Out-of-State Bond Tax Breaks Should Not Be on DC’s Wish List
So often in tax policy, DC’s leaders argue that we need to make sure the District’s tax system falls in line with states in the region and across the nation. So it especially surprising that some elected officials support changing tax policy to make DC different from every state.
The fiscal year 2013 budget’s revenue wish list would restore DC’s tax break for interest earned on bonds issued by other cities and states just a year after it was eliminated. Granted, this proposal is the last item on the list, and it may never end up getting funded, but the fact that it is there shows that it is a priority. If it becomes law, DC would be the only jurisdiction in the nation to offer a blanket exemption for interest earned on other state’s bonds.
Moreover, there is evidence that the choice to limit the tax break to when DC residents investing in DC bonds already is working as intended. The Chief Financial Officer reported this month that demand from DC residents for bonds from the city’s latest bond sale was up sharply from previous sales, and this helped lower the cost to the city of issuing the bonds.
Taken together, these suggest that restoring DC’s tax break for out-of-state bonds should not stay on the wish list, even at the bottom. If it stays, the tax break eventually will cost the city almost $30 million a year.
A quick review of this issue is in order. For years, most states provided tax exemptions to residents who invest in that state’s bonds, which support infrastructure projects. They haven’t offered the tax break to investments in bonds from other states because that would create an incentive to support construction projects in other states.
As of January 2011, DC and Indiana were the only jurisdictions to provide a tax break for investment in out-of-state bonds. DCFPI has long argued that this tax break should be eliminated. Indiana repealed its exemption in early 2011, and the District eliminated the exemption in the FY 2012 budget adopted in June 2011. DC’s initial action eliminated the tax break for both current and future investments, which drew angry responses from a vocal group of current investors. In response, the DC Council voted to maintain the tax break for current investments and eliminate it only for future investments.
So why are some proposing to bring the tax break back so soon, returning DC to its lone status? Some argue that there are not enough bonds for DC residents to buy. Yet with the recent bond sale of $314 million, the District was able to meet two-thirds of the demand from DC residents. In fact, DC residents have preference for all future bond sales, including $800 million in planned sales in FY 2013. This suggests that most interested DC residents should be able to buy DC bonds, and thereby maintain their tax-exempt investment portfolio.
Last year, the District’s leaders came to a sound compromise on this contentious issue — eliminating a tax break that no other state offers while preserving the tax exemption for those who invested in the past with the expectation that their investment would be tax-exempt. We think it should stay this way.