What is the current income tax structure in Illinois?
The individual income tax is Illinois’ largest general revenue source, generating about 33 percent of all General Funds. It is currently imposed on all individuals receiving income in Illinois.1 In addition to the individual income tax, Illinois income tax also is imposed on corporations, trusts, and estates.
Illinois taxes people’s income at a rate of 4.95 percent and corporations at a rate of 7 percent.
Income tax rates on individuals and corporations increased in July 2017 as part of a tax and spending package that ended a crisis in Illinois in which the state went more than two years without a budget and billions in bills went unpaid. Previously, the income tax rate for individuals was 3.75 percent and the rate for corporations was 5.25 percent. According to the 2018 Economic Forecast and Revenue Estimate produced by the Commission on Government Forecasting and Accountability, the personal income tax rate increase will bring in an extra $5 billion a year.2
1 Illinois Economic and Fiscal Commission, Illinois’ Individual Income Tax (May 2002).
2 Commission on Government Forecasting and Accountability, FY 2019 Economic Forecast and Revenue Estimate and FY 2018 Revenue Update, p. 34 (Feb.27, 2018).
What is the difference between a flat tax rate and a progressive tax rate?
A flat rate income tax applies the same tax rate to every taxpayer regardless of how much income they make. So while someone who makes less pays less on that income, someone who makes more, pays more on that higher income. Progressive tax rates place individuals in multiple tax brackets within ranges of income. Generally, individuals with higher incomes are taxed at higher rates than individuals with lower incomes.
It should be noted, however, that Illinois does apply tax exemptions for low-income individuals.
Why is Illinois a flat tax state?
Article IX, Section 3 of the 1970 Illinois Constitution mandates that the state use a flat income tax rate.
Before the Illinois Constitution came into existence in 1870, Illinois did not have an income tax. Instead, it only authorized taxes on four categories: property, privileges, franchises and certain occupations. Property tax was the main source for funding the Illinois government until a stock market crash forced the state to search for an alternative way to generate revenue: With the state property levy dismantled, the government approved a progressive income tax in 1932. The Illinois Supreme Court, however, declared that tax system void and unconstitutional.
Without an effective property or income tax, Illinois turned to consumption taxes, taxing commodities such as fuel and liquor and, in 1933, found its most profitable (and largest) source of revenue at the time–the sales tax.
In 1969, then-Republican Gov. Richard Ogilvie recommended a 4 percent flat rate income tax be levied on all individuals and corporations. He also proposed that one-eighth of all revenues collected be distributed to local governments. After much negotiation with legislators, he revised his flat-tax rate plan, lowering the number to 2.5 percent. The proposed corporate income tax rate stayed at 4 percent. This tax, too, was challenged in court and declared unconstitutional. However, this time around, the ruling was overturned, allowing Ogilvie’s flat income tax plan to prevail. This eventually paved the way for a new provision authorizing the state to levy “a tax on or measured by income” at a “non-graduated rate” in the 1970 constitution.1
Since Ogilvie signed the fixed income tax into law in 1969, rates have fluctuated. They rose to 3 percent in 1983, reverted back to 2.5 percent in 1984, and then rose to 3 percent in 1989. The individual rate currently stands at 4.95 percent.
Illinois Income Tax History
1 Illinois Economic and Fiscal Commission, Illinois’ Individual Income Tax (May 2002).
How does Illinois compare to other states?
Tax rates are a common metric used to compare one state's tax burden with another. But because Illinois is one of ten states that taxes income at a flat rate, such comparisons only go so far. Illinois has the highest flat rate in the Midwest, but that rate falls well below, for example, Iowa's nearly 9 percent top bracket.
The map below highlights the different state income tax rates around Illinois:
2017 State Income Tax Rates in and Around Illinois
An alternate, and perhaps clearer, way of comparing how Illinois stacks up against its neighbors is by looking at its per capita (average per person) income tax burden.1
In 2015, the Commission on Government Forecasting and Accountability ranked Illinois 3rd in the nation in terms of the revenue generated through the collection of individual income tax. The total amount of income tax collected by the state of Illinois in 2015 was $15.9 billion. On a per capita basis, CGFA ranked Illinois 11th.
A per capita view of the amount of income tax collected by state governments also demonstrates that individual income tax in Illinois is greater when compared to its neighboring states in the Midwest. Illinois has a per capita rate of $1,237 compared to $1,225 in Wisconsin, $1,111 in Iowa, $963 in Missouri, $920 in Kentucky, $889 in Michigan, and $791 in Indiana.
While a per capita representation of the individual income tax collected by state governments puts Illinois as the frontrunner in the Midwest, it should be noted that in comparison to other states across the U.S, income tax in Illinois is not as high as its representation amongst its Midwestern neighbors might demonstrate.
As CGFA notes, Illinois ranks 11th nationwide in terms of personal state income tax. But Illinois’ per capita rate of $1,237 was well above the national average of $,1052, compared to that of other states—such as Connecticut at $2,279 per capita, Massachusetts at $2,133, and New York at $2,208 per capita—it is relatively low.2
Illinois income tax is also lower than it is in Hawaii with a per capita rate of 1,389, Maryland at 1,390, Virginia at 1,420, New Jersey at 1,479, Oregon at 1,814, Minnesota at $1,889, and California at $1,991 per capita.3
1 Tim Jones & Kiannah Sepeda-Miller, Illinois Tax Reform Sideshow Long on Gimmicks, Short on Solutions, Better Government Association (Feb.21, 2018).
Which tax is better?
Experts frequently disagree about what they consider to be sound and fair tax policy. The most common argument raised is between those who favor a flat income tax rate and those who favor a graduated rates.
Mike Klemens, the president of KDM Consulting, argues for a flat tax rate, referring to it as a “sound tax policy”1 that is adequate (“raises enough revenue to fund government operations”), stable and predictable (so as to avoid “dramatic fluctuations”), fair, so “those with more income pay more tax,” simpler, and more efficient. His solution for those who earn lesser wages comes in the form of “larger personal exemptions for low income taxpayers.”2
On the other end of the spectrum, Ralph Martire, executive director of the Center for Tax and Budget Accountability, argues for a graduated tax rate. His core principles for a sound tax policy include fairness to taxpayers, responsiveness to a modern economy and the ability to generate stable revenue during economic downturns. He rates Illinois “zero-for-three” when it comes to satisfying those core principles. He frequently argues for amending the state constitution to allow a “graduated” income tax rate structure. Citing Adam Smith in the “Wealth of Nations,” he says, that in order to be “fair” in a capitalist economy, taxes should ‘“remedy inequality of riches as much as possible, by relieving the poor and burdening the rich.’”
He also cites a study by the Institute on Taxation and Economic Policy, which says that out of the 41 states that impose an income tax, 33 have graduated tax rate structures and Illinois is “one of only eight that doesn’t,” making it “one of three most unfair, regressive taxing states in the country.” Another shortcoming the study’s authors note about Illinois’ taxing system is that the state imposes “tax burdens on low- and middle-income families which are more than double that of millionaires.”—a concept that Martire says makes “no fiscal sense.”3
NATIONWIDE VIEW OF STATE INCOME TAX SYSTEMS & RATES4
1 Mike Klemens and Ralph Martire, Illinois Issues: Flat Vs. Graduated Income Tax, Illinois Public Radio (Aug. 29, 2017).
4 Reboot Illinois, Flat Income Tax? Progressive Tax? No State Income Tax? A Nationwide Overview, Illinois Infographic (July 23, 2013).
Why were Illinois income taxes increased?
The state of Illinois was in the midst of a historic budget crisis with Republican Gov. Bruce Rauner and Democratic majorities in the Legislature unable to compromise for two years.1 During that time, the state spent well beyond its means because of court orders and laws that required state employees and others continue to be paid. Government officials contracted with vendors whose bills they were unable to pay. By September 2017, the state of Illinois had accumulated $16 billion in unpaid bills.2 That number dropped after the income tax increase was approved and after the state borrowed money to pay off its oldest bills that came with high-interest penalties for being late.
Illinois also has the worst unfunded pension debt nationwide.
1 Matt Egan, How Illinois Became America’s Most Messed-Up State, CNN Money (July 1, 2017).
2 Reuters Staff, Illinois’ Unpaid Bills Backing Hits A Record $16 Billion, Reuters (Sep.19, 2017).
Will increases in the income tax help Illinois' budget crisis?
Democratic Comptroller Susana Mendoza, whose office is in charge of paying off the state’s backlog of bills and is currently facing serious cash flow problems stated: "The general public may think, 'Oh, you have a budget, everything should be perfect,' but it's far from that. This stops the hemorrhaging, but now it's an issue of stabilizing."
According to Mendoza and other experts, while the budget and the concurrent increase in income taxes will provide some relief, it won’t immediately help pay off the money the state owes because the longer a stack of unpaid bills stays in her office, the more interest penalties they accumulate. Bills at the comptroller's office accrue 1 percent in interest penalties each month after the first 90 days they are not paid.
Therefore, while an increase in the income tax rates as part of a budget plan may help ease Illinois’ pain somewhat, it does not do much to remedy its short-term budget problems and long-term pension issues. 1
1 WQAD Digital Team, Illinois’ Strategy for Digging Out of Debt: Taking on More, WQAD NEWS 8 (July 13, 2017).