The graduated income tax and property tax reform

After years of false starts and unfulfilled promises, structural tax reform is gathering real momentum in Springfield.

With strong leadership from Gov. J.B. Pritzker, the General Assembly just approved a resolution to amend the state's constitution to permit use of a graduated rate structure for Illinois' personal income tax. If voters ratify this amendment, it will allow imposing higher tax rates on higher levels of income and lower rates on lower levels of income - something our constitution currently prohibits.

That would be a positive change, because it would help Illinois move closer to satisfying two textbook principles of sound tax policy.

First, tax burden should be imposed in a manner that is fair by tracking ability to pay.

Second, tax revenue should be generated in a manner that responds to current economic trends, by focusing where the economy is expanding not contracting.

Given that the top 10 percent of earners have realized virtually all growth in income over the last 30 years, a well-designed graduated rate income tax can simultaneously satisfy both the principles of fairness and responsiveness, by focusing taxation at the top of the income ladder, and relieving it at the bottom.

In addition to creating some tax fairness and responsiveness at the state level, legislators also seem intent on providing property tax relief at the local level, something the data show is sorely needed. Indeed, over the last 25 years, property tax revenue in Illinois has grown by over 62 percent in real, inflation-adjusted terms. That's been difficult for most taxpayers to bear, given real growth in median income has been just 5.5 percent over this same period.

So the goal of delivering property tax relief is eminently rational. Unfortunately, all relevant legislation introduced to date has involved different variations of freezing property taxes - and that's the wrong way to accomplish this goal.

Why? Well for one thing, a freeze fails to address the main reason for this outsized growth in property tax burden: Illinois' consistent failure to fund public education adequately from state-based revenue. Indeed, Illinois only covers about 25 percent of total school funding from state taxes (the national average is 46 percent), which places Illinois 50th - as in dead last - among all states.

Conversely, property taxes cover around 65 percent of total K-12 funding in Illinois (the national average is only 44 percent), making Illinois the most reliant state on property tax revenue to fund education. In fact, Illinois is so over-reliant on local tax revenue to fund schools that any property tax freeze wouldn't be sustainable without causing significant harm to public education.

The reason for this is easy to see. Let's assume a full property tax freeze is put into place for FY2020. Over the last four years, schools statewide realized an average of $558.6 million in new property tax revenue growth each year to fund education - all of which would be lost in FY2020.

True, some of this loss would be made up with new revenue received under the state's Evidence-Based Funding Formula, which has averaged providing schools with $332.6 million in new funding each of the two years it's been in place. However, that still leaves a net revenue shortfall of $226 million on a year-to-year basis.

The kicker: just to keep up with inflation, schools would need $665.9 million of year-to-year revenue growth in FY2020, to maintain the same level of expenditures made in FY2019.

Taken together, that means if a full property tax freeze were implemented in FY2020, schools could find themselves as much as $891.9 million short of having the revenue needed to maintain FY2019 levels of educational investment. That's problematic, given the State Board of Education estimates that total K-12 funding is currently $7.3 billion less than what the evidence indicates is needed for all students to achieve academically.

So, yes, property tax relief makes sense. But no, it shouldn't come at the cost of worsening the $7.3 billion school funding gap.

Ralph Martire, rmartire@ctbaonline.org, is executive director of the Center for Tax and Budget Accountability, a bipartisan fiscal policy think tank.