Business impact of millionaires tax is a war of words

January 02. 2012 3:00AM


In 2004, when Gov. James E. McGreevey signed into law a 2.6 percentage-point increase in the amount of state income tax paid by residents, he ignited a debate that continues to rage eight years later.

The terms in this debate have sparked passion, beginning with the contested term "millionaires tax" and whether it refers to those with $1 million in annual income or in net assets. But defining just how big a bite the tax takes out of business owners' wallets is a hotly contested war of words.

The tax debate flared up again at the end of 2011, when New York state imposed tax cuts on most higher incomes, while setting a new 8.82 percent rate for income above $2 million.

For some New Jersey business owners, there is no doubting the impact of the 8.97 percent rate paid on income exceeding $500,000.

"It strikes me as being a really bad idea to suck money out of the private sector to the public sector at a time when we're desperate for the private sector to create jobs," said Jeffrey Scheininger, president of Linden-based metal hose manufacturer Flexline.

Scheininger, chairman of the New Jersey Chamber of Commerce, said the state's income taxes — along with its property taxes and energy costs — have led him to consider moving his business to another state.

"The amount of income that would drop to our bottom line if we were in eastern Pennsylvania is shocking," he said.

Other small-business owners interviewed last month also made a case against the tax. Keith Krehel, owner of Krehel Automotive Repair Inc., in Clifton, said the term "millionaires tax" conjures an inaccurate image of how the tax affects small businesses.

"Largely, money that remains behind in the form of a profit isn't typically — at least here and at least in most businesses I've seen — isn't squandered on caviar and fine wine," Krehel said, adding that taxes are no longer available to invest in new equipment and employees.

Krehel said his income currently is somewhat below the maximum bracket, but the rate acts as a disincentive for him attempting to increase his income.

"Why would I go and invest in my company and take risk to invest in it just so I can pay a higher rate of taxes?" he said. "Until taxes are flat tax-based, there's going to be an eternal tug of war when it comes to taxes, politically."

"If I had to do it all again, I'd move out of state and open a business, to somewhere where the environment is friendlier to business," Krehel said. "But since I'm here, I can't move."

Joe Olivo, co-owner of Perfect Printing, in Moorestown, held a similar view. He said business owners who report net profits as personal income must always weigh how much to increase their investment in their business.

"It diverts the funds that I could be using to grow my business," Olivo said. "Every year it gets harder and harder for me to pay the taxes that are due. No one looks at it in terms of all of the other taxes that are increasing throughout the year."

Studies, though, have been divided over how much the millionaires tax actually impacts business owners. Supporters of the tax have said business owners choose to locate in the state based on geography, the work force and infrastructure, not the tax rate — a position that Charles Varner, a Princeton University sociology graduate student, said is validated by a study he unveiled in June.

"In general, those are factors that affect where businesses locate, and what our study shows is that the tax has a negligible effect, if any effect, compared to other factors as to where people live and where taxpayers live," Varner said.
Varner and study co-author Cristobal Young, of Stanford University, found while there has been an outmigration of upper-income residents, they left at the same rate as those who did not pay the highest tax rate.

In an examination of business owners, Varner and Young concluded executives left the state at a lower rate than would be expected, though Varner said the difference was not statistically significant. However, those at the highest end of the range — with more than $3 million in income — did leave the state at a slightly higher rate after the tax was instituted.

But state Treasury Department economist Charles Steindel has been critical of some of the conclusions Varner and Young reached, saying while their study found those paying the 8.97 percent tax rate left the state at the same level as those who didn't pay the tax, that doesn't mean the tax didn't have an impact. For instance, he said, employees may leave the state if their upper-income employers moved their business elsewhere.

"It's the total effect, more than just the person who writes the check, from the tax increase," Steindel said.

Steindel was among the authors of a report, released in November, that found the state lost roughly 20,000 residents and $2.5 billion in annual income due to the 2004 increase. The Treasury study looked at national data, comparing the number of residents who migrated to and left states after tax rates were changed.

Additionally, in 2010, the state chamber and the Community Foundation of New Jersey sponsored a study by Boston College that found that the state lost $70 billion in wealth in the five years after the tax was implemented.

Assembly Democratic spokesman Tom Hester Jr. said Christie has chosen to protect tax cuts for millionaires over property tax relief for middle-class families and seniors. He cast doubt on analyses that have found a negative impact from the tax.

"Any credible analysis shows wealthy residents have not fled the state and, seemingly, are more than willing to share in the sacrifice," Hester said in a statement. "The Democratic plan would not have directly impacted businesses, who have benefited by the way from numerous Democratic incentives and tax reforms, and would have provided property tax relief and fully funded suburban and rural schools."

Studies aside, hard evidence to resolve the issue of how the 2004 increase affected small businesses remains mixed. This uncertainty is even more complicated when looking at a proposal by Democratic legislators — already vetoed twice by Gov. Chris Christie — to institute a 10.75 percent tax rate on income above $1 million. That would restore the same rate at that income level as was in place in 2009, when Gov. Jon S. Corzine and the Legislature applied temporary rate increases at the $400,000, $500,000 and $1 million income levels.

Treasury officials said in 2009, 70.9 percent of income tax filers with more than $1 million in income — or 8,695 of 12,269 filers — reported business income. Treasury officials said it's likely that most of those filers had income from small businesses, since upper-income residents who have income from large businesses likely pay taxes on that income through corporate taxes.

Howard Cohen, chairman of EisnerAmper LLP, said the effect of the tax increase is difficult to assess, partly because it is just one of many factors that determine the cost of locating a business.

"When people focus on one issue, it's not that simple — and the answers aren't that simple," Cohen said.

Cohen said New Jersey increasingly is competing with Pennsylvania, New York, Connecticut and Delaware, he said.

"It's very safe to say that it doesn't help the business climate," Cohen said of the tax. "Pennsylvania, in the past decade, became extremely aggressive in trying to compete for New Jersey businesses. The top percentage on the tax rate was part of that."

Pennsylvania has a flat 3.07 percent state income tax.
Cohen added that once a business nears $10 million in revenue, it's more likely to be affected by the tax.

Patrick O'Keefe, director of economic research for J.H. Cohn, in Roseland, cautioned against drawing conclusions about proposed increases without examining concrete evidence, but pointed to basic principles of economics in suggesting how to analyze the question.

"Any increase in tax without an offsetting benefit will discourage the activity it targets," O'Keefe said.

He pointed to cases in Europe in the 1960s and '70s, when some countries increased taxes to a point where every additional dollar beyond a certain point would be paid in taxes, leading to payers moving or investing less. He said lower increases can be expected to have a lesser effect.

O'Keefe also said he isn't impressed with the argument that business owners choose to locate and invest in their businesses based on factors other than taxation. He said he heard similar arguments when he started working as an economist in state government in the 1960s.

"We are in a globally competitive economy, and there are other areas with equal or superior assets. At our own peril, we compare ourselves to the average, because we're not competing with the average," O'Keefe said.

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