Why the Alternative Flat Tax is a Scam

Back in 2002, the Rhode Island General Assembly, in its infinite wisdom, passed what is known as the alternative flat tax option.  This special tax break went into effect in 2006, and is essentially a reduction of the top marginal income tax rate for the state.  Year after year this flat tax rate gets smaller and will eventually cap out at 5.5% in tax year 2011.

Now, I know what some of you are going to say, any reduction in taxes is a good thing because Rhode Island’s taxes are just too damn high.  While Rhode Island’s taxes may seem high, it’s not entirely true and depends on the specific taxes.  More importantly, however, while anyone can use the alternative flat tax to determine their tax liability to the state, the benefits of the alternative flat tax flow almost exclusively to those Rhode Island tax filers making over $200,000 a year.  This special tax cut only benefits less than 1/2 of 1% of those filing Rhode Island personal income tax forms. Of the 490,975 tax forms filed in 2007, only 2,267 of them were flat tax forms.

Even more egregious, almost 2/3 (63%) of the people benefiting from the alternative flat tax live out-of-state – there were 1,429 of them in tax year 2007. So not only are we lowering taxes on those who are most able to pay while the rest of us struggle to make ends meet during the recession, 2/3 of the benefit crosses the border into Massachusetts and Connecticut.  Only 838 Rhode Island residents benefited from the alternative flat tax in 2007.

Now let’s look at the escalating cost of the alternative flat tax option.  In tax year 2007, the reduced personal income tax revenue cost the state $14.1 million.  This means that each of the 2,267 flat tax filers, who each make more than $200,000 annually, received an average tax cut of over $6,200.  As the flat tax rate decreases, more individual tax filers will benefit from the reduced tax rate and will use the flat tax option, and the state will lose even more money.  This will happen year after year, until 2010 when the state will lose over $77 million every year.  As a reminder, about 2/3 of this money (around $50 million starting in 2011) will leave the state.

The alternative flat tax is expensive, and it is a growing problem.  It benefits only a handful of Rhode Island residents while 2/3 of the tax cut leaves the state.  So, let me ask a simple question… Why did the state “spend” $14.1 million for the benefit of the wealthiest 838 Rhode Island residents?