The trouble with taxing the rich

  • Article by: D.J. TICE , Star Tribune
  • Updated: February 23, 2011 - 11:11 AM

How Gov. Dayton's budget plan affects star workers

D.J. Tice

D.J. Tice

Photo: Star Tribune, File photo

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Let me tell you about my successful young friend. By "young," nowadays, I mean about 40. By "successful" I mean that he and his equally successful wife are among the Minnesotans that Gov. Mark Dayton wants to tax.

I'm not worried about John. If he had to pay a little more, he could afford it. What actually worries me about Dayton's tax-the-rich plan is that in the end people like John wouldn't really pay. Somebody else would.

John is in the food business. Currently, he handles U.S. sales for an international seafood company and travels constantly around the country.

For years, he has seemed to be forever fielding new job offers from competing firms. Clearly he's good at what he does.

Every six months or so, John will call me, wanting a sounding board for the pros and cons of some new opportunity. Often, the suitors want to move him -- to Boston, or Chicago, or Seattle. Always, they bait the hook with lots of money.

If the offer involves his moving away, I always advise John that money isn't everything and that staying close to family and friends (like me) is what really counts in life.

So far, that's what he's decided, accepting several new jobs over the years, but only when they've kept him here.

But one of these days, an out-of-state offer too rich to refuse may come along. That will be too bad for me, and for Minnesota, which will lose a talented couple who pay lunker-sized taxes.

What's more, I gather that this foreign seafood firm's U.S. sales are based 1,000 miles from the sea simply because this is where John wants to be, and they want him. So when and if John departs, so too may this well-paying job.

I ponder all this as I think about how Dayton's tax plan might actually work out.

The moral of John's story is that many high-skill, high-earning workers have options -- more options than they know what to do with -- and they're nationwide options. It is only by force of will that such workers stay in any particular state.

Boosting John's Minnesota tax rate could make the next offer in Seattle or Boston look a bit better. But I worry more about the next time a Minnesota company tries to tempt a sought-after talent to move here from his or her hometown.

Boston Bob and Seattle Sally probably have friends, too, who probably give them self-serving advice about what really counts in life.

Moving to a cold Midwestern metropolis (even one with pro sports and light rail) may not have been their lifelong dream. They'll come only if the offer is too good to refuse. And that offer will have to be a little better if Dayton's tax-the-rich plan becomes law.

Money may not be everything, but after-tax income will count with people being asked to forsake family and friends, and ocean breezes.

The point is not that Minnesota firms won't be able to hire Boston Bob or Seattle Sally after Dayton taxes the rich. They'll simply pay more to get them, and to keep them once they're here.

This is the trouble with all "targeted" tax hikes, especially by states, which are easy to move or stay away from.

(The federal government can "tax the rich" more successfully, because moving overseas is harder.) On the economic firing range, the "targets" are alive. They move to get out of the way of taxes, or, more often, they deflect them to someone else.

Dayton's tax hikes on high earners will quickly be deflected to firms that must recruit or retain highly sought workers. The firms, not their star employees, will cover the cost of the new taxes.

But the firms won't just stand there and cough it up, either. They have two ways to try to deflect the increased costs they'll inherit.

First, they could raise prices. But since companies often compete in a national/international marketplace, against rivals unaffected by Minnesota's tax policies, this option is limited.

Second, they could hold down wages for less skilled, lower-paid employees who don't have as many options as folks like John. This is far more promising, especially in a soft labor market -- unless you're one of those lower-paid workers.

And to the extent that companies can't deflect the costs of higher state taxes on their most mobile workers? Well, that will make doing business in Minnesota a bit less profitable.

Trouble is, firms and investors also have options, and their interest in growing their operations in Minnesota could suffer a bit. That will pass the ultimate cost of these taxes on the rich to everybody who stays here.

Who will finally "pay" the most is anybody's guess -- but it won't be the high earners themselves.

Higher taxes may be needed. But they don't have to be big, clumsily targeted tax hikes that get the targets all excited, distort economic decisions and thereby maximize the social costs of raising the needed revenue.

This is why many tax experts recommend, as a rule, broad-based, low-rate taxes that don't affect decisions so much and leave folks free to concentrate on the things that really matter.

D.J. Tice is the Star Tribune's commentary editor.

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D.J. Tice