The two-year state budget plan approved by the Ohio House proposes an improvement in the state tax system. It calls for narrowing the tax break for “pass through” income, or business earnings that are taxed as individual income. This exemption, first made in 2013 and then expanded, reduces state revenue by roughly $1 billion a year. The House plan would reclaim a projected $528 million, and the bipartisan majority that approved the budget proposal directs much of the sum to leading, and neglected, priorities, such as children services, poor school districts and higher education.
So, this is a good thing, especially in view of this “LLC loophole” failing to deliver as proponents promised. It was pitched as a tool to generate new and expanded businesses, along with jobs. Yet the record shows Ohio lagging behind the nation in the rate of growth for new businesses. More, the state has seen comparatively little increase in new hires.
The House budget plan would reduce the amount of income going tax-free, from the first $250,000 to the first $100,000. It eliminates another feature that taxes any remaining income at a special rate of 3 percent. Instead, the income would be subject to the rates for everyone else, the top rate currently near 5 percent.
Give Speaker Larry Householder credit for running counter to many Republican allies. Yet political reality no doubt helps to explain another wrinkle in the House plan — a 6.6 percent across-the-board reduction in income tax rates, that top rate edging down to 4.67 percent, compared to 7.5 percent not too long ago.
That translates to less revenue for investment — after a decade of disinvestment. More, as Policy Matters Ohio and the Institute on Taxation and Economic Policy show in an analysis released last week, the House plan leaves the poorest one-fifth of Ohioans without much relief. Three-quarters of those making less than $24,000 a year would not see any reduction in taxes.
All told, the poorest one-fifth would receive just 8 percent of the House tax cut. That would be the case even though low-income Ohioans, as the analysis notes, pay nearly twice as much of their income in state and local taxes as the wealthiest Ohioans do. So, even as the top 5 percent of households would pay virtually all of the increase from closing the LLC loophole, they still would enjoy a large net tax cut in the context of the tax reductions the past 15 years.
For those at the lowest income rungs, practically nothing would change, no matter the House budget plan also eliminating the income tax for those with incomes below $20,000 a year.
What would ease the tax burden for the poorest Ohioans? The analysis reinforces the already strong case for making refundable the state Earned Income Tax Credit for the working poor. State lawmakers upgraded the credit to 30 percent of the federal version in approving the state transportation budget. Yet it remains nonrefundable, and thus leaves out the poorest because they do not have income tax liability.
A refundable credit would repair that result. The analysis reports that by adding a refundable credit at 10 percent of the federal version, the bottom one-fifth of earners would receive 56 percent of the House tax cut, as opposed to 8 percent. They would do so at a relatively low cost, an estimated $170 million a year, or less than one-fifth of the LLC loophole.
No surprise that the Ohio Senate appears inclined to add its own version of a tax cut to the state budget. If that is the priority, route the relief to those who need it.