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Tax Arbitrage July 24, 2006

Posted by federalist in Taxation.

Democratic governments have demonstrated a tendency to grow in size.  The inflationary force stems from political pandering and special interests (the tyranny of many motivated minorities).

Democracies do occasionally muster quantum reversions towards small government.  Witness the great reforms of the early 1980s in the United Kingdom, the United States, and New Zealand.

But in the normal course of affairs tax arbitrage is the sole beautiful mechanism that can oppose the inflationary forces on government.  If you get enough free nations in close enough market proximity, then people and businesses can choose to move away from the governments with high taxes, onerous regulations, and entrenched special interests, and towards those with lower burdens.

Europe is dotted with countries like Ireland, Switzerland, advertising tax rates less than half those of their competitors.  Eastern Bloc EU members have been adopting flat taxes.

In the U.S. each state has devised its own tax system, which provides a large market for tax arbitrage.  For example, five states have flat personal income tax rates (IL, IN, MA, MI, PA).  Seven states have no personal income tax (AK, FL, NV, SD, TX, WA, WY).  Five states have no sales tax (AK, DE, MT, NH, OR).  And California can’t stand that it has low-tax Nevada right on its border, and that so many of its millionaires and entrepreneurs are choosing to move there:

Nevada transplants account for more than 20% of all tax disputes made public earlier this year by California tax authorities.

In a national and world market of competing polities, tax court may be the last refuge of big government.



1. federalist - August 12, 2006

How good is tax competition for political consumers? WSJ today features statistics from OECD that show average top income tax rate in its countries falling from 67% in 1980 to 43% today. (Hard to believe even the United States at one point had a 70% marginal tax rate!)

Maybe everyone just discovered the Laffer Curve at around the same time. But maybe as one nation slashed its income tax rates others like Sweden (87% top marginal rate!) realized nobody would hang around to have their property confiscated when other developed countries would let them keep it.

2. federalist - January 25, 2007

WSJ editorial page today illuminates the competition between states on income taxation:

The idea of financing state services without an income tax is hardly radical. Nine states today — Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming — manage well without one. With a few exceptions, the non-income tax states are America’s most prosperous. Meanwhile, the high income tax states, which tend to be congregated in the Northeast, keep surrendering jobs, people, and voters to the South and West.

State lawmakers also seem to have learned from two of the most recent states to adopt an income tax: New Jersey and Connecticut. As recently as 1965 New Jersey had neither an income nor sales tax, but managed to balance its budget every year. Now it has both taxes — its income tax is the 5th highest in the nation — but the state is facing what Stateline.org calls a “staggering budget deficit.” Allied Van Lines reports that the Garden State is now one of the leading places for people to flee.

The latest state to adopt an income tax was Connecticut in 1991, but a new report by the Yankee Institute reveals that the tax has been a calamity. The state has ranked last in employment growth since 1991, losing 240,000 of its native born citizens between 1991-2002. No other state has since enacted an income tax, and lawmakers in Georgia, Missouri and South Carolina say Connecticut is now the model for how not to run a state economy.

3. federalist - December 16, 2007
4. federalist - January 2, 2008

Megan McArdle notes how tax competition is playing out in Europe … and how the United States thwarts it by asserting the authority to tax its citizens wherever they live or work.

5. Is Silicon Valley Ironic? | Federalist - March 23, 2014

[…] I could leave all my CA-illegal guns in a free state. But I chafe at the idea of “voting with my feet” for such a bad government. Granted, California is still something of a constitutional […]

6. Government Competition Update | Federalist - May 18, 2014

[…] based on access to needed natural resources, labor, and markets. Gradually each state’s tax and regulatory burden became a significant part of that equation. Now the political environment […]

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