A tax rebate? Sure, but Idaho Legislature should do better by doing this | Peter Crabb

It’s been said, “in all things moderation.” That goes for taxes too.

The Idaho Legislature has passed an income tax rebate but continues debate on a handful of potential changes to how our government raises tax revenue.

Economic theory and historical evidence shows that the government will raise the needed revenue when taxes are simple to understand and easy to pay. Adam Smith, sometimes called the father of modern economics, demonstrated that “ high taxes, sometimes by diminishing the consumption of the taxed commodities, and sometimes by encouraging smuggling, frequently afford a smaller revenue to government than what might be drawn from more moderate taxes.”

What does Smith mean by moderate?

Consider first that Idaho raises revenue using various types of taxes, including income, sales and property taxes. Economists measure the efficiency of any of these taxes by looking at all the costs imposed on taxpayers. This is a two-part question: First, there are costs associated with how people respond to incentives these taxes create, and second, the full cost of the tax law includes what people have to give up to comply.

The response to the first question is that government revenue actually declines when taxes alter incentives and distort the allocation of resources. Well-designed tax policies minimize the amount of economic distortion that occurs when businesses and individuals pay for their work and labor.

It is for this reason that I previously argued for reforming business taxes. As businesses change their behavior in response to taxes — raising prices or hiring fewer workers — the overall size of the economy shrinks below its optimal output level.

To the second question, economists attempt to measure the administrative burden of complying with tax laws. The time and other resources spent actually paying the tax are costs to society we cannot ignore. The best tax policies, therefore, minimize the amount of time spent complying with tax laws so that we don’t have to give up doing other, more productive, tasks.

Filing income taxes takes time. That is, people incur costs associated with the burden of calculating how much to pay. The administrative burden of a tax (filing forms, sending payments, record keeping, etc.) is higher when taxes are more complex. One recent study reported that small businesses in the U.S. lose approximately 175 hours reporting and paying taxes each year.

Opportunities for a more moderate tax system abound. Lawmakers could simplify state taxes, for example, by eliminating the sales tax collected on groceries, which in turn, would eliminate the need for many Idahoans to file some paperwork just to get these monies refunded.

As Smith taught, lower and more easily understood taxes are the right choice. Lawmakers do well when they work to just keep things simple.

Peter Crabb is a professor of finance and economics at Northwest Nazarene University in Nampa, Idaho. prcrabb@nnu.edu

This story was originally published February 17, 2022 at 4:00 AM.