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Real Pain From Illinois Tax Hike Looms in 2012

The federal government might be giving taxpayers a break with a temporary 2-percentage-point decrease in Social Security payroll taxes. But thanks to the biggest state budget shortfall in the nation, residents of Illinois will also be hit with a 2-percentage-point increase in state income taxes, as the Wall Street Journal reported.

Hiking the state’s income tax from 3% to 5% (that’s a flat rate for all individuals) amounts to a stunning 67% increase in the income tax rate.

For a family of four making $60,000 a year, that’s another $1,040 in taxes. For a family making $100,000, that’s another $1,840. But as bad as that sounds, this year, many residents won’t see much change in their overall tax burden, thanks to that temporary federal tax cut. But they’ll really feel it once the federal break disappears in 2012. At that point, they’ll see what is effectively a 4-percentage point jump in taxes over 2011.

Some Illinois residents might be scrambling for a loophole (if not a one-way ticket out of the state)–if there are any. Melissa Labant, a technical manager on the tax staff at the American Institute of Certified Public Accountants, says says Illinois residents should avoid trying  to defer some income until the tax hike falls back to 3.75% in 2015, should reconsider. Federal tax rates are quite likely to rise substantially more than 2 percentage points in the future, so deferring income isn’t a good gamble right now, Labant says. Illinois residents can take comfort, however, in the fact that even with the increase, the state’s income tax is still one of the lowest in the country, and remain lower than what neighbors in Missouri and Wisconsin are paying, she says.

The state’s corporate tax rate is another story. At 4.8%, Illinois ranked 23rd on the Tax Foundation’s State Business Tax Climate Index for 2010. Raising that rate to 7% bumps the state down to 36th place, dropping it below Pennsylvania, Nebraska, Maine, Kansas, and Massachusetts. The tax increase will “severely impact” the state’s attractiveness to business (http://taxfoundation.org/publications/show/26965.html ), warned the Tax Foundation’s director of state projects, Joseph Henchman, and staff economist, Kail Padgitt.

It’s too soon to tell which, if any, states will follow Illinois’s lead, says Arturo Perez, a fiscal analyst for the National Conference of State Legislatures. “Take a step back and look at the state we’re talking about,” Perez says. Illinois’s budget gap was the largest in the country by a wide margin–at 47% of the general fund budget. The next-largest gap was Arizona’s, at a comparatively reasonable 9.7%.

Still, there are some clues in the numbers about which state’s residents would be most likely to feel the pinch next—and they won’t have the benefit of the payroll tax break if state hikes go into effect in 2012. This year, as states consider their 2012 budgets, 27 face shortfalls of greater than 5% of their general fund budgets, according to the NCSL. Nevada (32%), New Jersey (26%) and North Carolina (20%) have the biggest holes to fill. States will be trying to close these gaps with only a fraction of the federal stimulus funding that has been available for the past couple of years, Perez says – and having already tried a lot of short-term fixes like furloughing state employees. “At this point, the options for states don’t get easier, they only get harder,” he says.

One bit of good news for state number-crunchers that could mitigate the pain: other sources of tax revenues have already started to rise.

Readers, do you fear a state income tax hike?

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    • We the people in Illinois need to get rid of him. Since he’s been in office we here in the southern part of Illlinois have been left here to die and to try and help ourselves. We have the highest unemployment rate. No jobs avaliable but steady tax hikes.

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    • Yep…got to have that money to repave 355 and 90/94 again for the 15th time in 15 years. Illinois sucks you dry worse then a west side hooker.

      Quinn needs to get out of office, he “Ceasered” Blago (seriously, the Lt Gov had no idea what blago was doing…I don’t buy it), and once he got into office did everything Blago wouldn’t…like go tax hike crazy. Now if you smoke, eat, like candy, going to the movies…its all over taxed now.

    • Those who live in California or New York would be pretty happy with a 5% rate.

    • What non-Illinoisans fail to realize is that Illinois also has a 2.5% tax on corporate income that is called the replacement tax. It is calculated on the same basis as the corporate income tax and paid with the same tax return. So the real Illinois corporate income tax rate was 7.3% (4.8%+2.5%) and is now 9.5% (7%+2.5%).

      Since the press consistently fails to recognize this additional tax, Illinois could appear to become a tax haven by reducing its corporate tax rate to 1%, and then implementing a series of other taxes — the 1% silly tax, the 1% very silly tax, the 1% stupid tax, the 1% really stupid tax and so on until it had raised the total tax rate to whatever absurd level its politicians think that they could get away with.

      Even the 67% increase in the personal income tax was not enough to resolve Illinois’ budget problems. That won’t happen until Illinois decides to fix its pension system.

About The Tax Blog

  • The Tax Blog brings together a team of award-winning tax journalists from the Dow Jones network and around the web to examine the tax issues, changes and legislation that affect families, investors and small business owners. Our contributors include Tax Report columnist Laura Saunders (WSJ), Tax Guy columnist Bill Bischoff and senior reporter Jilian Mincer (SmartMoney.com), retirement-focused reporter Anne Tergesen (WSJ), wealth management writer Arden Dale (Dow Jones Newswires), TaxWatch columnist Eva Rosenberg and personal finance reporter Andrea Coombes (MarketWatch), and reporter Alyssa Abkowitz (SmartMoney). They’ll provide the latest news and insight, mine the tax code for tips and loopholes, and answer your questions about tricky tax situations. Contact the The Tax Blog with ideas, suggestions or tax questions at thetaxblog@dowjones.com.

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