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All Taxes Great and Small


All Taxes Great and Small

December 7, 2005

One of the more striking aspects of this year's mayoral campaign has been the lack of any substantial debate on New York City's tax policy. To be sure, Fernando Ferrer has done his share of carping about Michael Bloomberg's tax hikes. But the net result of Mr. Ferrer's campaign promises would be to follow Mr. Bloomberg's tax increases with still more tax increases, tailored to redistribute an even larger share of the burden further up the income scale.

It was probably too much to hope that anyone with Mr. Ferrer's heavy spending agenda would be in a position to credibly propose any real reduction in the city's crushing tax burden. But it's not as if the mayor hasn't provided plenty of room to differ. Tax increases during his first two years in office effectively wiped out all of the tax cuts enacted under Mayor Giuliani, raising the tax burden back to the levels of the 1980s and early '90s.

From both an economic and political standpoint, the mayor's timing was fortunate, though. Just as both Albany and City Hall were raising taxes in 2003, President Bush and Congress were agreeing to accelerate federal income tax rate cuts and to add new investment incentives boosting the stock market. The Bush tax cuts packed a wealth- and job-creation punch that more than offset the negative impact of the state and city tax increases, as a new econometric model confirms. Ignited by falling interest rates, the billions in net tax savings added more fuel to a real estate boom of historic proportions, which in turn fed the city's capital gains and real estate transaction tax revenues.

Looking ahead to the next mayoral term, however, there are no new federal tax cuts on the horizon; if anything, the risk is quite the opposite. Interest rates are rising and the real estate market appears to be cooling. For his part, Mayor Bloomberg has indicated he will avoid further tax increases in his next term—if the economy keeps growing.

The mayor has often suggested that high taxes are less of a hindrance to economic development in New York than in other cities. But his image of New York as a "high-end ... luxury product" ultimately amounts to a strong argument against his continuing indifference to high marginal tax rates. After all, it is a well established economic principle that demand for luxury goods is highly elastic. When prices rise too high, consumers—in this case, footloose firms and individuals—will always forgo luxuries before necessities. And the sheer weight of the city's taxes isn't the only problem. The municipal tax structure is inefficient, inequitable and costly to comply with, and this has only become worse during the Bloomberg era. Three problems stand out.

First, over the past 15 years, New York City has become more and more dependent on the most volatile and economically sensitive portions of its tax base—especially the personal income tax on city residents. Over half of the city's total income tax is paid by the top 2.3% of all filers—those with incomes over $250,000—and one-third is generated by about 12,000 households with incomes over $1 million.

Second, the city's notoriously byzantine four-class property tax structure, shaped by state law, shifts a grossly disproportionate share of the tax burden to owners of commercial and multi-family properties. As a result, renters and job-creating businesses bore the brunt of the mayor's record 18.5% rate hike in 2002. Then the mayor sought to placate homeowners with a $400 "rebate"—in essence, a transfer payment. (Mr. Ferrer would make matters still worse by expanding the rebate into a big new homeowners' property tax exemption.)

Third, New York's array of business income taxes, on top of heavy nuisance fees, fines, and property taxes, is both unique among American cities and exceptionally punitive. For example, the city's net income tax on corporations is now greater than New York State's, producing an incredibly high combined rate of 17.63%. In no other state does the rate even reach 10%.

Mayor Bloomberg's challenge in his likely second term is to find a more competitive price point for the "product" New York represents. At the very least, he should make much stronger commitment to honoring the scheduled end-of-2005 "sunset" of the supposedly temporary increase in personal income tax rates adopted in 2003. Whatever the size of the gap he must contend with, it must be closed on the spending side.

In the long run, New York's economy will not experience the growth needed to sustain high-quality public services unless its mayor is willing to put a consistently higher priority on tax reform and tax relief.