Additional income tax cuts will generate hundreds of millions of dollars per year in economic growth for Iowa.
After three significant rounds of tax cuts since 2018, Iowa firmly established itself as the national leader in state-based tax reform. Now, the state government has a real possibility of eliminating the income tax, making Iowa the first state to do so.
Given the progress that has been made in a few short years, Iowans may not remember how unfriendly Iowa’s tax code was to families and businesses just six years ago. We faced some of the highest income tax rates in the nation, with the top individual rate close to 9 percent and the top corporate rate at 12 percent.
Over three different legislative sessions, Iowa’s tax reforms have included:
Iowa is collecting more from taxpayers than is needed to fund the government. Fiscal year 2023 produced a $1.8 billion surplus, which was $86.3 million higher than originally estimated. The fiscal year 2024 surplus is projected to be $2.1 billion, rising to $3.0 billion in fiscal year 2025. Iowa’s reserve accounts (the Cash Reserve Fund and the Economic Emergency Fund) are filled at their statutory maximums and projected to continue at this level in fiscal years 2024 ($961.9 million) and 2025 ($957.6 million).
Budget surpluses have also fueled enormous growth of the Taxpayer Relief Fund, which the legislature created to provide income tax relief. It has a current balance of $2.7 billion, which is projected to increase to $3.7 billion in fiscal year 2024 and $3.9 billion in fiscal year 2025. This massive amount of dollars represents an overcollection of taxpayer wealth.
ITR Foundation, in partnership with the Buckeye Institute’s Economic Research Center (ERC), has modeled additional tax reform possibilities, including the dynamic effects of individuals and businesses responding to the policy changes. The estimated dynamic effect of lowering the individual income tax rate to 2.5 percent in 2026 is a $600 million increase in state gross domestic product (GDP) in the first year.
Under a second scenario, the ERC modeled the possibility of completely eliminating the income tax in the year 2026. The ERC estimates this tax reform package would increase the state GDP by $940 million in 2026, including the creation of two thousand jobs.
Eliminating the income tax is admittedly more complicated than another round of rate reductions. In Iowa the income tax comprises 47 percent of the state’s revenue, based on fiscal year 2024 revenue projections. While the ballooning budget surpluses Iowa is projected to collect demonstrate taxpayers are overpaying on their income taxes, elimination still must be done with prudence. Eliminating the income tax cannot occur overnight, but policymakers do have several policy options to utilize.
Each one of those options will require candid and serious discussions surrounding not only the policy considerations, but also the political ones. Eliminating the income tax is a noble goal and one that will require a discerning approach. ITR Foundation is not putting forth a specific set of policy changes to achieve income tax elimination but is instead bringing to light the policy discussions that must take place as part of a pragmatic and cohesive tax policy that includes eliminating the income tax.
Over the last few years, Iowa has been a national leader in state fiscal policy thanks to conservative budgeting and pro-growth tax reform. The 2024 legislative session offers a unique opportunity to build upon these achievements and provide lasting income tax relief for taxpayers, while making the economy more competitive and attractive.
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