What's a senior citizen's worth? As it turns out, quite a bit. In econo-speak, a senior citizen with retirement income has a multiplier in the economy of 3.1, says Farrokh Hormozi, a professor of economics at Pace University in New York City. (For comparison, the average consumer has a multiplier of 1.7 to 1.8.) That means senior citizens are spending more than other consumers at restaurants, in stores and on services. In addition, senior citizens don't generally require many government services. After all, they don't have small children who need to be educated and they don't tend to commit very many crimes.
Historically, the economic benefit of a financially independent senior citizen has not gone unnoticed by governors and state legislatures. Over the course of the past three decades and continuing today, states have "recruited" retirees to their state or provided incentives to keep them in place. Twelve states, for example, offer a modest tax exemption for pension income, according to Karen Smith Conway and Jonathan Rork, economists at the University of New Hampshire. They also found that three states exempt income of $70,000 or more and five exempt all pension income from tax.
But now the calculus has changed. "Some states are starting to realize that what looked like an attractive little tax break," Conway says, "will be a huge tax loss as the population ages."
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In a recent report by Kentucky's Blue Ribbon Commission on Tax Reform, for instance, researchers found that the state could bring in $485 million a year by reducing exemptions on pension income. Michigan was alarmed enough at its revenue losses from pension exemptions that it rolled back some of them. And Georgia, which has been particularly generous to seniors, opted to freeze increases in exemptions that were set to take effect. While this is clearly a growing issue, it's also a "third rail" issue, according to John Allan James, executive director of Pace University's Global Government Center. "If you start adding anything to the list of taxable items for the elderly, the AARP would be down on you like a blanket."
Third rail or not, Conway and Rork, have sifted through academic, demographic and empirical evidence to figure out whether the pension tax break is an effective recruitment tool and whether it has produced the results governors and legislators anticipated it would.
In an interview with Conway last week, I asked her about her findings. Here's an edited transcript of our conversation.
Our research has found that the tax exemption is not effective as a recruiting [tool]. People are not responsive to these policies. It's politically palatable as a tax cut -- the elderly are a politically active group, so there's nice political cover -- but my co-author and I have found that interstate migration is rare, less than 1 percent moves across state lines a year. If you look at where people are moving and what the tax policies are in those places, it can look like policies are causing the move. New York to Florida is the top flow. Florida has no income tax and lower tax burdens. But it also has warm weather and a coast line. My co-author and I have tried to look at whether people are responding to the tax policies -- that is, if the policy changes, does it lead to a change in movement? When we do that, we don't find much movement. A study by Cristobal Young and Charles Varner looked at the millionaire tax in New Jersey [which raised its income tax rate on top earners to one of the highest tax rates in the country]. Did it drive people from New Jersey? The authors found the response was fairly modest.
Academic research doesn't support tax exemptions' effectiveness in recruiting. It's become more widely known that there's not empirical support for it, so it will be interesting to see if states continue to use it as a justification [for tax breaks]. When Maine increased its pension exemption last year, Gov. [Paul] LePage said, in effect, that "we keep people in Maine by doing this." Last year, fewer than 1 percent of seniors moved from state to state after age 65 for any reason. Very few appear to do so to reduce their taxes.
Does the tax exemption pay for itself?
We've found no evidence that it does, even if people do respond to the tax break. There's a new, unpublished paper that looks at Switzerland. There have been a lot of changes in estate taxes. The study, [a not-yet published paper by Marius Brulhart of the University of Lausanne], finds that all the way to 2009 a favorable change in the estate tax caused a few people to move but it didn't pay for lost revenue.
What other factors account for the recruitment phenomenon?
Part of why the elderly have appeared to be an attractive group is the nature of the way support for them is funded. The federal government takes care of the lion's share of their needs with Social Security and Medicare. If states had to pay Social Security and Medicare, there might be a gate at the border [and] they might be carding people over 65. But seriously, states have tried to recruit higher-income elderly who won't burden their Medicaid programs.