The Anti-State Blog

I am considering leaving my current home in the Saint Louis area to move to the Pacific Northwest. My wife and I both love the climate in Oregon and Washington and we are both nature lovers. Oregon is somewhat more temperate than Washington and for that reason it would be a better choice to us. But Oregon, besides having a dumb law preventing people from filling their own gas tanks, has a high income tax. Washington does not have an income tax. So it would make sense for us to prefer Washington, most likely southern Washington near the border with Oregon.

This will probably strike most of you as sensible. But think about it–I am considering changing where I may spend the rest of my life, where I will raise my kids, not based on job considerations, or the location of family, or the location of our ‘dream house’, but based largely on taxes! This is absurd that taxes have such a large impact. Just think of all the other decisions in peoples’ lives that taxes distort.

I am the proud owner of a small apartment building. Why did I buy it? Because it was economic for me to do so. But apartments in Saint Louis are priced in such a way that if it were not for the tax code it would not make sense for me to waste my time fixing toilets. I would be much better off investing in stocks or in P2P loans on Prosper.com. But the tax code offers a loophole whereby a small property owner like myself can cut a couple thousand dollars off of his tax bill each year by owning property (this is largely due to the depreciation deduction). Also, any sizeable capital gain when I sell can be indefinitely deferred with a 1031 exchange. So I manage a property even though my talents are better suited to analyze stocks or invest in loans. Solely because of the tax consequences.

Speaking of 1031 exchanges–they cost money, usually a couple thousand dollars. If capital gains were never taxed then these would not exist and those who spend time on them would do something productive. The same is true for IRAs and 401(k)s and HSAs and 529 plans. All these tax deferral schemes have significant administrative costs. Eliminate the taxes on investment income and the economy as a whole would have a lot more money to invest elsewhere. Imagine the cost savings to investors who could invest in any mutual fund rather than the typically high-fee fund found in 401(k) plans. Imagine all the time that would not be spent setting up these accounts and what people could do with that time (for example, I spent over 12 hours trying to find the best HSA plan–I like either hsabank.com or shawneehsa.com).

Even more importantly, think of the savings in time and energy to investors in the stock market of not having to worry about whether gains are short- or long-term capital gains. Think of the savings in costs to brokerages and banks of not having to send out 1099 forms.

Let me leave you with one piece of information: the Tax Foundation estimates that in 2007 the cost of tax code compliance in the US will be $300 BILLION. That is a high cost, and it doesn\’t even include the cost of uneconomic decisions made by taxpayers like myself simply to lessen their taxes.

There are many other areas where taxes distort incentives. I will return to this topic in future posts.