Richard Locker

richard.locker@commercialappeal.com

Despite earlier misgivings, Gov. Bill Haslam signed into law Friday a bill that reduces Tennessee’s Hall income tax on some dividend and interest this year and eliminates it in 2022.

The bill cuts the income tax rate from 6 percent to 5 percent for tax year 2016 on tax returns due next April. The bill says it is the “legislative intent” that the tax rate be reduced by 1 percent annually starting next year. It eliminates the tax entirely for 2022, regardless of whether the annual reductions occur.

If some future legislature doesn’t reverse course, Tennessee in 2022 will join seven other states with no state personal income tax: Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming. Although most states with income taxes tax wage, salary and investment income, only Tennessee and New Hampshire tax certain dividend and interest income but not wages and salaries.

Tennessee legislature approves Hall tax cut, eventual repeal

The Institute on Taxation and Economic Policy, which analyzes tax policy from a progressive standpoint, says repealing the Hall income tax will make Tennessee’s tax system more regressive than it already is because it will benefit the wealthiest taxpayers the most while the majority of Tennesseans will see no benefit at all.

ITEP says that when the tax is eliminated, the tax cut would average more than $5,000 per year for the top 1 percent of Tennesseans in terms of income and less than $50 for the majority of Hall taxpayers.

The state Department of Revenue says there were 204,944 Hall income tax returns filed for tax year 2014, the last year for which full results are available. The average tax liability per 2014 return was $1,446 but the median was $266, which means that half of the returns had a liability of $266 or less.

In recent years, lawmakers had enacted provisions that spared many retirees and middle-class earners from having to pay the tax. People 65 and older were already exempt from the Hall tax if their total income from all sources is $68,000 or less for joint filers and $37,000 or less for single filers. And for all taxpayers regardless of age or income levels, the first $2,500 in Hall-taxable income is exempt for joint filers and the first $1,250 is exempt for single filers.

The Hall tax is not levied on interest earned on savings and checking accounts, certificates of deposit, government bonds, bank money-market accounts and dividends from bank stock, insurance companies and credit unions.

Tennessee has the highest combined average state and local sales taxes in the country, according to the more conservative Tax Foundation, and is one of only 13 states taxing non-restaurant food purchases, according to the Federation of Tax Administrators. Five of the 13, but not Tennessee, provide tax rebates or tax credits to low-income people for their food taxes. The net result is that while Tennessee’s overall state and local tax burden is in the bottom three nationally, the tax burden for the poorest 20 percent of taxpayers is 14th highest among the states, according to ITEP’s analysis.

“The Hall Tax plays an important role in offsetting the otherwise regressive impact of Tennessee’s tax system,” said Dylan Grundman, an ITEP senior analyst. “Overall, the state’s tax system captures a greater share of income from low- and middle-income people than from the wealthy but the Hall tax is one of the few taxes that runs counter to that trend.”

The Hall tax — named for state Sen. Frank Hall of Dickson, who sponsored the income tax when it was enacted in 1929 — has been a target of Republicans since they gained full control of the statehouse six years ago, although some favored reducing the tax rate or continuing to increase the exemption levels rather than a full repeal.

During the legislative discussion, Haslam supported reducing the tax rate but sent his finance commissioner and other top aides to warn a legislative committee last month about the potential impact on the state of eliminating the tax. He had argued that future reductions and repeal should be left to future legislatures and governors, who would make decisions based on the state’s needs at the time.

But with heavy pressure by anti-tax groups that play active roles in Republican primary elections, the GOP majority included the 2022 repeal in the bill, sponsored by Sen. Mark Green, R-Clarksville, and Rep. Charles Sargent, R-Franklin. The final bill passed the House 66-17 and the Senate 29-1. Senate Minority Leader Lee Harris, D-Memphis, cast the only “no” vote in the Senate.

Senate approves bill reducing Hall tax to 5 percent

“I would have been much more comfortable with having something that just did it (a tax-rate reduction) this year, where we know what the state’s fiscal situation is every time we make that decision,” Haslam said when the bill won legislative approval on April 22. He said at that time he would study the final version before deciding whether to sign it, veto it or let it become law without his signature.

The reduction and ultimate repeal also mean a loss in revenue for local governments — particularly the largest cities and the more affluent suburban municipalities — because 37.5 percent of every Hall tax dollar collected flows to the town or city where the taxpayer lives, or to the county if the taxpayer lives in an unincorporated area.

The tax generated total revenue of $303.4 million in fiscal year 2015 — $197.9 million for the state and $105.5 million to cities and counties.

Here's how much some counties and cities across the state received:

Nashville-Davidson County — $16.5 million

Memphis — $15 million

Knoxville — $10 million

Brentwood — $4.2 million

Chattanooga — $4.2 million

Franklin — $3.7 million

Knox County — $3.3 million

Germantown — $3.1 million

Belle Meade — $2.1 million

Shelby County — $1.5 million

Murfreesboro — $1.2 million

Collierville — $1.2 million

Williamson County — $1.2 million

Farragut — about $500,000

Reach Richard Locker at 615-255-4923 on Twitter @ricklocker