The Tax Foundation

October 10, 2007

2008 State Business Tax Climate Index (Fifth Edition)

by Chris Atkins and Curtis S. Dubay

Background Paper No. 57

Introduction to Executive Summary
The Tax Foundation presents the 2008 ver­sion of the State Business Tax Climate Index (SBTCI) as a tool for lawmakers, the media, and individuals alike to gauge how their states tax systems compare. Policymakers can then use the SBTCI to pinpoint changes to their tax systems that will explicitly improve their states' standing in relation to competing states.

How much states collect in taxes is critical, but how they take it is also important. In other words, quite apart from whether a state's total tax burden is higher than in other states, it can enact (and many states do) a set of tax laws that cause great damage to the economy.

The modern market is characterized by mobile capital and labor. Therefore, companies will locate where they have the greatest compet­itive advantage. States with the best tax systems will be most competitive in attracting new busi­nesses and be the most effective at generating economic and employment growth.

Although the market is now global, the Department of Labor reports that most mass job relocations are from one U.S. state to another rather than to an overseas location. This means that state lawmakers must be aware of how their states' business climates stack up to others in their region and nationwide.

State lawmakers are always tempted to lure business with lucrative tax incentives and sub­sidies. This can be a dangerous proposition, as a case in Florida illustrates. In July of 2004 Florida lawmakers cried foul because a major credit card company announced it would close its Tampa call center, lay off 1,110 workers, and outsource those jobs to another company. The reason for the lawmakers' ire was that the com­pany had been lured to Florida with a generous tax incentive package and had enjoyed nearly $3 million worth of tax breaks during the pre­vious nine years.

Lawmakers create these deals under the banner of job creation and economic develop­ment, but the truth is that if a state needs to offer such packages, it is most likely covering for a woeful business climate plagued by bad tax policy. A far more effective approach is to systematically improve the business tax cli­mate for the long term. When assessing which changes to make, lawmakers need to remem­ber these two rules:

  1. Taxes matter to business. Taxes affect busi­ness decisions, job creation and retention, plant location, competitiveness, and the long-term health of a state's economy. Most importantly, taxes diminish profits. If taxes take a larger portion of profits, that cost is passed along to either consumers (through higher prices), workers (through lower wages or fewer jobs), or shareholders (through lower dividends or share value). Thus a state with lower tax costs will be more attractive to business investment, and more likely to experience economic growth.
  2. States do not enact tax changes (increases or cuts) in a vacuum. Every tax law will in some way change a state's competitive position relative to its immediate neighbors, its geographic region, and even globally. Ultimately it will affect the state's national standing as a place to live and to do business. Entrepreneurial states can take advan­tage of the tax increases of their neighbors to lure businesses out of high-tax states.

Clearly, there are many non-tax factors that affect a state's business climate: its proximity to raw materi­als or transportation centers, its regulatory or legal structures, the quality of its education system and the skill of its workforce, not to mention the intan­gible perception of a state's "quality of life." Some of these factors are, of course, outside of the control of elected officials. Montana lawmakers cannot change the fact that Montana's businesses have no immediate access to deepwater ports. Lawmakers do, however, have direct control over how friendly their tax systems are to business.

To view the State Business Tax Climate Index data for 2003 to 2008, click here.

Attached Files