The tax code is the number one way that a state can dictate the direction of its economy. While states around us have made decisions that promoted growth, Kentucky’s tax structure has remained an economic burden. The result for our Commonwealth is decades of anemic growth, restricting our production, limiting employment opportunities, and reducing household incomes. A pro-growth tax code will not fix these problems overnight, but it is a critical component on our pathway to a more prosperous state.

We at Pegasus Institute have developed two separate strategies. The first is built on three simple flat rates, which we call the 3-3-6 plan. This puts a flat rate on the income tax, corporate tax, and broadens the sales tax base, transitioning our economy. It is long past time to end the progressive income tax, an antiquated vestige of the past that sends all of the wrong signals. This plan puts nearly $1,000 a year back into the pockets of Kentucky families, and leaves more money with businesses of all sizes, allowing them to decide how to spend their money, while keeping our general fund revenue stable.

The second plan looks at what would be required to eliminate the income tax, which should eventually be the goal for Kentucky. Doing so is financially possible, but will require a significant broadening of the sales and service tax bases. Legislators should give both options very serious consideration.

Key Figures

• Since 1977, Kentucky is a whopping 30% below national average in GSP growth, or 44th in the United States.

• In that same period, Tennessee is 21st in GSP growth.

• The last ten years have looked no better. Per-capita GDP growth between 2006 and 2016 was 2.58% in Tennessee, and 4.7% in Indiana, but only 0.3% in Kentucky.

• Per Capita GDP growth equates to $1,090 per person in Tennessee, $2,038 in Indiana, and only $129 in Kentucky.

• Household income in Kentucky is stagnant, more than 18% below national average, ranking it 45th in the United States.

• In May 2017, Kentucky’s labor force participation rate was only 60%, ranking it 43rd in the US.

Policy Recommendations

The purpose of the this primer is not to lobby for the removal of any specific loophole. It is instead to demonstrate the available pathway to a truly pro-growth tax structure. Both of these plans are not only considerable improvements on Kentucky’s existing outdated tax structure, but would make Kentucky one of the most competitive tax climates in the United States. This coupled with recent right-to-work legislation and reductions in regulation can provide a shot of adrenaline for Kentucky’s stagnant economy. One can say with confidence that the adoption of either of these plans would be the most significant change to Kentucky’s economy since 1936.

• We recommend that legislators eliminate the progressive income tax immediately, which sends the wrong signals to our beleaguered marketplace. At minimum, Kentucky should move to a flat income tax rate of 3%.

• Legislators should give serious consideration to removing the income tax. If existing fiscal challenges inhibit the state from completely removing the income tax at this time, it should aim to do so within the decade, allowing the 3-3-6 plan to serve as a bold transition in our tax climate.

• Consumption taxes, rather than production taxes, should make up the majority of our tax base. At present, corporate and income taxes make up 46% of general revenue funds, while sales taxes make up only 33%. This is an undue burden on businesses, preventing entrepreneurship, driving down wages, and limiting opportunities. Kentucky must build a system that place more money in the pockets of individuals and businesses, allowing them, rather than government drive our state’s future.

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