N.C.'s budget cries out for a change in taxation

RALEIGH -- In the midst of mounting economic woes, North Carolina faces a historic opportunity. We can choose to create a clear competitive advantage for our state by modernizing our tax system, or we can cede to our competitors the positive features that today define North Carolina.

Will we choose to take a great leap forward or backward?

As North Carolina comes to grips with a $4.2 billion deficit, state leaders are said to face the unenviable dilemma of slashing spending on state services or finding new revenues from taxes and/or fees. Of course, this is a false choice. Our leaders will have to both cut spending and raise revenues, and no decision will avoid outcry from individuals and companies already staggering in the economic headwinds.

The House of Representatives did try to achieve a balanced budget through cuts alone. It soon became clear that this cuts-only strategy would involve a dramatic unraveling of progress that the state has made in critical areas such as education and children's health. Many House members are unwilling to exact this human toll.

So the important questions now before our lawmakers are how to raise needed revenue and how much of it to raise.

In answering either question, lawmakers may chose to look solely to taxing beer drinkers and smokers and increasing sales and income tax rates, much as they did in the last recession, or they can opt for more meaningful fiscal modernization.

Rather than tinker with a tax system that is fundamentally broken, our legislators could use this opportunity to repair the system as a whole. It is no secret that our current system is highly volatile, confusing and unfair. Raising rates will not change any of those realities, and it will likely hurt the state's ability to attract new companies.

As part of several years' work on North Carolina's system of tax and finance, the Institute for Emerging Issues organized a Business Committee on Financing the Future. Co-chaired by three of the state's eminent business leaders, Jack Cecil, John McNairy and Richard Vinroot, the committee identified principles that would lower tax rates and reduce the harm to many state and local programs that comes from volatile state revenues.

The committee addressed all of the elements of North Carolina's current system, believing that only a comprehensive approach to tax modernization will work. It concluded that extending the sales tax base to previously exempt goods and some services -- North Carolina currently only taxes only about 30 out of 170 -- would reduce revenue volatility. As a bonus, this expansion of the sales tax base combined with the elimination of some tax exemptions, would allow the state to lower sales and income tax rates -- both personal, and the highly competitive corporate tax.

While it is hard to look beyond our current problems, an important advantage to tax modernization today is that it will be good for North Carolina's future. First, lower tax rates are pro-growth, and will make our economy more competitive today and in the years ahead. And, second, by providing a more stable stream of revenue through a broader base, revenue shortfalls in the next downturn will be less severe than they otherwise would be if we follow the "raise the rates" approach employed to date.

In April, the Senate Finance Committee unveiled a comprehensive proposal comprised of elements consistent with the work done by IEI and many others on tax modernization. While it raises almost $600 million in new revenues, it is able to lower income and sales tax rates by expanding the sales tax base. This makes our system of revenues fairer and more stable.

It is also the kind of long-term reform that will benefit the state's competitive position for years to come.

North Carolina has a strong tradition of forward-thinking leadership, and we need to call on this tradition once again. Now is the time for our leaders to be bold and to resist the temptation to devise a short-term fix. Our future depends on it.

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