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Look-Alike Taxes

November 14, 1986

Two years ago Gov. George Deukmejian incorrectly figured his state taxes and had to write the state another check. Like thousands of other Californians, the governor applied the federal tax standards to his Individual Retirement Account, and they differ slightly from the California standards.

It has long been a hassle for Californians to follow two tax codes--a hassle that would be justified if there were tangible benefits. But for most taxpayers there aren't. This year's sweeping reform of the federal tax code that will take effect in 1987 means that the Legislature must reexamine the state's tax laws. It is a good chance for Sacramento to strive for as much conformity with the federal code as possible.

Since 1983 the Legislature has followed a policy of "selective conformity," whereby the state tax code mirrors its federal counterpart except where the lawmakers decide it should differ. The differences, while few, are enough to keep many taxpayers awake into the wee hours of April 15. California's tax treatment of depreciation and net operating losses, for example, differs substantially from Washington's. With IRAs, the new federal limit will be $2,000 for those with incomes under $25,000 or without employer-sponsored retirement plans. California's limit is $1,500 or 15% of your salary, whatever is less, as long as you don't have a company plan. The tax difference is minimal, so why maintain the complication?

The argument for two codes is twofold. The first reason is that California's economic, social and political needs and desires may differ from Washington's and that the state should have its own separate tax code to help achieve those different goals. Unlike the federal government, for instance, the state doesn't tax unemployment compensation or Social Security income. California is more liberal than the federal government in its taxation of capital gains, and less so in its depreciation rules. While those may be worthy social goals, the reality is that trying to alter economic decisions with the state tax code is wishful thinking. State taxes are insignificant compared to federal taxes; Californians on average pay many times in federal income tax what they pay the state. And state taxes have almost no bearing on business decisions.

The other reason for two codes is more base: State legislators like to be able to fiddle with the tax code, and they don't mind being lobbied in the process.

The argument for conformity is simplicity. If the state code were tied to the federal code, Californians could pay a percentage of their federal taxes, or they could use their adjusted gross income from the federal form as the basis for their taxable state income. The state code would mirror the federal code except where, as with certain bonds, the state is prohibited from taxing. Think of the work that would save. And the state would not have to forfeit its fiscal independence. The progressivity of the state income-tax code could be preserved, though tax rates might go up or down a bit to bring as much revenue as before. If legislators still wanted to add their own touches to the state code, they could do so with tax credits, which are computed at the bottom of the tax form.

There is little economic justification for maintaining a state code that is vastly different from the federal one. And there is even less political justification for it. As was demonstrated with the federal tax code, complexity breeds contempt. When the Legislature sits down to rewrite the state tax code, it should keep a close watch on the federal version.

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