Oregon’s capital gains tax is too high
Published in The Oregonian
Of all the beneficial changes one might make to Oregon’s tax code, perhaps none is as vulnerable to simplistic ideological parry as cutting the capital gains tax. Why, the response goes, would you even consider giving rich guys a tax break when teachers across the state are losing their jobs?
It’s hard to argue with that. Never mind that what it suggests — that capital gains serve no purpose but to further enrich the wealthy — isn’t true.
To be sure, the people affected most by capital gains taxes probably don’t buy ramen noodles by the case. That doesn’t mean, however, that all – or even most – people use their capital gains to buy boats, champagne, poodles or whatever it is rich people are supposed to enjoy.
In many cases, capital gains go right back to work, which is to say they’re poured into businesses, property or anything else investors consider potentially lucrative – emphasis on potentially. An investment that promises to be lucrative can turn out to be disastrous because, you know, investing involves risk. That’s one reason why capital gains are often taxed at a lower rate than regular income.
Why should those who don’t have money to invest value such tax-code incentives? Because other people’s investments allow companies to grow, allowing those businesses to hire more people, who, in turn, buy stuff and pay taxes. The more heavily you tax capital gains, the more expensive private capital becomes for the small businesses so many Oregonians support.
Yet Oregon’s tax structure, which taxes capital gains at the standard income rate, is famously unfriendly to investors and small business owners alike. For long-term capital gains, Oregon’s top combined federal and state rate, 21.4 percent, is higher than every other state’s except California’s (21.7 percent) and Hawaii’s (22.2 percent), according to a March study by the American Council for Capital Formation, a Washington, D.C.-based organization that advocates for low taxes on capital gains.
The rates imposed by individual states matter because people may move freely, and taxpayers can time their capital gains. Don’t want to pay the tax? Don’t sell your asset until you’ve established residency in a more hospitable state — like Washington, which, like eight other states, does not tax capital gains.
Numbers provided by the Oregon Department of Revenue illustrate the phenomenon (please see graphic). In tax year 2007, for example, 297 Oregonians with capital gains income moved to Clark County, Wash. Their average capital gain that year was $166,455, or four and a half times the size of the average capital gain reported by the roughly 264,000 capital gains payers who remained in Oregon. And the year before packing up for tax-friendly Washington, the tax emigrants reported, on average, $32,468 in capital gains.
Would cutting capital gains taxes enough to prevent this movement generate enough money to offset the reduced tax payments made by people who stay in Oregon? Maybe not. But pushing away wealthy people — or not-so-wealthy people who leave Oregon before selling long-held businesses or stock — is bad policy for other reasons, including the effect on fledgling companies.
For many tech startups, and perhaps other businesses, the first round of funding often comes from friends and family, says Bob Wiggins, manager of Mount Hood Equity Partners in Lake Oswego. The economy has taken its toll in recent years, he notes, but in better times there existed “a group of very active, well-to-do people who would provide equity funding for startups.” In many cases, these are people who had sold companies and invested — risked — some of their gains in other people’s promising ideas. Presumably, they will become more active as the economy rebounds … but not as active as they might be.
“If you believe that we’re better off having people who have significant amounts of money living here so they can take that money and reinvest it here,” says Wiggins, “then doing something that drives people away seems like a bad idea,”
These people take more than their taxes when they leave. Last year, both Wiggins and Jeremy Rogers, manager of the Oregon Business Plan, testified before the Senate Finance and Revenue Committee, which at the time was considering a number of capital gains proposals for inclusion in a revenue stabilization plan pushed unsuccessfully by Senators Ginny Burdick and Frank Morse. Rogers pointed out that those who flee Oregon’s tax code, which takes a big chunk out of personal income as well as capital gains, not only build and own companies and become angel investors, but also mentor new entrepreneurs and engage in philanthropy.
To gauge the scope of such flight, Rogers’ group commissioned a study in 2009 that examined the movement of people between the Portland metro area’s three counties and Clark County. Not surprisingly, those moving north made a lot more than those moving south — 37 percent more in the year they migrated, to be exact. The impact of this shift adds up. Between 1992 and 2006, Oregon lost $1.3 billion in net income just in the first year after people made the move. That number doesn’t include income earned in subsequent years, the study notes, nor does it include movement of Oregonians from other counties or to other states.
Capital gains rates are only one component of a tax structure that nudges wealthy Oregonians toward the border, and perhaps not the most meaningful. Another is the state’s income tax rate, which is among the nation’s highest. Both of these taxes must be included in the tax-reform discussion to which Gov. Kitzhaber recently committed.
Even more than that, reducing both taxes must receive enthusiastic support from the governor and key lawmakers. It’s a lot harder to explain the benefits of lower rates on capital gains and income than it is to say, “No tax breaks for the rich.” But no one said improving Oregon’s tax code would be easy.