NEWS FROM THE HILL: 06/16/2002

James O. "Jimmy" Naifeh
Speaker of the House
Tennessee General Assembly
19 Legislative Plaza
Nashville, TN 37243
(615) 741-3774

To the editor:

I would like to take a moment of your time and talk to you about reforming
the State of Tennessee's way of taxation.

First let me say I understand that no one wants to pay more taxes. I don't
want to pay more in taxes than is absolutely necessary. However, like you,
I recognize that providing an adequate level of state services requires we
all pay taxes.

We are a low tax state and, even after tax reform, will continue to be a low
tax state. The average Tennessean pays less in state and local taxes than
the citizens of any other state. Including the District of Columbia, we
rank 51st in the nation in per capita state taxation. While being ranked
last in taxation is a good thing, it does have consequences. If we insist
on being 51st in taxes, we will never rank much higher in areas that are
important to all of us, like providing quality educational programs for our
children and health care for our neediest citizens. I support increased tax
revenue because I do not want to be ranked 51st in these areas.

Our current consumption based tax system grows at a slower pace than the
cost of services being provided for two simple reasons. First, over the
last 20 years, we have dramatically shifted our purchasing away from the
purchase of goods which are taxable to the purchase of services which are
not taxed. Second, under federal law, most purchases made over the Internet
are not subject to state sales taxes - it is estimated that Internet sales
are costing us over $300 million annually in tax growth. So why not tax
services to fix our problem? The largest areas of services not taxed are
for health care and construction spending. Most people find taxing health
care services morally objectionable and taxing construction just adds to the
cost of housing, making it more difficult for people to buy a new home or
for a business to expand. Over time, the demand for services from state
government has grown due to both general population growth and unique
factors that grow faster than general population change, such as the growth
in people being sentenced to state prisons, increased numbers of students in
higher education institutions, and increased number of cases processed
through our court system. The result is that with the current tax system,
we can't keep up with current service demands, much less "grow" ourselves
into a higher ranking in spending on priorities such as education, health
care, and public safety. A change in the tax system is needed for these and
other reasons.

The current system is unfair--it asks lower income families to pay a higher
share of their income in state taxes because we tax consumption of basic
needs--like food, clothing, motor vehicle fuel and fees such as for driver's
licenses. Why do I say this is unfair? A family making $12,600 pays
approximately 12% of their income in state and local taxes while a family
making $159,000 pays approximately 4% of their income in state and local
taxes. What's fair about that?

I support the flat tax reform plan because it creates a fairer tax system
and represents a long term solution to the state's funding needs. Now for
some facts about this plan. First, if you are married and make less than
$30,000...read no further because you will pay no income taxes under this
plan. For most Tennesseans, you would calculate the tax you pay as follows:

* Begin with your federal Adjusted Gross Income (AGI)- - - you will
find this number on line 33 of the 1040 form;
* From your AGI, subtract $15,000 for a single filer or $30,000 for
married filers. Also, subtract $1,500 for each of your dependants;
* Take the remaining amount and multiply by 4.5% (.045). This is the
amount you would pay in state income tax.

This income tax amount is deductible on your federal income tax return in
the same way that you currently deduct home mortgage interest and property
taxes. Now for some questions.

Will social security benefits be taxed? Social Security will only be taxed
for state purposes to the extent they are taxed for federal purposes. What
does this mean? First, if your only income is from Social Security, then
you will owe no state income tax. If you have income in addition to social
security, the federal rule of thumb is that if one half of your social
security plus all your other income exceeds a threshold of $32,000 for an
couple or $25,000 for an individual, the amounts in excess of the threshold
amount is included in you taxable income. Otherwise, it is exempt. The
long and short - if you have to include social security benefits for federal
tax purposes, then they will be taxable to the same degree by the state. If
you filed a federal 1040 form this year, you would have included any taxable
social security benefits on line 20b. But remember, you still get to
subtract the state personal exemption ($15,000 for singles, $30,000 for
married) from your AGI.

Will capital gains be taxed? Under this plan, one half of long term capital
gains will be taxed by Tennessee. To estimate the taxable portion of
capital gains, take your net long term capital gains from line 13 of your
federal 1040 form and multiply by 50% (0.5). The other half is not included
in your AGI for Tennessee purposes. Whatever portion is included in AGI is
taxed at 4.5%, again, after deducting the personal exemption. For most
people, their largest capital gain comes from selling their home. Under
federal rules that Tennessee will follow, a capital gain on the sale of a
home is generally not taxable unless it exceeds $500,000 for a married
couple or $250,000 for a single person. Remember, the capital gain is not
the selling price of your home - it's the difference in price between what
you sell it for and the price you paid when you purchased it.

Does everyone pay taxes under the Flat Tax Reform Plan? Yes. The plan does
remove the state and local sales tax on grocery food, on clothing with a
value of less than $500 and non-prescription drugs. This provides some
degree of tax relief to low and middle income families as well as our
elderly population who live on a fixed income. However, everyone will
continue to pay sales tax on all other purchases, gas taxes and fees for
state services such as drivers licenses.

With this reform in place, Tennessee will also be able to capture the taxes
it currently loses from people who work in Tennessee but live out of state.
Those who do not live here but work here would now begin paying income taxes
to Tennessee. They would then take a credit against their "home" state
income tax equal to the amount of Tennessee income tax they paid. In the
end, they don't pay more in total, it's just that Tennessee now gets a share
of what they currently pay to their home state. For instance, professional
athletes and entertainers would have to pay to play or perform here just as
they do in almost every other state. We estimate that Tennessee lost out on
around $120 million in revenue from people who work here but pay no taxes
here. Tennessee citizens who work out of state already pay income taxes in
the state of employment. In their case, they would take a credit against
their Tennessee income tax for the amount of income tax paid in the state of
employment. Since the income tax in every state surrounding Tennessee is
higher than what's being proposed here, no Tennessean working in another
state should see an increase in their total taxes.

During this legislative session, it has become apparent that a majority of
legislators now recognize that Tennessee faces a significant financial
problem. To have a balanced budget next year, we either must find a way to
raise revenue or we must reduce the current budget by $950 million. I don't
want to cut $950 million from the existing spending given the severe
consequences it will have on every citizen in this state. I don't think
most people who have studied this want that either. The question then is,
How are we going to raise this money? We can either reform the system by
choosing fairness, deductibility and long-term stability or we can
perpetuate the current unfair and inadequate system and continue to have a
similar problem in the years ahead.

I'm for fixing the problem.

Sincerely,

Jimmy Naifeh
Speaker of the House

NEWS FROM THE HILL

Thursday, June 20, 2002

Monday, June 17, 2002

BudgeNEWS ALERT FROM STATE HOUSE FINANCE JUNE 17,t

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