By Ike Brannon
Senate Majority Leader Charles Schumer recently announced that he would take up the multi-trillion dollar budget reconciliation bill later in July, and part of that package will include a variety of tax increases that total over $1 trillion over the next ten years.
It is worth asking how these tax changes might affect people who live in the state of Texas as well as its key industries. If Senator Schumer is able to pass legislation that includes the bulk of the Biden Administration’s tax proposals–a big if–the state’s economy would be disproportionately affected by its tax increases.
While the House Ways and Means Committee, where the constitution requires all tax legislation to be introduced, has yet to put forth a proposed bill, the Biden Administration’s Treasury Department recently released the Green Book, which is an annual exercise that spells out each administration’s wish list of tax changes. (The Trump administration dispensed with the practice during its four years).
The Green Book contains $147 billion in tax increases related to oil and gas production. For instance, it calls for imposing a tax on foreign extraction income, repealing the expensing of intangible drilling costs, reinstating the superfund excise taxes, and a plethora of other tax increases. Given the outsized role that energy extraction plays in the state’s economy these would put a dent in oil and gas production in Texas if they were to become law.
The Biden Administration also calls for increasing the corporate tax rate from the current 21 percent up to 28 percent, which would leave the U.S. with the highest effective corporate tax rate in the OECD.
Texas has 50 Fortune 500 companies headquartered in the state, third amongst all states and barely trailing California and New York. And Texas is gaining on them, as increasing numbers of companies choose to relocate to Texas.
An increase in corporate tax rates and the resultant reduction in profits would make U.S. companies less competitive with regard to their foreign competitors. While such a change would impact the entire U.S. economy, the Texas economy would be especially hit because of its preponderance of headquarters: If U.S. companies become less competitive globally and its foreign activities were to diminish, the jobs supporting these operations–which normally are in or near headquarters–would be fewer.
Another tax that could render Texas companies less competitive is the tentative agreement amongst the G-7 nations–since joined by 125 other countries–that would enact some sort of minimum tax on overseas profits. The perception driving this agreement is that the so-called FAANGS (Facebook, Apple, Amazon, Netflix, and Google) do not pay their “fair share” of profits in the overseas countries where they do business. If the French are using Facebook, and Facebook is making money from French citizens using Facebook, then France should be able to tax those profits that accrue to Facebook.
The problem–at least from a U.S. perspective–is that if that money is being taxed by France that means the U.S. cannot tax it, at least not in the current territorial-based international tax regime currently in place in the U.S. While it may seem unobjectionable that France deserves some of that money, an alternative perspective would be that the status quo–where we impose taxes based on where a company’s economic activity actually occurs–makes more sense. Since companies like Amazon and Google (two companies caught in this maw that have large and increasing presences in Texas) are primary targets in this proposed global tax regime, the G7 agreement, if implemented, would mean they would pay less taxes in the U.S. and more overseas.
One key reform in the 2017 Tax Cuts and Jobs act was the creation of GILTI–the Global International Low-Taxed Income Regime–which sought to reduce the practice of companies shifting profits around the globe in order to tax arbitrage. GILTI essentially puts a floor on the savings that can be gained from such transactions.
The Biden Administration has intimated that it will increase the floor set by GILTI, but what it sets forth in the Green Book is more radical–a return to the worldwide tax regime that the United States belatedly jettisoned in 2017 because it renders U.S.-based companies less competitive in global markets. The Administration wants to jettison the current territorial regime–whereby companies pay the tax rate of the country they do business in, as do the companies based in virtually every other country around the world–and force U.S. companies to pay at least 21 percent of their profits in taxes regardless of what the host country’s tax rate happens to be.
A third proposal in the Green Book calls for taxing capital gains not at the current 20 percent rate but as ordinary income, which would mean capital gains tax rates would nearly double. While doing so may put a dent in income inequality it would also disincentivize startups, of which an increasing proportion are taking place in Texas. Fewer startups would, of course, slow growth in Texas and elsewhere in the U.S.
One other tax change that’s almost surely to be a part of any budget bill enacted would increase the top tax rate on individuals and unincorporated businesses from 37 to 39.6 percent, where it was before the Trump Administration enacted the Tax Cuts and Jobs Act at the end of 2017. The Biden Administration would also move to reinstate a provision that effectively phases out tax deductions for high-income taxpayers once they enter the top tax bracket, which effectively increases marginal rates even more. While the lack of a state income tax may leave small businesses in Texas in a better spot than those struggling to stay ahead of the tax man in places like New York and California, it still represents an increase in the cost of doing business.
The Texas economy has proven to be incredibly resilient, and it continues to attract businesses, startups, and workers. The tax changes being discussed by the Biden Administration won’t change that reality.
It is still far from clear that narrow Democratic majorities in the House and the Senate can manage to pass a reconciliation bill that contains anything the least bit controversial in it, so many of the provisions in the Biden wish list will likely get jettisoned before a bill becomes law.
Nevertheless, it’s likely that if a reconciliation bill does pass Congress that it will include provisions that will slow down the state’s economic growth.
Ike brannon is a former economist at the U.S. Treasury and is currently a fellow at the Jack Kemp Foundation.