A Flat Tax Revolution in 2022?

Many years ago, an editor told the writer Matt Taibbi that Tom Friedman had a new book coming out, and that it was called The Flattening. As it turns out, the intel was wrong: the book was The World is Flat, a confused metaphor if there ever was one, and Taibbi eviscerated the book in a scathing review. Today, however, there’s another and better form of flattening taking place: of state individual income taxes. Iowa is now phasing one in, and proposed reforms in other states are pushing in that direction as well.

And here’s the incredible part: we might well see as many states adopt laws transitioning from graduated to flat-rate income taxes in 2022 as we have seen in the entire history of state income taxes to date.

In six states, such a transition would be relatively easy, since top rates kick in at or under $10,000, and the maximum possible savings under the current progressive rate structure are all $222 (in Idaho) or less. In Alabama, a graduated-rate income tax only has a $40 impact on tax liability; in Mississippi it’s $50.

With a deal reached by legislative leaders today, Mississippi seems on the verge of making that transition. Georgia and Oklahoma lawmakers are seriously considering a flat income tax as well, and Iowa is phasing into one under legislation adopted earlier this year, going from a graduated rate tax that not long ago topped out at 8.98 percent (with federal deductibility) to a 3.9 percent rate by 2026.

Friedman’s flat plane was not, as it turns out, quite flat: it had notches and steroids and convergences piled on top each other and, in what Taibbi identified as almost the Friedman ur-metaphor, “a set of upside-down antlers with four thousand points: the icing on your uber-steroid-flattener-cake!”

Single-rate income taxes are not quite flat, either; the rate may be flat, but the standard deduction, along with other deductions, exemptions, and exclusions, will typically provide some level of progressivity. For a state where a progressive rate structure only offers $50 or even $222 in savings, tinkering with these provisions can hold low-income taxpayers harmless or even make them better off. Georgia, Mississippi, and Oklahoma are prime candidates for a move to a flat income tax, as the table below demonstrates.

The question, given the nearly flat nature of these technically graduated-rate income taxes, becomes why to bother. One answer is that flat-rate income taxes tend to function as a bulwark against unnecessary tax increases, and to provide greater certainty for individual and business taxpayers. Economic decisions are made on the margin; choices about investments, labor, or relocation will be made on the basis of the effect on the next dollar of income, not the prior ones. A competitive top marginal rate matters most for economic growth, and flat income taxes—given their “all-in” nature—not only mean a lower rate on that all-important margin, but tend to be harder to raise in the future, whereas highly graduated taxes are more susceptible to targeted, but often economically inefficient, tax hikes.

Taxpayers seem to sense this intuitively: it seems to have been persuasive in Illinois, for instance, where voters lopsidedly rejected a constitutional amendment permitting a graduated rate structure even though the initially proposed tax increase would not increase tax liability for the vast majority of voters. They seemed to recognize that, once the principle was established, higher rates would be established for more and more taxpayers—even setting aside the implications for the state’s economic competitiveness.

Nine states already have single-rate income taxes. Five of them have always been flat, while four others have shifted to a flat income tax after previously imposing a graduated-rate tax. In five of these states, a flat-rate tax is mandated by the state constitution, either through direct language on income taxes or through a broadly applicable tax uniformity clause.

If Georgia, Mississippi, and Oklahoma were to join this list—and when Iowa does—lawmakers might want to consider enshrining a uniform rate requirement in the constitution to preserve the benefits of a single-rate tax and to provide the sort of taxpayer certainty that will amplify those benefits.

Before they reached a deal that will ultimately yield a flat 4 percent income tax, Mississippi lawmakers grappled with a House-led plan to phase out the income tax altogether. My Tax Foundation colleagues and I evaluated these proposals at length last year, with additional analysis as a modified bill advanced earlier this session. (Reminder: while I will sometimes link to my work or colleagues’ work at the Tax Foundation, this newsletter itself represents my own opinions and not those of my employer.) These prior approaches raised several issues.

First, these plans reduced and ultimately eliminated liability by exempting a growing share of income from taxation, rather than reducing marginal rates, thus blunting the impact on labor and investment decisions until the tax was repealed outright. At the same time, however, the proposals were also highly aggressive, using a revenue trigger design that would have required budget cuts in real terms. They lost additional revenue by reducing the sales tax rate on groceries. And finally, because the plans required far more revenue offsets than could be provided by projected economic growth—even when accepting some level of revenue reduction in the out years—they relied in part on broadening the sales tax to a variety of business inputs.

The plan approved by legislative leadership today avoids all these pitfalls. It takes the lowest bracket, a 4 percent tax on income between $5,000 and $10,000, and eliminates it entirely. Then, over the subsequent three years, it reduces the rate on the single remaining bracket (on income above $10,000) from 5 percent to 4 percent. Given the state’s standard deduction and personal exemption, the upshot is that for a single taxpayer, there would be no tax liability on income below $18,300, and a flat 4 percent rate on income above that level.

States shifted from graduated to single-rate income taxes in 1987, 2007, 2014, and 2019. With Iowa’s new law, plus active proposals in Georgia, Mississippi, and Oklahoma, it’s entirely possible that 2022 alone will see the enactment of legislation yielding as many new flat taxes as we’ve seen transition in the history of state income taxes to date.