The Trump Tax Impact on Sinkhole States

Do you know which states are classified as sinkhole states? There are eight, with California and New York at the top.

Sinkhole states are regions where the population dependent on the state outnumbers the population providing the necessary resources. This population surplus causes serious problems when the economy takes a fall. That being said, the sinkhole states have another issue.

In December, President Trump passed a new tax law that ended the federal deduction that people utilize for state income taxes. Accordingly, states with higher taxes have seen a rapid increase in living expenses.

Now wealthy residents who provide funds for the states of California, Illinois and New York will feel more inclined to move to Nevada, Florida or Texas. If they do choose to move, the remaining population of productive workers will be required to support the new financial burden.

These are the eight states classified as sinkholes:

A state needs to be facing a dip in income in order to qualify. The IRS provides reports of the total income of taxpayers moving into a state and the income of taxpayers moving out. When the latter is larger, the state is considered a departure state.

Sinkhole States also have a Feed Me Ratio over 100. The ratio is simply the population of takers for 100 makers. The taker population is the total number of state and local government employees, the people on Medicaid and 1 for each $150,000 that state government pension plans are negative.

The total number of makers is calculated by adding the private-sector employment total and the federal employment total. These people pay the necessary taxes that fund the state government, keeping it afloat.

There is not a perfect way to quantify the gap between private employment and the welfare rolls, but the Feed Me Ratio performs well enough to measure the correspondence between the makers and the takers.

The makers in Illinois would have to pay $68,000 each to fix the pension deficit.

Pensions are not a problem due to the sum of retirees. The issue at hand is that not all of the pension fund assets are accounted for. If the funds were there, the pensions would be completely covered and not pose a burden on employed taxpayers.

Illinois is $361 billion under on state pensions. In order to fix this, the makers in Illinois would have to pay $68,000 each. For this reason, Illinois is considered a failure in income migration.

Like Illinois, California is also an income failure. Many residents may start businesses in California, but once a business becomes highly profitable, the owner packs up most of the business and moves to a more reliable state.

California still has much to offer with prime real estate and giant corporations. But however great California may seem, the taxpayer outflow could always increase into a dangerous situation for the economy. The state’s highest income tax rate is 13.3%. For the wealthy, that rate was softened with the write-off they could claim on their federal returns.

The problem with Trump’s tax law is displayed as the Soak ’em Score. The score is the percentage of the state tax earnings from incomes over $500,000. The higher the percentage means the tax funds are more unstable because most people with incomes over $500,000 can relocate quite easily.

People living in a sinkhole state should be aware of the home-state municipal bonds. They should also be hesitant about purchasing an expensive home. Even if one plans to move out the state once a financial crisis hits, the bids on the home will most likely be from people who understand they are moving into a sinkhole.

The Soak ‘em Score draws from 2015 tax returns. The estimate of the income tax the state takes in from the wealthy residents derives from the numbers those residents wrote-off as local income tax on their federal returns. It is not 100% accurate because residents could be writing off taxes sent from other states. That being said, it is close enough to understand the general situation of a state’s tax revenue stability.

The relocation data corresponds with 2010 and 2011 returns, the most recent with the IRS statistics. Employment and Medicaid totals are taken from October and November of 2017.

The calculations of unfunded pension liabilities were made by Joshua Rauh, a Stanford business school professor. The calculations use interest rates on U.S. Treasury bonds which produce larger deficits than what the states willingly publish.

Governor Jerry Brown says California will have a $6 billion surplus. However, this would not be the case if there was a strong push to handle the $769 billion pension shortage.

The past 7 years have seen an increase in relocation to Washington State, which does not tax personal income. Amazon and Microsoft seem to have found the perfect place to build their empires.