Tax Foundation releases a new study of “tax expenditures”

The Tax Foundation’s new report on “tax expenditures” is a good contribution to the ongoing tax policy discussion engaging policymakers across the country. The Tax Foundation focuses on federal tax expenditures, but the concepts involved migrate easily to state policy discussions.

Here in Washington, we hear a lot about how tax “preferences” have narrowed the state’s revenue base. But the discussion is often confounded by a lack of clarity on the concept. 

The Washington Research Council pointed out in a 2011 report

The terms tax exemption, tax preference and tax expenditure are used interchangeably by legislators.

They’re not really the same. And the primary resource for what the WRC called “the hunt for funds,” the revenue department’s inventory of tax exemptions doesn’t worry overmuch about the distinctions. As the WRC pointed out, that’s less a flaw in the DOR report than in the use made of it by policymakers. It’s complicated – beyond the scope of this post – but those who want to explore more deeply the tax preference discussion will want to read the 2011 report and a 2013 tax preference analysis.   

The Tax Foundation tackles the definitional problem.

A tax expenditure is a departure from the “normal” tax code that lowers a taxpayer’s burden – for example, an exemption, a deduction, or a credit. They are called tax “expenditures” because, in practice, they resemble government spending.

The most obvious kind of tax expenditure is a provision that directly lowers the tax burden for a subset of taxpayers engaged in a specific activity. For example, consider a taxpayer claiming the American Opportunity Tax Credit, who gets a lower tax bill because he has qualifying college expenses. One could achieve a functionally identical result by administering the credit through a spending program instead of the IRS. The tax credit “spends” by forgoing the revenue collection in the first place.

However, measurement of tax expenditures can often be more complicated than the clear-cut example above. What one considers to be a tax expenditure tends to depend heavily on what one considers the “normal” tax code to be. As a result, both deliberate broad-based changes to the tax code and narrow tax preferences can be labeled as tax expenditures.

Read and enjoy.