April 5, 2009

RALEIGH — North Carolina’s tax system needs radical reform to maximize prosperity and minimize harm to individual liberty. That’s the theme of the John Locke Foundation’s latest Macon Series Policy Report.

Click here to view and here to listen to Dr. Roy Cordato discussing this Macon Series Policy Report.

“The state’s current system of taxation aggressively interferes with individual liberty and retards economic growth,” said report author Dr. Roy Cordato, JLF Vice President for Research and Resident Scholar. “The existing tax system rewards some activities and penalizes others without any sound economic basis.”

Cordato is releasing his report as some legislators push for tax changes that would take away freedom, rather than promoting it. “The state tax code does not need new taxes on cigarettes, alcoholic beverages, or other products these legislators don’t like,” he said. “The state should repeal separate sales taxes for these items, as well as taxes on restaurant meals and soft drinks.”

Lawmakers should focus on more than just the amount of revenue particular taxes generate, Cordato said. “Some types of taxation are more damaging to freedom and prosperity than others.”

Cordato urges lawmakers to adopt the “liberty principle” as they consider tax reform. “The liberty principle stands in direct opposition to the redistributionist principle,” he said. “The redistributionist principle says the more people earn, the greater proportion of their income should be paid in taxes. There’s no relation to the benefits received from taxes.”

“In stark contrast, the liberty principle focuses on minimizing the extent to which the tax system interferes with individual freedom or the ‘pursuit of happiness,'” Cordato added. “This liberty principle is consistent with the North Carolina Constitution. Article I, Section I of that document lists our inalienable rights, including the enjoyment of the fruits of our own labor.”

Boosting prosperity and freedom requires a tax system that emphasizes “neutrality and simplicity,” Cordato said. “By neutrality, we mean tax policy should strive neither to penalize nor favor taxpayers’ decisions about how much time to work versus pursuing leisure activities, how much money to save or invest versus how much to spend, what kinds of goods and services to purchase, and what kinds of investments to make.”

Cordato’s report focuses most of its attention on the N.C. income and sales taxes, the “cornerstones” of the state’s tax system. Each of these taxes needs changes, Cordato said.

“The income tax penalizes work effort, saving, investment, and entrepreneurship,” he said. “North Carolina’s tax rates and progressive rate structure cause particular problems compared to neighboring states. That’s not to mention a corporate income tax that adds extra layers of taxation and hides taxes from the workers, customers, and corporate stockholders who pay the bill.”

Cordato recommends changes. “The best option is to follow the lead of states like Florida and Tennessee and abolish North Carolina’s income tax,” he said. “If that’s not possible, policymakers should strive to keep rates low and avoid progressive taxation. If some progressivity is seen to be a political necessity, it should be accomplished with a ‘zero tax bracket.’ That means charging no tax up to a certain level and then charging a flat rate on all additional income.”

Another approach would be to move toward a “consumed income tax,” Cordato said. “In this approach, taxes would kick in only when income is spent. All other forms of taxation related to income would be abolished — especially the corporate income tax.”

The sales tax requires less tweaking, but North Carolina taxpayers would benefit from changes such as lower rates, Cordato said. “The state should also repeal so-called ‘sin taxes,’ and it makes sense to exempt businesses from sales tax on any purchases related to the provision or production of their products.”

Adopting these ideas would help align North Carolina’s tax system more closely to basic principles of tax policy, Cordato said. “That’s a good goal to pursue, since the current system is an incoherent hodgepodge of penalties and subsidies that unnecessarily infringes on personal liberty and causes the state to be much less prosperous than it otherwise could be.”

The Nathaniel Macon Research Series generates annual papers from JLF analysts. The Macon Series applies free-market principles to current N.C. controversies. Its papers examine whether N.C. fiscal and regulatory policies help or hinder individuals as they seek to create or expand economic opportunities.

Dr. Roy Cordato’s Macon Series Policy Report, “Tax Reform in North Carolina,” is available at the JLF Web site. For more information, please contact Cordato at (919) 828-3876 or [email protected]. To arrange an interview, contact Mitch Kokai at (919) 306-8736 or [email protected].