Most state and local tax systems are regressive, with a reliance on sales tax and relatively flat income tax brackets leading to the poor paying more of their income in state and local taxes than the wealthy. West Virginia is no different, with West Virginians who earn less than $15,000/year paying an average of 8.7% of their income in state and local taxes, while those earning above $282,000 paying only 6.3%.
But unlike West Virginia, 25 states and the District of Columbia have established State Earned Income Tax Credits (EITCs) to help alleviate the regressive nature of state and local taxes. A new report from the Institute on Taxation and Economic Policy shows just how effective a refundable state EITC would be in counteracting the regressive nature of West Virginia’s tax code. Depending on the size of the credit, a state EITC in West Virginia can make a big difference. For example, a 50% credit would reduce the effective tax rate on the state’s poorest workers from 8.7% to 5.2%. The average refundable state EITC is equal to 16 percent of the federal credit, but the credit percentage varies widely by state.
Most state EITCs are based on some percentage of the federal EITC. The federal EITC, which has been around since 1975, works by providing tax reductions to low-income workers, which both rewards work and boosts income. The federal EITC has also been wildly successful increasing workforce participation and helping 6.5 million Americans escape poverty in 2012, including 3.3 million children, and has historically enjoyed broad bipartisan support.
The most effective state EITCs are refundable. Non-refundable EITCs like those offered in Delaware, Maine, Ohio, and Virginia are largely ineffective because they can only be used to offset income tax liability even though sales and property taxes make up the vast majority of the total state and local tax bill faced by working families. Refundable EITCs are much more effective because they work to offset all taxes paid by low-income families.
While it would cost the state revenue to enact a state EITC, it would cost far less than the proven-to-be-ineffectual business tax cuts that have been the source of the state’s recent revenue problems, and the state is currently leaving a lot of money on the table by refusing to raise the tobacco tax.
You can read the full ITEP report here.