Tax reform that addresses racial injustice also boosts the economy

The best tax systems give appropriate breaks to low-income households to generate economic activity and collect more from those who have the most to spare to fund important public infrastructure and services. However, in the United States, it's low-income Americans and immigrants that pay the highest effective tax rates. At the same time, the wealthiest among us often manage to avoid paying even the low effective rates the government taxes them at currently. 

In order to expand our tax base and boost the economy, while making taxes more equitable for all, our policymakers should enact and enforce tax reforms that help low-income folks keep more of what they earn, while asking the wealthiest Hawaiʻi residents and profitable corporations to pay for a larger share of the tax revenue needed to create a Hawaiʻi where everyone can thrive. 

With a colonial legacy that has disproportionately impacted Native Hawaiians, other Pacific Islanders, and other people of color, creating a more equitable tax system can and should be a part of addressing historical injustices as well.

Unfortunately, in Hawaiʻi, there is a glaring absence of ethnically disaggregated tax data for Native Hawaiians, Pacific Islanders, and other people of color. This data is crucial to determining the needs of certain ethnic groups, as well as the amount of government investment required to meet these needs.

For now, we can look to a recent report titled Taxes and Racial Equity: An Overview of State and Local Policy Impacts, in which the Institute for Taxation and Economic Progress (ITEP) identifies taxes that disproportionately target lower-income communities—particularly those that are predominantly non-white. 

One of the biggest taxes that impacts low-income households at a higher rate than wealthy households is the general excise tax (GET). Across the United States, consumption taxes like Hawaiʻi’s GET end up costing low-income households a much larger portion of their budgets than they do for high-income earners.

Hawaiʻi’s GET contributes to the extraordinarily high cost of living for low- to middle-income residents here. However, it also provides by far the largest tax revenue source for the state budget.

Table 1. Consumer Expenditures by Income Percentile, United States (2019)

Table 1. Compared to wealthy families, low-income households must spend a much higher percentage of their incomes on basic necessities, especially food and housing, that are all subject to the general excise tax. Reducing this regressive effect is one way to increase equity within the tax system.

Source: Bureau of Labor Statistics

Higher taxes on wealth can help to compensate for historical inequities and make taxes more equitable for all ethnic groups. 

For example, white households are 4.5 times more likely to receive inheritance money or gifts from family members in comparison to Black households, and generous exemptions built into the estate and inheritance tax rates are designed to make it easier for these white families to pass their assets on to the next generation. 

As a result of racist policies like this built into the tax system, people of color tend to have less generational wealth to draw upon. That people of color have built vibrant communities with strong social ties in spite of these barriers is a testament to their strength and resilience.

Home ownership is one of the best ways for households to build wealth, yet non-white Americans report far lower average rates of home ownership than their white counterparts. Property tax rates should be adjusted to empower people of color who wish to own a home. Easily accessible first-time home buyer programs can complement this goal.

Figure 1. Homeowner Rates by Race and Ethnicity in the United States

Figure 1: In the United States, whites are significantly more likely to own homes than people of color. 

Note: This data does not properly distinguish Native Hawaiians from Pacific Islander ethnic groups, nor does it disaggregate Asian ethnic groups.

Source: https://scorecard.prosperitynow.org/data-by-issue#housing/outcome/homeownership-rate

ITEP proposes a number of reforms to make tax structures more racially equitable. For instance, Hawaiʻi’s policymakers could impose higher property taxes on luxury and vacation homes, which extract wealth from local communities. 

Most of the counties in Hawaiʻi already assess an additional tax on non-owner-occupied properties worth $1 million or more. While the tax rate for these properties can legally be set up to five times higher than the rate for less expensive “homestead” properties, the highest rate for vacation and luxury homes in Hawaiʻi—topping out at 1.12 percent—is still lower than the national average of 1.24 percent for residential properties.

Hawaiʻi could also tax long-term capital gains at the same rate as ordinary income. Data shows that Hawaiʻi is one of only nine states that currently provide a preferential rate for long-term capital gains—the profits from selling stocks, bonds and other assets. That’s a tax break that goes almost entirely to high-income taxpayers, including non-residents who profit from investing in real estate in Hawaiʻi.

In 2019, Hawaiʻi’s top income tax rate was 11 percent, but the rate assessed on long-term capital gains was only 7.25 percent. According to the Hawaiʻi State Department of Taxation (DOTAX)’s annual report on individual income taxes: 

For the $1 million and above income class, the average effective tax rate comes down to 8.7% before credits and 7.5% after credits. The reason for this drop is that Hawaiʻi taxes net long-term capital gains at 7.25% and the highest income groups are more likely to utilize it. 

DOTAX also found that long-term capital gains made up 41.4 percent of the taxable income of residents earning over $400,000. In comparison, long-term capital gains account for less than 3 percent of the income of those who earn under $100,000 per year.

It’s not just tax hikes that can increase racial equity in Hawaiʻi. Tax credits, such as the earned income tax credit (EITC), can help to offset the regressive impacts of taxes like the GET on low-income households. Since 1975, the federal EITC has been one of the most effective means of reducing poverty for millions of Americans. In 2015 alone, nearly one in four Hawaiʻi households used the federal EITC, equivalent to over $230 million in claims. 

Although Hawaiʻi implemented a state-level EITC in 2017, the program is set to expire at the end of 2022. In addition, Hawaiʻi’s EITC is nonrefundable, meaning that filers with tax burdens that are lower than the credit do not benefit from it. On the continent, 24 of the 29 U.S. states and the District of Columbia that currently provide a state EITC have made it refundable. Considering its profound impact on poverty, Hawaiʻi lawmakers should prioritize extending the state EITC and making it refundable.

The tax code is a powerful tool for policymakers, capable of creating transformational change in the lives of Hawaiʻi’s people—if it is shaped and wielded in a way that dismantles barriers to opportunity, particularly for Native Hawaiians and other people of color. And a tax code that is racially equitable will, necessarily, be a tax code that promotes greater economic stability for all.