State Politics

NC budget: More sales taxes in 2016, income tax cuts in 2017

NC State Senator Dan Blue (D-Wake County), left, stands to plead for more time for senators to read the budget compromise bill before them in the NC Senate Tuesday as fellow State Senator Bob Rucho (R-Mecklenburg County) listens before coming back to his seat in the NC Senate.
NC State Senator Dan Blue (D-Wake County), left, stands to plead for more time for senators to read the budget compromise bill before them in the NC Senate Tuesday as fellow State Senator Bob Rucho (R-Mecklenburg County) listens before coming back to his seat in the NC Senate. hlynch@newsobserver.com

The new state budget signed into law Friday includes about $400 million in income tax cuts, which will be offset by new sales taxes on repair, installation and maintenance services.

Whether this year’s budget will save you money or tax you more depends on how much you make, and how much money you spend on the newly taxable services.

The income tax cuts are relatively modest for low-income taxpayers: About $50 or less for households with less than $30,000 a year in income. But because those families owe about $500 or less in state taxes, the cut amounts to about 10 percent of their tax burden, according to projections from the legislature’s nonpartisan research staff.

Taxpayers receiving a $50 cut won’t benefit from the lower rate if they spend more than $750 on repair, maintenance or installation fees during that calendar year. The 6.75 percent sales tax rate in many counties will increase the cost of a $750 repair to $800.

“I’m just a little concerned about expanding the sales tax, especially down in rural areas,” said Rep. Ken Waddell, a Columbus County Democrat who voted for the budget despite his concerns. “It’s going to cause a lot of heartburn when they don’t have a lot of money to spend in the first place.”

Households making more than $95,000 a year would get an average tax cut of $476, according to legislative projections. As long as they don’t spend more than $7,000 on taxable services, they’ll see a net benefit from the tax changes.

“People are going to have more money in their pocket after getting their paycheck,” Gov. Pat McCrory said Thursday before signing the budget bill, adding that he was opposed to the new sales taxes.

The expanded sales tax becomes effective March 1. The N.C. Department of Revenue will be tasked with determining specific services to be taxed, because the budget bill doesn’t list details.

The legislation says taxes should be collected by all repair, maintenance and installation service providers when the item involved is subject to sales tax. So while it’s clear that a mechanic installing a new transmission would charge sales tax on his labor fees, it’s less clear whether the tax would apply to a plumber hired to unclog a drain.

“We can’t write the tax code in the bill, so we let them know what the intentions are,” said Sen. Bob Rucho, a Mecklenburg County Republican who helped develop the tax plan.

An earlier Senate proposal would have also taxed veterinary services, pet care and advertising, but that idea was scrapped following outcry from those industries.

Michael Walden, an economist at N.C. State University, said car repair is an expense that takes up a larger share of income for poorer people. He pointed to a consumer expenditure survey conducted by the federal Bureau of Labor Statistics.

The latest survey found that people making $30,000 to $40,000 a year spent an average of $630 annually on repairs and maintenance. Meanwhile, people with incomes higher than $70,000 spent an average of $1,300.

“It does goes up with income, but ... in percentage terms, maintenance and repair spending is heavier for lower income people,” Walden said.

The decision to exclude services like pet care does, however, spread the tax burden among more people. “Auto repair is probably a type of expenditure that a higher percentage of households make than perhaps pet services,” Walden said.

The legislature already expanded sales taxes in 2013 to include movie and other admission tickets, manufactured home sales and other items. Rucho said the Senate hopes to expand the sales tax further in future years – all while lowering the personal income tax rate.

“Tax reform is an ongoing process,” he said. “Ultimately we’re trying to get rid of income tax and move to a consumption-based tax.”

A more reliable revenue source?

Rucho and other Republicans say the shift away from income taxes is better for the state because sales taxes are a more stable revenue source. They say the shift will help avoid recession revenue drops that force the state to make cuts.

Walden said some economic studies back up that claim. “In the recession, incomes in general go down, especially those taxed at the very high ends, but people will still spend money to survive,” he said.

But Walden also pointed out several studies that showed that states that rely more on sales taxes didn’t necessarily fare better during the latest recession. And when the economy is growing, income tax revenue will typically grow more than sales tax revenue.

Overall, North Carolina will get less revenue as part of the budget’s tax changes. The personal income tax cut will mean the state collects at least $700 million less per year after the cut becomes effective in 2017, according to legislative estimates.

Estimates show the expanded sales tax will bring in an additional $160 million in fiscal year 2016-2017, and increase in future years.

And while the new sales taxes start on March 1, 2016, the personal income tax rate won’t drop to 5.499 percent until 2017. So taxpayers won’t see the benefits of a tax cut until they file in 2018.

Alexandra Sirota, who studies tax policy for the liberal N.C. Justice Center, said the full impact of the revenue cuts from lower taxes on the state budget won’t be felt for several years.

“It’s a huge revenue loser, and the revenue losses aren’t fully accounted for in the next few years,” Sirota said, adding that future legislatures could struggle to find enough funding for school needs and other services. “What this does is really lock in some tax changes that future policy makers will have to deal with.”

But Roy Cordato, a researcher at the conservative John Locke Foundation, said Republican changes are resulting in a much simpler tax code.

“They’re trying to reduce the income tax and expand the sales tax little by little,” he said. “The argument would be ‘we politically can’t do it all at once.’ ”

The budget will also raise the “zero bracket” – the amount of income on which everyone pays no taxes – from $15,000 to $15,500 for a married couple filing jointly. That means a couple who earns $20,000 would only pay income taxes on $4,500.

“The larger the zero tax bracket, the more progressive the average tax rate is,” Cordato said. “That’s a way of making a flat tax progressive.”

Other tax and fee changes

The budget will also bring a tax break for seniors and others who have high medical expenses. A tax deduction for medical expenses had been eliminated as part of earlier tax changes, and legislators heard lots of complaints when seniors did their taxes this year and learned they’d owe thousands more.

But sales taxes aren’t the only area in which people will pay more under the new budget:

▪ Division of Motor Vehicles fees will increase by about 30 percent, increasing revenue by about $153 million. The change will raise the cost of an eight-year driver’s license from $32 to $40. The standard registration fee for a private passenger vehicle will increase from $28 to $36 starting next July. Some DMV fee hikes will start next month.

▪ Parents of newborn babies would pay more for a required screening. That fee will increase from $19 to $24 starting Oct. 1.

▪ Community college tuition will increase from $72 to $76 per credit hour for residents and from $264 to $268 for non-residents, starting in the spring semester.

Colin Campbell: 919-829-4698, @RaleighReporter

Projected savings from income tax cuts

According to the legislature’s nonpartisan research staff, here’s how much the average taxpayer – based on annual income level – will save as a result of the personal income tax cuts in this year’s state budget:

Less than $14,000: $6 savings, or 12.1 percent of total income tax burden

$13,000-$29,999: $50 savings, or 9.3 percent of total income tax burden

$30,000-$50,999: $100 savings, or 6.9 percent of total income tax burden

$51,000-$94,999: $169 savings, or 5.9 percent of total income tax burden

More than $94,999: $476 savings, or 4.7 percent of total income tax burden

Average across income brackets: $161 savings, or 5.3 percent of total income tax

Sales tax additions

Examples of services that will be taxed at your county’s current rate, starting March 1:

▪ Car repairs

▪ Oil changes

▪ Flooring installation

▪ Kitchen remodeling

▪ Appliance installation

▪ Service contracts on things like computers

What won’t be taxed

▪ Home repairs where the contractor isn’t selling materials

▪ Advertising

▪ Veterinary services

▪ Pet care

▪ Lawn mowing

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