Alaskans Already Pay More in Income Taxes than Their Peers
Contributed by Jared Walczak, Tax Foundation
Alaskans only pay federal, not state, income taxes—but by one important measure, their income tax burdens are higher than the combined federal-state burdens in many states. The Alaska income tax premium cannot be ignored as state policymakers contemplate implementing a state-level tax.
Living in Alaska is not cheap. Alaskans must earn 30 percent more than residents of other states just to break even on purchasing power. Fortunately, Alaska salaries partially—not wholly—reflect this cost premium. The flip side is that the federal income tax bite is larger even if the income stretches no further.
Alaska’s median household income of $77,790 is the equivalent of only $59,885 nationally and comes with an additional $4,888 in federal income and payroll tax liability for a married couple ($6,679 for a single filer). A higher cost of living is not a tax, but it does carry tax implications because more federally taxable income is necessary to purchase the same lifestyle that lower wages could purchase elsewhere. Even at a conservative estimate, married couples face an additional 5 to 6 percent income tax burden because of the state’s high cost of living—the equivalent of what a state income tax would cost in many states. Under scenarios in which most income is consumed and relatively little is saved or invested (there’s no investment premium in Alaska, just a consumption premium), the extra tax burden can run several points higher than that.
Meaning that if Alaska ever reimposed its own individual income tax, it would be the financial equivalent of paying two state income taxes in many other states. That’s a lot to ask of Alaska workers.
Were Alaska to adopt an income tax, it would be bucking a nationwide trend of reducing tax burdens on income. In the past two years, 21 states have cut individual income tax rates, while only New York and the District of Columbia have raised them. An Alaska income tax would not only cut more deeply into take-home pay than most state income taxes, but it would also come at a time when most states are making their income taxes more competitive.
Here’s another Alaska distinctive: 99 percent of all businesses are what are known as pass-through businesses, meaning that they would be subject to the individual income tax if one were imposed. That’s a larger share of businesses than in the Lower 48, and those businesses already face unusually high costs, including under the federal income tax.
An Alaska income tax would have a twofold effect on small businesses: first, it would increase the direct cost of doing business in the state by imposing a new tax on small business owners’ income, and second, it would increase labor costs, since the income tax also falls on labor and this burden would be borne, to varying degrees based on employment elasticities, by both employers and employees. In a state that already has a federal income tax premium baked in, that’s a significant burden to bear.
Over the past decade, states (as a class) that forgo income taxes have seen their populations grow at twice the national rate. The ongoing migration from high- to low-tax states, and particularly states with low-income taxes, is likely to accelerate with the growing viability of telework post-pandemic. Increasingly, many people will be able to live wherever they wish. Those who are highly sensitive to taxes will find it easier than ever to relocate to jurisdictions with lower tax burdens, regardless of where their employer is located. And employers themselves will have more location flexibility as geography becomes less of a constraint on their workforces.
This may mean that back-office employees of Alaska-based companies are no longer bound to Alaska and could leave if their overall cost of living—which would take both taxes and the Permanent Fund Dividend into account—was lower elsewhere. It could also mean, more optimistically, that people drawn to Alaska’s natural beauty could move to the state, either full-time or for part of the year, despite working for an employer located elsewhere.
We know that, compared to consumption taxes, income taxes are more economically harmful. They increase outmigration and reduce in-state employment mobility, investment, and the size of the state's economy. That’s a lot of downside for a tax that only modestly moves the needle on revenues.
In 1980, the last year Alaska’s income tax was in operation, it generated $100.5 million with a top rate of a now-astonishing 14.5 percent. Adjusting collections for inflation, an income tax with similar parameters would only have increased state revenue by 1 percent in FY 2021 because of how much the state generates from oil and investment income.
Let that sink in: Alaska could adopt the nation’s highest income rate and its revenues would have only been 1 percent higher than they were without it. Is the cost to taxpayers and the state’s economy worth it?