Drive Growth In Maryland and Massachusetts

Maryland and Massachusetts both have lower GDP growth and higher unemployment rates than the U.S. average. Voters in both states elected Republican governors who ran on platforms of economic growth. Can Massachusetts governor-elect Charlie Baker and Maryland governor-elect Larry Hogan deliver?

The states’ problems do not stem from failure to attract talented individuals. Maryland has the fourth highest percentage of residents with four-year college degrees and Massachusetts has the second highest, with rates of 36 percent and 39 percent, respectively. Rather, the solution to getting these economies growing again is ridding the states’ tax codes of loopholes and lowering taxes. 

The economic status quo in Massachusetts and Maryland is unacceptable. In the annual report Rich States, Poor States, put out by the American Legislative Exchange Council, Massachusetts is ranked 41 (where 1 is best and 50 is worst) in the Economic Performance Rank and 28 in the Economic Outlook Rank. Maryland receives a 31 in the Economic Performance rank, better than Massachusetts. However, when it comes to economic outlook Maryland is ranked 34, a ranking that has deteriorated in each of the past five years.

These findings are echoed by the non-partisan Tax Foundation’s 2015 State Business Tax Climate Index. It focuses on states’ business climates based solely on tax variables, and reveals a similar picture of Massachusetts and Maryland, which have rankings of 24 and 40, respectively. 

Lowering tax rates would help spur the states' economies. Lower rates deliver better results than expanded tax loopholes that benefit a select few. This is because government bureaucrats and politicians are incapable of correctly picking winners and losers through grants and special tax treatment.

Picking winners and losers is done through carve-outs, where tax exemptions or credits are given to specific industries or businesses. However, any tax carve-out reduces the tax base, which requires an increase of the tax rate for everyone else in order to maintain consistent revenue for the state. 

Massachusetts foregoes nearly $14 billion in tax revenues due to individual income tax credits. These tax carve-outs comprise 23 percent of the state budget. More revenue is lost through tax credits for specific favored industries. Losing this much revenue burdens a smaller base with higher tax rates. A small tax base, high tax rate environment is a disincentive for entrepreneurship and business development and hampers economic growth.

Property tax burdens in Massachusetts are the 48th highest in the nation. Removing tax carve-outs would allow Massachusetts to make its property taxes more competitive with other states' rates, possibly reversing the trend of net income leaving Massachusetts, which exceeded $10 billion from 2000 to 2010. 

In Maryland, Governor-elect Hogan should first focus on lowering individual income tax rates, the 45th most burdensome in the United States. Doing so would benefit many more residents than creating additional carve-outs. From 2000 to 2010, Maryland lost a net of $5.5 billion in adjusted gross income, including $3 billion to income tax-free Florida. 

Recent examples of carve-outs include the production credits given to the film and television industries. Massachusetts and Maryland are both guilty of handing out tax credits to bring in big-name actors and production companies that supposedly spur the local economy. One Oscar-nominated film made in Massachusetts, American Hustle, was granted a 25 percent production and payroll tax credit, as well as a sales tax exemption, off their $40 million production budget. 

Maryland offered an even bigger incentive to Media Rights Capital, the production company that made Netflix’s House of Cards, to film the show for three seasons in the state. MRC will receive a total of $37.5 million in tax credits from Maryland by the end of the third season. 

Many film tax credits are based on the size of the production budget, not on earned income, and are fully refundable. When production companies’ tax liabilities are lower than the credited amount, other taxpayers are on the hook to pay the companies. A new report from the Maryland Department of Legislative Services concludes that the purported economic benefits of film tax credits are exaggerated and unsustainable. With tax returns of only 10 cents of every state dollar spent, the report advocates ending the wasteful credits. Film tax credits are just one example of special interest carve-outs that increase tax burdens for everyone else. 

Hogan and Baker should focus their attention on eliminating tax carve-outs from their state tax systems by promoting and supporting simple, neutral tax systems, levied across a broad base at lower rates. If the newly-installed governors can succeed in tax reform, Maryland and Massachusetts will improve their economic rankings. More important, the new governors will deliver on what their residents elected them to achieve—long-term economic growth.