WASHINGTON Action by Congress to eliminate both the tax exemption for municipal bonds and the state and local tax deduction would cause the loss of $71 billion or 0.35% of total gross domestic product and about 417,000 jobs or 0.28% of total employment over the next decade, two government groups said Thursday.
The estimates were made in a study, called “Macroeconomic Analysis of Federal Tax Proposals Affecting State and Local Budgets,” that was prepared for the National Governors Association and The Council of State Governments by Moody’s Analytics.
“The study’s analysis of the potential effects on jobs, growth and investments in infrastructure shows how proposals to repeal or limit these tax provisions that benefit state and local investments run a real risk, if enacted, of creating unintended consequences,” said NGA executive director Dan Crippen.
The study focused on attempts to either cap or eliminate both the tax exemption of bond interest and the state and local tax deduction because these tax code provisions provide the most significant subsidies to state and local governments, Moody’s Analytics said.
For municipal bonds, the study found that the elimination of tax exemption would increase municipal borrowing costs $33 billion over the next decade, accompanied by a $385 billion increase in federal tax revenues. Capping the value of tax exemption at 28% would raise borrowing costs by $6.6 billion, corresponding to an increase of about $77 billion in federal tax revenues, the study said.
The study also looked at President Obama’s proposal to recreate America Fast Forward Bonds, a new type of direct-pay bond program where Treasury would make subsidy payments to issuers equal to 28% of their interest costs. The bonds could be used for any projects that can currently be financed by private activity bonds, as well as for short-term operating needs and refundings.
If the AFF bond program were enacted and state and local governments issued more than $1 trillion of these bonds over the next decade, they would obtain about $3 billion in savings, the two groups said.
Eliminating the state and local tax deduction would generate a federal tax revenue gain of $743 billion over 10 years and push the average effective federal tax rate up 0.5%, the study found. Capping the deduction would raise $112 billion over 10 years, corresponding to an increase of about 0.07% in the average effective tax rate, it said.
Overall the capped scenario for tax exemption, the deduction and AFF bonds would result in a net increase of $188.9 billion in federal tax revenues and a $3.6 billion increase in borrowing over a 10-year period, the study concluded.