Arizonans paid $2.5 billion in income taxes this year, up 34 percent from last year. What will be done with the unexpected $700 million surplus? Senate Minority Leader Linda Aguirre, among others, is eager to "invest in Arizona"-in other words, let government spend it. For many Arizonans, that idea elicits a collective, "Ouch!"
Arizona's best economic interest lies in returning surplus funds to taxpayers. A permanent reduction in the personal income tax rate will expand private entrepreneurial activity, increase employment, and raise wages.
Low personal income taxes attract entrepreneurs, who create around 70 percent of U.S. jobs. Clearly then, having taxes low enough to draw in entrepreneurs is important for employment and overall economic well-being. Yet in Arizona, if an entrepreneur earns $50,000, the state takes about $1,700. He need only look to neighboring Nevada to find out that his income tax there would be $0.
Lowering individual income tax rates by just 1 percent raises the likelihood of entrepreneurial activity between 1.5 and 2 percent. During the 1990s, Colorado, with its flat 4.63 percent tax rate, and Nevada, with no income tax, both generated more new businesses per capita than Arizona. In 1990, Arizona saw only one new firm created per 372 residents. However, in 1996 that number jumped to one new firm per 303 residents after the top marginal rate was cut from 7 to 5.6 percent.
Today, the impact of those cuts has worn away. In 2004, Arizona created fewer new businesses per resident than in 1990. Contrary to presumptive claims, population growth is not to blame. Since 2000, Arizona's population has increased 40 percent and Nevada's population has soared 66 percent. Still, Nevada is generating almost double the number of new firms.
Lowering taxes will also help assure Arizona's spot on the technology map. Entrepreneur-friendly areas request more patents, spend more on research, start more hi-tech companies, and are more likely to attract the Next Big Thing. Entrepreneurial giants Microsoft and Dell Computers both started in small garages in states with no personal income tax.
There is another glaring drawback to Arizona's current individual income tax structure: It is unfair. Less than half the population pays over 90 percent of the revenue collected.
Perhaps Barry Goldwater put it best when he wrote: "I believe it is contrary to the natural right of property-and therefore immoral-to deny to the man whose labor has produced more abundant fruit than that of his neighbor the opportunity of enjoying the abundance he has created." A lower, flat tax would treat Arizonans fairly.
Just as important as fair tax collection is fair appropriation. Close to half of all income tax revenues collected by the state are earmarked to be sent right back out in the form of exemptions and credits. Regrettably, the money is not returned to those who paid it, but redistributed by the state to select groups: $1.2 million for people in enterprise zones; $1.5 million for neighborhood electric vehicles; close to a $1 million for installing solar energy panels; and so on.
It has been six years since Arizona's last personal income tax cut. The state should institute a lower, flat personal income tax or, even better, look at the possibility of eliminating the tax all together. A Goldwater Institute study found that phasing out the income tax would lead to a 42 percent increase in personal income and create over 600,000 jobs.
In Thomas Friedman's "flat world," Arizona is not only competing against zero income tax states like Nevada, Texas and Washington, but low-cost labor countries like India. By cutting taxes, Arizona will attract more entrepreneurs, produce jobs and encourage innovation. That's one investment we can all get behind.