Under the infamous 18th century colonial system, imperial authorities routinely restricted their colonies to the production or extraction of raw materials (such as cotton or minerals) while reserving for their home industries the exclusive right to transform the raw materials into manufactured goods. This system retarded the growth of colonial industries and was arguably one proximate cause of the American Revolution. Although formal colonialism no longer exists on a large scale, its economic legacy endures and continues to influence development and politics around the globe. For an example of neocolonial political economics close to home, we need look no further than South Jersey under the 1977 New Jersey-Pennsylvania Reciprocal Tax Agreement.
The Reciprocal Agreement reverses standard interstate tax law to allow New Jerseyans who work in Pennsylvania to pay New Jersey tax, and vice versa. As I’ve written, two distinct groups of taxpayers benefit: residents of South Jersey who commute to low- and middle-income jobs in Pennsylvania (primarily Philadelphia) and Pennsylvanians who commute to high-paying jobs in New Jersey. The former benefit because New Jersey’s effective tax rate after credits on incomes up to about $60,000 is substantially lower than Pennsylvania’s 3.07 percent flat rate; the latter benefit because Pennsylvania’s flat rate is much lower than New Jersey’s progressive tax rates on higher incomes.
Tapped at both ends
Even though New Jersey loses $180 million or more per year under this deal, South Jersey’s politicians are extremely protective of the Reciprocal Agreement and are now advancing legislation that would remove the governor’s unilateral authority to rescind it.
Meanwhile, the absence of a similar reciprocal agreement with New York costs New Jersey’s taxpayers another $2 billion or so in credits to offset taxes New Jersey commuters pay to New York State. How that works and what it means is fodder for other columns, but New Jersey remains, as Benjamin Franklin once observed, a “keg tapped at both ends.”
It’s easy to understand South Jersey politicians’ reflexive support for the Reciprocal Agreement: If it did not exist, thousands of South Jersey commuters would pay more income tax, albeit to Pennsylvania, not New Jersey. And South Jersey commuters are South Jersey voters.
Yet there is more to this story.
To appreciate what’s really going on, consider the furious lobbying that followed former Gov. Chris Christie’s announcement in 2016 that he was preparing to take New Jersey out of the Reciprocal Agreement. Major employers bombarded the governor’s office with threats to pull jobs out of South Jersey. They mobilized their New Jersey resident employees to write thousands of letters to elected officials and pressured statewide business organizations into supporting their position. Claiming that he had achieved his larger bargaining aims, Gov. Christie ultimately relented.
Take away the smoke and it becomes obvious that the campaign to protect the Reciprocal Agreement was no altruistic crusade on behalf of beleaguered employees. In fact, many of the business leaders who made the most noise are Pennsylvania residents who were horrified that they might have to pay New Jersey tax on their relatively high incomes. Moreover, many of the large businesses who led the charge are leading recipients of New Jersey’s exceptionally generous corporate tax incentives for development and job creation. In other words, highly compensated Pennsylvania-resident business leaders used New Jersey-resident employees as political pawns to demand two layers of special treatment: rich corporate tax incentives that all but eliminate corporate tax liability and a special low personal income tax rate for themselves. Who pays? You guessed it: the great majority of New Jersey taxpayers who don’t qualify for special treatment.
OK, but how is this an example of neocolonial political economics? Just as the colonial powers restricted the development of value-adding industry in their colonies, the Reciprocal Agreement perpetuates a one-sided economic relationship between South Jersey and Pennsylvania.
Here’s how. As noted, New Jersey gives businesses rich corporate tax benefits to locate jobs in New Jersey. Access to corporate tax benefits is tied to the location of the incentivized job, not the residency of the jobholder. Under the Reciprocal Agreement, low- and moderate-income New Jersey residents who hold the incentivized jobs pay New Jersey’s low effective personal income tax rate. Now consider the situation of their higher-paid colleagues who are also New Jersey residents. Under the Reciprocal Agreement, any New Jersey resident who secures a job in New Jersey – incentivized or not – that pays more than about $60,000 will pay substantially lower tax simply by moving across the Delaware. The net result is that the current system provides an expensive incentive for businesses to locate lower-paid jobs in New Jersey (akin to raw materials in the old colonial system) even as it provides an incentive for their highly paid executives (akin to value-adding activities) to leave or stay out of New Jersey. I would argue strongly that the absence of highly paid resident executives has, over time, almost certainly weakened South Jersey’s property-tax base, sales, and other excise tax receipts, and community-oriented philanthropy.
The taxation of Philadelphia jobs under the Reciprocal Agreement adds fuel to this smoldering fire. Because Pennsylvania’s state income tax does not offer credit for the Philadelphia wage tax, but New Jersey’s income tax does, low- and moderate-income New Jersey residents who work in Philadelphia often pay a lower effective rate than their fellow employees who live in Pennsylvania outside Philadelphia. This creates two distortions. First, the vast majority of New Jersey taxpayers is helping to fund a credit that holds relatively few New Jerseyans harmless from a tax imposed by the City of Philadelphia. In effect, New Jersey taxpayers are providing a subsidy to Philadelphia, which in turn uses the money to provide public services that help attract and retain high-paying jobs in Philadelphia. Second, this arrangement provides a modest incentive for low- and moderate-income Philly wage earners to live in New Jersey. Unfortunately, after accounting for any incentives and the cost of public services they consume, New Jersey does not realize a huge revenue “profit” from taxing these residents. Under New Jersey’s highly progressive income tax, the real profit comes from taxing higher incomes.
In sum, the Reciprocal Agreement helps to perpetuate South Jersey’s subservient economic position vis-à-vis Pennsylvania by inviting large corporations to treat Camden and other South Jersey communities as economic colonies from which they can readily extract rich, taxpayer-funded subsidies and low-cost labor. Just like their British predecessors in the 1770s, today’s imperial authorities demonstrate no interest in actually living in the colonies or paying the taxes that support the public services the colonies need to develop robust and independent economies of their own.
The frustrating truth is that the Reciprocal Agreement has long been a bad deal for South Jersey’s struggling communities as well as New Jersey taxpayers generally. Instead of pursuing legislation that would both enshrine a bad deal and curb the governor’s leverage and flexibility, our South Jersey leaders should consider legislation that would dedicate the additional revenue realized from rescinding the Reciprocal Agreement to a new tax credit that would offset South Jersey commuters increased tax payments to Pennsylvania. Better yet, the Legislature should advance laws that rescind the Reciprocal Agreement in six months pending the negotiation of a new tri-state agreement with both Pennsylvania and New York that would eliminate commuter tax distortions throughout the region and finally treat New Jersey’s taxpayers fairly.