Illinois Case Study, Why Raising Taxes On Any American, Rich Or Poor, Is Still A Stupid Idea - Part 3

Earlier this year, we reviewed the dire financial straits that the state government of Illinois was in. They had to stop paying some of their bills since their income from state taxes was not enough to rein in and cover the out-of-control state government spending and the liabilities the state's political class had created over the years. The prime example of how badly things had become, bullet suppliers to the state's law enforcement departments had stopped shipping bullets since they were not getting paid

A primary driver of their budget deficit is a state employee public pension liability of $80 billion. Unfortunately, the state political class has so mismanaged the financial aspects of the pension program that only about 51% of the $80 billion pension liability is funded. This is the lowest coverage of any state in the union.

To combat these budget shortfalls, in January, the Illinois state government  raised corporate taxes from 7.3% to 9.5%, a 30% increase, and increased the personal income tax rate from 3% to 5%, a 67% increase. The new state corporate tax rate gives the state the seventh highest corporate tax rate in the country.

However, the state government did not address the real root causes of their problems. It was not that they did not tax their state residents and businesses enough, the politicians were spending too much relative to their tax streams. We predicted at that time that this was not going to end well since both businesses and individuals had the option of moving to less taxing states.


And we were correct. According to recent news reports, at least six states are actively courting large businesses that are currently located in Illinois, trying to get these businesses to relocate their businesses and the related jobs to their states. As a result, these same businesses are using the out-of-state courting to pressure the Illinois state government for large tax breaks in return for them not leaving the state:

• Motorola was offered $100 million in state tax breaks to keep its operations and 3,000 employees within Illinois.
• The truck and engine company Navistar has already received $65 million to stay in Illinois.
• Sears has threatened to move its 6.000 employees out of Illinois unless the tax incentives it currently enjoys, courtesy of the state government and residents, is renewed when they expire in 2012. The state of Ohio has already offered Sears a package of tax breaks worth $400 million if Sears was to relocate to that state.
• CME Group, which operates the Chicago Mercantile Exchange, and CBOE, another financial trading company, are also asking for tax relief.

“Although the tax hikes are theoretically temporary — and start to expire in 2015 – both the rises and the continued failure of politicians to get to grips with the budget crisis are starting to worry businesses,” The Economist observes.

As expected and predicted, the raising taxes death spiral/endless loop has taken effect in the state:

1. Raise taxes and companies move to other states, resulting in less revenue and continued budget deficits.
2. Do not raise taxes, companies stay in state but you still have budget deficits.
3. Raise taxes and then turn around and give the money back to businesses which still results in budget deficits.

In all of these scenarios, the state political class has placed additional burdens on residents to shoulder the increased financial burden of supporting the state government financial burden and the state politicians never addressed the real problem: governments and politicians spend too much. There is no other solution, raising taxes never had a chance of succeeding since Illinois companies have lower tax options.

The result is that hikes intended to raise revenue are becoming self-defeating — the state could be compelled to spend the additional tax revenue in order to convince companies to remain in the state. And the original problem still exists: the state government still has massive budget shortfalls because it did not understand and address the root problem, namely that the government spends and wastes too much.

This type of behavior should not be a surprise. Several years ago, the state government of Maryland raised taxes on those earning over a million dollars in their state in order to close a budget shortfall in their budget. However, within just a few years, the state government was receiving less from its million dollar earners than what it was receiving before it raised taxes on million dollar earners. The additional tax burden "encouraged"  the million dollar earners to move out of the state in order to retain more of their hard earned wealth, leaving Maryland's state government in worse shape than prior to them raising taxes.

So, through this series of posts we have proven it does not make sense to raise taxes to solve a government overspending and waste problem. Makes you wonder why our politicians continue to do so, both at the state level and the Federal level.