Indiana Fiscal Policy Institute and Local Government and State Government and Income taxes and Taxes and Government & Economic Development and Government and Public policy

State's local income tax system isn't keeping up with demand

November 17, 2012

Indiana’s system of local income taxes isn’t keeping up with demand from cash-strapped governments, according to a new report.

The complexity of seven different local-option income taxes, plus a two-year lag in payments from the state, are among the problems the Indiana University Public Policy Institute and the Indiana Fiscal Policy Institute cite in a report released Nov. 12.

“Fundamental shifts in economic activity and in the state’s property tax system over the last four decades have been met only with incremental changes” to local-option income taxes, or LOIT, the report concludes.

Indiana distributed more than $1.5 billion in LOIT to counties this year. That represented 19 percent of local tax revenue, up from 6 percent in 1987. The policy experts predict that local governments will look toward LOIT to cover more general expenses in the future.

While income taxes add diversity, they are a volatile source. Indiana residents’ taxable income grew at an annualized rate of 1.3 percent from 2000 to 2007, and for the recession of 2008, it declined 3.5 percent.

Changes in taxable income vary from county to county. The fastest growth from 2000 to 2007 was 5.9 percent in Whitley County. The best result from 2008 to 2011 was zero growth in Carroll County.

The institute makes five recommendations for state policy makers and bureaucrats: reduce structural uncertainty; decide on the appropriate level of local control to match local conditions; reduce the two-year lag; provide adequate technical assistance for counties adopting LOIT; discuss the costs and benefits of streamlining LOIT into one rate.

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