A Good First Step
for Alabama Tax
Reform: More Steps
Needed
for the top 40 percent. Figure 2 shows
that the state tax structure has become
more regressive over time; the poor pay
even more taxes as a share of their
income while the rich pay less. To some
people, this regressive nature has
provided the rationale for labeling the
state tax structure immoral.
Governor Bob Riley and the Alabama
legislature have taken a good first step
toward tax reform in the state. By
raising the threshold at which a lowincome family of four begins to pay
income taxes to $12,500, the Governor
and the legislature have taken a step
forward and made the state tax structure slightly less unfair and regressive.
Unlike the Bush tax cuts, which mainly
benefit the wealthy, this tax break is
praiseworthy in that it is designed to
help low-income taxpayers. However,
no mechanism was put in place to pay
for the tax break and that reduces
adequacy of tax revenues.
The Public Affairs Research Council of
Alabama (PARCA) has documented two
other problems with Alabama taxes—
that they are neither adequate nor
efficient. Tax revenues are adequate
when the state has enough money to
provide the optimal level of public
services such as public safety, schools
and quality education, public health,
and prisons. Proration is a consequence
of inadequate tax revenues.
Even with the new law, Alabama’s tax
structure remains disproportionately
burdensome to the poor because the
new threshold is still low. Families are
required to pay income tax on below
poverty level incomes. The U.S. Census
Bureau set the official poverty level for
a family of four with two children at
$19,806 in 2005. Alabama taxes are
also regressive because of the high
dependence on sales and excise taxes,
especially when applied to groceries.
The share of income that state and local
taxes constitute is highest for the state’s
poorest and drops quickly with rising
income so that those who can afford to
pay more actually pay much less (Figure
1). Our “graduated” income tax rate
schedule has essentially become a flat
tax because the rate does not adjust
over time with some index such as
inflation.
Alabama’s tax laws hit low- and middleincome families much harder than they
do the wealthy, and this is worsened as
the income gap widens. Figure 1 also
shows that even if the poorest 20
percent of non-elderly Alabama taxpayers paid no state income taxes at all
in 2002, sales and property taxes would
have made up a higher share of their
income than all state taxes constituted
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Alabama Business
Tax structure efficiency has to do with
balance among revenue sources,
flexibility of revenue distribution and
use (the earmarking issue), and general
management of tax revenues to avoid
waste and promote best use. Flexibility
is an asset in decision making, but
earmarking can reduce that flexibility.
To improve the efficiency of the tax
system, the current high level of earmarking would have to be adjusted
downward. This will make the system
more flexible while allowing for some
earmarking. Reducing state government
waste increases efficiency and actions
have been taken in recent years to do
that.
Why Reform Is Needed. A regressive
tax system can make the state unattractive to some people and may be
partly responsible for Alabama’s low
population and labor force growth rates.
Such low growth rates can delay or limit
progress. A better balance among
sources of tax revenues and a more
flexible management of the revenues
will facilitate provision of public
services. Adequate tax revenues are
needed to provide the proper level of
public services. Newspapers frequently
give accounts of insufficient public
services such as underperforming
schools, not enough state troopers,
crowded prisons, and understaffed
forensic labs lacking state-of-the-art
equipment. One gets what one pays
for: so long as taxes are inadequate,
public services will continue to be
insufficient and suboptimal.
A well-functioning society consumes
optimal amounts of both private and
public goods and services. By shortchanging ourselves on the public end,
we waste or overspend on the private
end and our total consumption is
suboptimal. So we are all adversely
affected, directly or indirectly, when
the system is not functioning well.
Similarly, we all benefit, directly or
indirectly, when the system is doing
well; a rising tide lifts all boats.
A consequence of having underperforming schools is an inadequately
trained workforce. Workforce skills and
productivity are important to employers;
an ill-prepared workforce will slow
economic development. Having better
schools and providing better education
would provide high-quality workers and
could enable some people to participate
in and increase the state’s labor force.
This would grow the state economy and
increase revenues.
It is important to have private schools
in the mix of educational opportunities.
However, the problem of having underperforming public schools is not solved
by sending some children to private
schools. One has to wonder about the
quality of private schools that are
compared to underperforming public
schools. On the other hand, if public
schools provide good education, then
the quality of private schools would be
beyond question because they have to
be better.
History suggests a high likelihood that
the legislature will take a piecemeal
approach to addressing the regressivity,
adequacy, and efficiency problems with
the state tax system. A comprehensive
approach would be better for the state.
The 2003 attempt suggests that to be
successful, the package must be simpler
and all the stakeholders must be at one
table. We do not have to look far for
solutions. There are lots of ideas in two
reports of the early 1990s from the
Alabama Commission on Tax and Fiscal
Policy Reform (ACTFPR) and the Tax
Reform Task Force (TRTF).
Addressing Regressivity.
We need to create a fair tax
structure, one that considers
the taxpayer burden across
all revenue sources. Since
the federal income tax is
progressive, a flat state
tax structure might be
acceptable (although the
moral argument calls for a
progressive tax system).
As noted earlier, the new
income threshold is still low.
Perhaps the federal level,
together with its annual
adjustments can be adopted
and applied to all Alabama
taxpayers, not just lowincome earners. Without
indexed adjustments, the
tax structure will become
more regressive over time.
Other suggestions that
would help make the state
tax system fairer include
eliminating sales taxes on
groceries, abolishing the
federal tax deduction, and
designing and adopting
more progressive income
and property tax schedules.
Figure 1. Alabama State and Local Taxes in 2002
as Shares of Family Income for Non-Elderly Taxpayers
Source: Who Pays: A Distributional Analysis of the Tax Systems in All 50 States, Institute on Taxation and
Economic Policy (ITEP), January 2003.
Figure 2. Change in Tax Share of Income, 1989-2002
Addressing Inadequacy.
Since revenues are inadequate, taxes will have
to be raised. The TRTF
suggested raising the state
property tax rate from 6.5
Source: Institute on Taxation and Economic Policy, January 2003.
mills to 14 mills and tacking
on an extra 10 mills for
schools. These suggestions
taxpayers what they get in return for
attractive to live in Alabama. Compretackle both adequacy and efficiency to
paying taxes. This can be done with an
hensive tax reform will go a long way
some degree and have the potential to
annual report that is published on the
toward boosting economic development.
raise several hundred million dollars. A
Governor’s website and probably in
truly progressive income tax schedule
newspapers as well. Simplicity and
Samuel Addy, Ph.D.
that has higher than current rates for
transparency should be additional goals
[email protected]
higher income taxpayers and a high
of any tax reform because they facilitate
threshold would address both adequacy
efficiency. A transparent system will
and regressivity.
enable taxpayers to see when more or
less taxes are needed.
Addressing Inefficiency. Figure 1 also
shows that property taxes are clearly
Maintaining Momentum. Alabama
not in balance with income and sales
has made great strides in economic
taxes. A better balance requires raising
development in recent years. Maintainproperty taxes, which would partially
ing this momentum will require preaddress the adequacy issue as noted in
paring and growing our workforce. This
the preceding paragraph. The level of
means having a public education system
earmarking needs to be reduced. We
and offering public services that make it
also need to better communicate to
Alabama Business
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