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November 01, 2010

Stealth Taxes

Government can be very creative when it comes to finding money to fund incentives to change normal economic behavior. The usual sources are drying up, at least temporarily. Here in Vermont we already face an over $100 million budget deficit for the next fiscal year; neither major party gubernatorial candidate says he is in favor of new taxes. Other states are in even more dire straits. The funding the states have been getting from Washington for various grant programs has all but dried up, and it doesn't look like we'll have a new Congress in favor of replenishing it.

What we need to look out for – no matter who gets elected – are stealth taxes. Stealth taxes are enacted by forcing a class of businesses to spend money in ways that government thinks best; the "tax" is the higher prices which result from the uneconomic expenditures. We've recently had a couple of notable examples.

The new national health care bill forbids lifetime limits on coverage and mandates that insurance companies allow "children" to stay on their parent's policies until they are 26. Insurance companies were always free to offer policies with these terms and many did have "unlimited" policies. These policies cost the insurance companies more in payouts than less generous policies, so they had higher premiums. It would be surprising (and irresponsible) if insurance companies didn't raise their rates to cover additional cost; so that's exactly what they're doing now that they must provide more generous terms on all their policies. The extra premiums are a stealth tax: we don't pay it directly to the government; it doesn't show up in the federal budget; the money doesn't pass through government hands (probably a good thing); but the share of our income which goes to pay for programs which government thinks we need has increased as surely as if there were a premium tax to fund unlimited policies and coverage of adult children.

A Vermont example of a stealth tax is the Feed-in Tariff (FIT) which Vermont electric utilities are required to pay to producers of electricity from "renewable sources" – not including HydroQuebec (HQ), which delivers plentiful, clean, and reliable electricity at market rates. Producers of electricity from solar panels are guaranteed $.30/kwh, five times what HQ charges; owners of wind turbines "only" get $.20/kwh. The utilities, of course, include the inflated cost of the FIT in their rate calculations; so electricity users pay the incentive for this program just as surely as if it were an explicit tax on electricity use. BTW, the last Vermont legislature overwhelmingly passed the bill containing the FIT; and both major party candidates for governor have expressed some support for it. This is a stealth tax we might well see more of, especially since the previous legislation limited it to projects generating an aggregate of 50 megawatts and that there was so much demand that the right to FIT had to be allocated by lottery .

Business is not always against a stealth tax. As long as it applies to a whole industry, it doesn't usually change competitive positions within the industry. In fact, unless there's an alternative to the industry's product or extremely elastic demand, total revenue goes up because of government mandates and total profits (although not profit percentage) may go up as well. Vermont utilities didn't lobby against the FIT.

This is not a simple issue. The government mandates for seatbelts and airbags are stealth taxes, just like the examples I gave above. But, without the mandate, manufacturers of cars with these devices would have been at a competitive disadvantage and we presumably would have lost more lives in accidents. Other safety mandates – like a clean food supply – would be even harder for each consumer to choose individually; but they do impose a cost on producers which is passed on to consumers. Does the end justify the means? Sometimes.

The better job we do of convincing politicians not to raise taxes or expand deficits, the more attempts at stealth taxes we are likely to see. Something we'll have to keep an eye on no matter who wins what election.

Related posts:

The End of the Age of Incentives

A Doable Energy Future


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