President Bush’s latest federal tax cut proposals will help New York’s economy where it is now hurting the most.

As the centerpiece of his plan, Bush will seek to eliminate individual income taxes on shareholder dividends—a move aimed at boosting the stock market, which is vitally important to the New York City area’s economy. He also will propose accelerating marginal income tax rate reductions scheduled to take place by 2006 under current tax law. This move would favor states with high incomes and living costs, such as New York.

The dividend payoff

Dividends are now effectively taxed twice by the federal government—at both the corporate and shareholder level. By ending this double taxation and providing individuals with a new incentive to invest in stocks, Bush aims to provide a stimulative shot in the arm to Wall Street.

The move to reduce taxes on investment income couldn’t come at a better time for New York securities firms, which have shed more than 20,000 jobs and seen their profits drop by more than 50 percent within the past two years. The related fall in capital gains income and investment bankers’ annual bonuses have led to significantly weaker New York State and New York City income tax collections.

President Bush’s advisers reportedly believe the elimination of dividend taxes could increase stock values by 10 percent.[1] Indeed, any significant reduction in dividend taxation should touch off at least a short-term burst in trading volume, securities industry profits, capital gains and dividends themselves.[2]

The President’s proposal also will pump new dollars directly into the New York economy in the form of savings to resident taxpayers. New York State accounted for 6.6 percent of the nation’s individual income tax filers in 2000 but generated more than 8.5 percent of the dividend income reported on federal tax returns, according to data from the Internal Revenue Service. The $12.3 billion in dividend income reported by New Yorkers that year was exceeded only in California. More than 30 percent of New York tax filers reported dividend income in 2000, compared to a national average of 26 percent.

Based on Internal Revenue Service (IRS) data,[3] the elimination of dividend taxes can be expected to generate more than $2 billion in direct annual tax savings for New Yorkers, on top of roughly $7 billion in tax savings that state residents were scheduled to receive this year under Bush’s 2001 income tax cut.[4]

The rest of the Bush package

Further tax savings for New Yorkers will come from the President’s reported plan to accelerate marginal rate reductions that are not scheduled to become effective until 2004–06 under current law. Because of its high average household incomes, New York stands to benefit disproportionately from such rate reductions. The President’s plan also accelerates increased child credits, marriage penalty relief, and a deep tax cut for low-income workers—changes that currently aren’t scheduled to take effect until between 2007 and 2010.

The effect of Bush’s proposals to accelerate currently scheduled tax cuts will be to boost New Yorkers’ federal income tax savings this year to over $10 billion—a net increase of roughly $3 billion over federal tax cuts already scheduled to take place under the 2001 law.[5] Adding the dividend exclusion and expanded investment tax breaks for small business, the President’s plan represents at least $5 billion in new tax savings for New York State residents this year.

Bush’s plan also addresses another key New York concern: the impact of the Alternative Minimum Tax (AMT). The AMT disallows a long list of common tax breaks, including dependent exemptions and deductions for state and local income taxes. As a result, a growing number of middle-income taxpayers in New York and other high-tax, high-cost states are now paying the AMT, which was originally intended only to affect the wealthiest taxpayers.

The 2001 tax cut law included temporary AMT relief provisions that would expire at the end of 2004. Bush’s new proposal will extend that relief for one additional year—ensuring that most New Yorkers will feel full effects of his proposed accelerated rate reductions, but still leaving the AMT as a problem to be addressed after 2005.

Amid the still-unanswered questions about the Bush plan, this much seems clear: Measured in fiscal and budgetary terms, a big federal tax cut aimed primarily at investors in the stock market will deliver more economic benefits to New York than any of the alternatives that are likely to be debated in Congress in the months ahead.

Originally Published: FISCALWATCH MEMO

Notes

  1. As reported in the front-page Wall Street Journal article on Jan. 6, 2003, “Bush to Propose Broad Tax Cuts In $600 Billion ‘Growth’ Package.”
  2. The direct impact on New York State and City revenues depends on how the President’s proposal is structured. Like roughly half of all states with a personal income tax, New York conforms fully to federal definitions of taxable income. If the federal government simply dropped the dividend line from its tax forms, the state (and the city, whose income tax is also calculated on the state tax form) could automatically stand to lose hundreds of millions of dollars in revenue. If the tax break for dividends ends up being structured like the existing differential rate for capital gains, the state and city would not be affected; in fact, they would probably gain revenue, because New Yorkers’ dividend income would increase. In any case, the stakes here are not small. Every 10 percent change in combined capital gains and dividend income is worth at least $200 million to the state, on the current tax base.
  3. Individual Income and Tax Data, by State and Size of Adjusted Gross Income (Tax Year 2000: Expanded Unpublished Version downloaded from http://www.irs.ustreas.gov/taxstats/article/0,id=103106,00.html). Dividend tax savings calculated by applying the average effective income tax rate to total report dividends income reported in 2000.
  4. For further details on the 2001 tax cuts and its effect on the Empire State, see “New York’s Savings from the New Tax Law: A Good Start, But Loose Ends Remain,” Manhattan Institute Center for Civic Innovation, Civic Report No. 18, July 2001, at http://www.manhattan-institute.org/html/cr_18.htm.
  5. Ibid, p. 6.

About the Author

E.J. McMahon

Edmund J. McMahon is Empire Center's founder and a senior fellow.

Read more by E.J. McMahon

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