Sales Tax Holidays = Not Worth Celebrating

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Consumers in 16 states this year will be given the opportunity to participate in a sales tax holiday (most of which will happen this weekend). These so-called holidays are a temporary break on paying sales tax on purchases of clothing, computers and other select items. These holidays are normally heavily promoted, but really they aren’t worth the hype. Sales tax holidays are poorly targeted, costly and represent a lost opportunity to get tax fairness right.

Sales tax holidays are advertised as a way to give people a break from paying the sales tax. On the surface, this sounds good given that sales taxes fall most heavily on low-income families. However, a two- to three- day sales tax holiday for selected items does nothing to provide relief to low- and moderate-income taxpayers during the other 362 days of the year. In the long run, sales tax holidays leave a regressive tax system basically unchanged. For more on why sales tax holidays aren’t all they’re cracked up to be, read ITEP’s brief “Sales Tax Holidays: An Ineffective Alternative to Real Sales Tax Reform.”

New Bill Would Bar Inverted Corporations from Getting Federal Contracts

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It’s bad enough when an American corporation reincorporates as a foreign company to avoid U.S. taxes even as it benefits from research, education, highways, courts and everything else those taxes pay for. But it’s even worse when these companies are allowed to contract with the federal government and profit from business funded by the American taxpayers.

This is the argument behind the No Federal Contracts for Corporate Deserters Act, a bill introduced in the House and Senate on July 29 to bar corporations that invert (reincorporate as foreign companies) from getting federal procurement contracts.

Corporate inversions have been happening for decades, and Congress has enacted laws that are supposed to prevent corporations from dodging taxes by inverting and prevent inverted companies from getting federal contracts. Those rules were never entirely effective, and companies such as Ingersoll-Rand, which reincorporated in Bermuda before those laws were passed, have found numerous ways to get federal contracts through grandfathering and other loopholes and are doing a billion dollars worth of business each year with the federal government.

But the recent wave of announced inversions is a much bigger problem. Corporations have figured out how to circumvent the rules entirely, adding the slightest sheen of legitimacy to the arrangement by obtaining a smaller foreign company and then claiming that the newly merged, restructured company is based in the foreign country.

This is why the medical device maker Medtronic and the pharmaceutical company AbbVie have recently announced plans to acquire Irish companies and reincorporate in Ireland. Similar moves are being considered by Walgreens and (once again) Pfizer.

In May, several lawmakers introduced the Stop Corporate Inversions Act to strengthen the anti-inversion provisions in the tax rules. The No Federal Contracts for Corporate Deserters Act would update the contractor rules the same way. In other words, the two bills are different ways of addressing the current explosion of companies seeking to invert, providing lawmakers separate opportunities to act.

Under the existing rules, a merger with a foreign company can change almost nothing about the American business and yet it can claim to be a new, restructured entity based offshore, with no adverse consequences. The newly merged company can be managed in the U.S. and have significant business in the U.S., and up to 80 percent of its stock can be owned by the shareholders of the original American corporation — and yet it will be considered a brand new company based offshore for tax purposes, not subject to any bar on federal contracting.

Under the two new bills, this would be impossible unless the newly merged company really does become foreign-owned, meaning less than 50 percent of its stock is owned by the shareholders of the American company, and it is actually managed in the foreign country. That would mean an American corporation could no longer simply buy a smaller offshore company and then fill out some paperwork to create the fiction of being foreign.

As more and more corporations announce plans to invert, Congress is under increasing pressure to act to stop them. But key lawmakers, like Senator Orrin Hatch, the ranking Republican on the Senate Finance Committee, have laid out conditions that make it extremely difficult to imagine how progress will be made during this Congress.

Improving the EITC for Childless Workers: A Real Opportunity for Bipartisan Progress

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While experts have noted the many, many problems with Congressman Paul Ryan’s new poverty plan, the same experts have said that it does include a good idea about expanding the Earned Income Tax Credit (EITC) for childless working people.

Ryan, who chairs the House Budget Committee and is expected to chair the Ways and Means Committee in the next Congress, offers a proposal that is nearly identical to one in President Obama’s most recent budget plan. Rep. Ryan and President Obama agree that the EITC for childless workers should be increased roughly from $500 to $1,000 in 2015. They also agree that the age limit for childless people to receive the EITC should be lowered from 25 to 21, so the credit no longer excludes young people struggling at the start of their working lives when they need to gain work experience.

Several studies have found that the EITC boosts work incentives for low-income people with children, but the EITC for childless people is so meager that it may have little impact. Another problem is that childless, poor adults are the only group of people who often owe federal income taxes even if they live below the poverty line.

Although Rep. Ryan and President Obama agree that the EITC should be increased for childless workers, there are some issues to work out. President Obama (reasonably, in our opinion) proposes to pay for the EITC expansion by closing the “John Edwards/Newt Gingrich Loophole” for Subchapter S corporations and also close the “carried interest” loophole that allows buyout-fund managers like Mitt Romney to pay a lower effective tax rate than many middle-income people. (These proposals are all explained in a CTJ report.) Ryan, on the other hand, proposes to offset the costs by cutting spending.

Nonetheless, the fact that the President and a leading congressional Republican agree on how to change part of the tax code seems nearly miraculous in the current environment.

The Details

The EITC is a tax credit equal to a certain percentage of earnings up to a maximum amount and is phased out for people with incomes above a specific threshold.

Under current law, for childless people working in 2015, the credit will be just 7.65 percent of the first $6,570 in earnings, which equals a maximum credit of just $503 in 2015. The credit will be reduced by 7.65 percent of each dollar of income above $8,220 (there’s a higher threshold for married people). When you work out the math, this means that a single childless person receives no credit at all if income exceeds $14,790.

Ryan and Obama both propose to double the credit rate to 15.3 percent, which would double the maximum credit to about $1,005. They would also increase the income threshold at which the credit begins to phase out from $8,220 to 11,500. This means the credit will not be fully phased out for a single person until his or her income exceeds $18,070.

There is one improvement that appears in Obama’s proposal but not in Ryan’s. Obama would also raise the maximum age of eligibility from 64 to 66 to address the fact that people no longer can receive full Social Security retirement benefits at age 65, as was the case when the existing EITC rules were first enacted.

But overall Obama and Ryan are quite in agreement on what changes are needed. Of course, even under the expansion they propose, childless people would only receive the EITC when their incomes are quite low. But this would nonetheless make the EITC more effective in serving a group that it currently leaves behind.

New Report on Wealth Inequality in the Great Recession Highlights Need for Asset-Building Strategies

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Three months after the publication of Thomas Piketty’s “Capital in the Twenty-First Century,” it remains an open question whether Piketty’s tome will be remembered more for its thorough documentation of the growth of global inequality or for the shabby treatment it has received from those seeking to discredit the book’s findings. That’s a shame, both because the book does marshal the best data available on the tricky topic of wealth inequality and because persistent wealth inequality is a problem worth paying attention to.

A new study (PDF) funded by the Russell Sage Foundation reminds us that growing inequality is a well-documented fact of American life. The Sage report provides a fascinating and sobering first look at how the Great Recession reshaped the levels and distribution of wealth between middle-income families and the best-off Americans. (The report also has the merit of clocking in at a mere two pages, slightly less than Piketty’s magnum opus.) The study finds that over the past decade, the net worth of the median American household has fallen, adjusted for inflation, by more than a third—even as the best-off Americans have seen double-digit growth in their real net worth. In particular, the median household saw its net worth decline from just under $88,000 in 2003 to $56,335 in 2013 (meaning that 36 percent of the median group’s real wealth vanished over this decade).  At the same time, the best-off 10 percent of American households have seen their real worth grow by almost 15 percent.

There’s a straightforward reason for this: the assets owned by the richest Americans are very different from those owned by middle-income families. While the wealth holdings of the “1%” and those in their immediate vicinity are dominated by stock and bonds, asset ownership for the vast American middle class means owning a home. And while the stock market has recovered well since the disastrous declines of the Great Recession, housing markets remain depressed relative to where they were ten years ago.

All of which highlights the importance of public policies designed to create wealth among middle- and lower income families that isn’t limited to the value of homes. The Corporation for Enterprise Development’s Assets and Opportunity Scorecard gives an encyclopedic look at the tax, and non-tax, policy strategies available to states in advancing this important goal.Policymakers can take steps to make sure that low-income families are able to save some of their income—and tax reform can play an important role in this effort. When the limited wealth of middle-income families is tied up in homes, that means these homeowners often have no other source of wealth to rely on to get them through hard times. A tax system that taxes poor people further into poverty (as ours does) makes saving more difficult, if not utterly impossible, for fixed-income families. See ITEP’s “State Tax Codes as Poverty-Fighting Tools” for a sensible overview of the ways in which state tax reform can assist, rather than undermining, other asset-building efforts, by reducing the tax load on the very poorest Americans.  

State News Quick Hits: Migration, Film Tax Credits and More

On the same day that the New York City Independent Budget Office released a report showing that wealthy New York City residents who move are overwhelmingly choosing high-tax states to live in journalist David Cay Johnston penned an editorial in the Sacramento Bee again making the point that taxes are far from the major consideration in wealthy households’ location decisions. Examining the supposed economic destruction that never materialized as a result of California’s 2012 sales and income tax hikes, Johnston points out that quality “commonwealth amenities” like schools, law enforcement, and parks, are far better draws than low taxes.

Getting a 43 cent return on every dollar invested would seem like a bad deal to most of us, but that doesn’t seem to be the case when in comes to subsidizing the film industry in New Mexico. A new study finds that the state’s film tax breaks generated just 43 cents in tax revenue for every incentive dollar spent between 2010 and 2014. Read the full study here.

Moderate Republican lawmakers in Missouri are feeling the wrath of conservative donor Rex Sinquefield during this year’s election season. The Missouri Club for Growth, a group funded largely by Sinquefield, has thrown its support (and dollars) behind candidates running against Republican legislators who voted with Democrats this year to uphold Governor Jay Nixon’s veto of an irresponsible income tax cut package. Though the wealthy donor has thus far seen very few victories for his conservative state fiscal agenda, there is evidence that his ideas may slowly gain traction over the years as his money continues to roll in, spelling disaster for anyone concerned with fiscal responsibility and progressive taxation.

Corporate tax avoidance is back in the spotlight in the wake of an Oregon Supreme Court ruling that allows profitable companies to avoid paying the state’s minimum corporate tax.  The minimum tax, which was sensibly expanded from a trivial $10 to a higher, tiered structure due to a vote of the people in 2010, can now be reduced to zero by companies claiming certain tax credits. The problem is that the statutory language of the minimum tax does not explicitly say that tax credits can never be used to offset the minimum tax. This will likely come as unwelcome news to Oregon voters, who presumably thought that when they approved a measure “establishing a flat $150 minimum tax,” they were doing just that. But this case, led by Con-Way Inc., means that the state can anticipate a $40 million hit this year as corporations rush to amend prior years’ returns to take advantage of the loophole. The good news: the court decision is based on a technical glitch in the minimum tax statute, and glitches are easily fixed. Petitioners are now calling on state lawmakers to modify the language of the law to ensure that companies like Con-Way will pay a “minimum tax” that actually exceeds zero. 

Tax Policy and the Race for the Governor’s Mansion: South Carolina Edition

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South Carolina voters should have no problem drawing distinctions this fall when it comes to their gubernatorial candidates’ visions for the state’s tax structures (or lack thereof) in a year when the issue of fairness in state taxation is likely to loom large.

Republican Gov. Nikki Haley continues to tout her income-tax elimination plan on the campaign trail, while challenger Vincent Sheheen, currently a Democratic state senator, is pushing a multifaceted recalibration of numerous state and local taxes to, as he says, restore fairness to the tax system.

The linchpin of Gov. Haley’s campaign is the eventual elimination of the state’s income tax. Her attempt to repeal South Carolina’s tax in order to “bring jobs and investment to the state” has been years in the making. In 2010, then-candidate Haley campaigned on the promise of lowering income taxes. This year, the governor’s proposed budget included eliminating the state’s 6 percent income tax bracket, which applies to income between $11,520 and $14,400 (estimated to cost $27 million for the year), a provision that state lawmakers did not approve. Haley previously signed a bill in mid-2012 reducing the tax rate on “pass-through” business income from 5 percent to 3 percent over three years.

Critics have characterized the governor’s income tax proposal as a fantasy, taking issue with the fact that Haley has given no timetable for implementation and has presented no viable options for replacing lost revenue from the tax, which is currently the source of over half of the state’s general fund revenues. Eliminating the tax outright would be catastrophic for the state’s fiscal picture and even with a pay-for mechanism, repeal would mean the loss of the state’s most progressive revenue source, exacerbating income inequality in the state.

Challenger Vincent Sheheen bookends his comments on tax reform with the word “fairness.” Sheheen’s plan seeks to preserve important revenue sources and targets multiple taxes in an attempt to rebalance the distributional effects of the overall state tax levy. He calls the state’s current tax system “a giant mess littered with special interest loopholes.”

On the topic of the income tax, Sheheen proposes to adjust the brackets (presumably by revising the thresholds upward) to create a structure appropriate for the 21st century and to reinstate a measure of balance. Sheheen would also enact a refundable Earned Income Tax Credit to reward low-income working families. The state currently lacks such a credit, a mechanism ITEP has frequently endorsed as one of the most effective ways to combat regressivity in the tax code and pull low-income families out of poverty.

Sheheen’s income tax plan is likely to come with its own significant costs, some of which may be offset via his proposal to eliminate loopholes for special interests and corporate tax breaks – revenue losers that both complicate the tax code and reduce the fairness of the overall tax system. Another reform proposed by the candidate is the broadening of the sales tax base, using revenue gains from such a move to reduce the overall state sales tax rate, currently at 6 percent. South Carolina is one of several states that currently fail to tax many services, creating unfair advantages for sellers and purchasers of goods and leading to a narrowing of the tax base over time. Sheheen’s plan would also eliminate local property taxes that go toward funding schools and institute a uniform statewide property tax in their place, which he says would allow for a lower rate, incorporate the entire state property tax base, and allow property values to be calculated in a uniform and fair way. In particular, the candidate is proposing to lower the industrial property tax rate, which he says currently disadvantages South Carolina manufacturers who pay the highest rates in the country.

The outcome of this fall’s election may determine whether South Carolina goes the way of states like Kansas and North Carolina, whose governors have placed all of their proverbial eggs in the basket of supply-side economics by implementing heavy income tax cuts and who continue to see their fiscal and economic health falter as a result.

Yes, the Treasury Department Can Help Achieve Tax Reform, but Congressional Action Would be Far Better

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In a Tax Notes article published Monday, Harvard Law School professor Stephen E. Shay bemoans the recent wave of corporate inversions and suggests that if Congress does not take legislative action, the Obama Administration could take regulatory action to prevent them.

No longer an arcane term, a corporate inversion is when a U.S. company merges with a foreign company and, for tax purposes, subsequently restructures to claim the address of the foreign company as its headquarters even while maintaining operations in the United States. This practice has made headlines lately in part because inversions are another way for companies to avoid U.S. taxes and in part because of the volume of large companies who have announced plans to do so.

Shay, a former tax lawyer for the Obama Administration, made headlines because he said the Treasury Department could stop inversions by using its regulatory powers rather than waiting for Congress to enact changes in the tax laws. Specifically, Shay argued that Treasury could prevent inverted companies from taking interest deductions against their U.S. profits, and could also make it harder for inverted companies to bring their offshore cash back to the United States tax-free.

It probably doesn’t matter much whether Shay is technically correct. His assertion is contrary to Treasury Secretary Jacob Lew’s recent assessment that the Obama Administration simply doesn’t have the authority to prevent inversions through regulatory action. And, of course, in the face of House Speaker John Boehner’s recent effort to bring suit against the Obama administration for allegedly “encroach[ing] on Congress’s power to write the laws,” any effort by the Treasury Department to end inversions by administrative fiat likely would create a firestorm of criticism.

Critically needed revenue is at stake. Executive action on inversions would be welcome but is no substitute for legislative action.

In any case, if neither the Obama administration nor its congressional foes think highly of an administrative approach to ending inversions, Shay’s recommendations are unlikely to see the light of day anytime soon.

To be clear, federal regulations are a vital component to every tax reform effort.  Every day in Washington and the states, tax administrators must find ways to implement tax laws enacted by lawmakers. These laws are often poorly specified or even internally contradictory, and it’s up to the Treasury Department and their state equivalents to write regulations that translate these laws into a properly functioning tax system.

In fact, just in the past week we’ve identified two other areas in which clearer and better-enforced regulations could help to achieve corporate tax reform: requiring more complete disclosure of corporations’ foreign subsidiaries , and requiring companies with offshore profits to admit whether those profits are being held in foreign tax havens. These are important steps, and it’s entirely within the authority of federal regulators to make these changes.

But whenever the proper scope of this federal regulatory power is murky, the best approach is for Congress to clarify the laws rather than having tax administrators attempt to interpret the laws.

Shay’s ideas should be taken seriously. If the current regulations governing corporate inversions are too poorly specified to do the job they are supposed to do, the Treasury Department should rewrite them. But administrative or executive action is not the only answer. Congress could eliminate any uncertainty about whether Shay’s specific recommendations are within Treasury’s powers by taking immediate legislative action. And as we’ve noted, President Obama has laid out a very straightforward set of reforms that could halt inversions. 

Nike’s Disappearing Tax-Haven Subsidiaries: Lost at the Beach?

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It’s far more common to see bare feet than sneakers on the streets and beaches of Bermuda, but major athletic footwear manufacturer Nike reports having six subsidiary companies on this island nation with population of about 65,000 people.

That’s six less than the dozen it reported last year, but it’s still a lot. If it sounds a bit fishy, it’s because it is.

As CTJ documented in a June report, the vast majority of Fortune 500 companies (72 percent in 2013) disclose having subsidiaries in tax havens—countries that levy little or no tax on at least some corporate profits.  

Nike is one of the more entertaining examples of this. CTJ noted last year that Nike admitted having a dozen subsidiaries in Bermuda—and had named almost all of them after specific brands of Nike shoes. One plausible explanation for this naming convention is the company has shifted ownership of intangible property (patents, etc.) related to these shoes into the Bermuda subsidiaries. We can’t know this, of course, but the obvious question to ask is this: if you’re a sneaker manufacturer with a dozen subsidiaries located in a tiny country where the most popular footwear is flip-flops, what legitimate economic rationale can there be for this?

CTJ’s analysis of Nike’s Bermuda subsidiaries drew a little attention last year, so we were eager to see whether Nike’s newest annual report would continue disclosing these subsidiaries, especially since some of the biggest offshore tax avoiders have discreetly scaled back their disclosure of tax haven subsidiaries in recent years. Unfortunately, a loose accounting rule allows companies to get away with only disclosing subsidiaries that are “significant.” So it was no big surprise that when Nike released its 2014 financial report late last Friday, fully half of the Bermuda subsidiaries they company reported owning last year had disappeared from their subsidiary list.

So what happened to the missing Nike subsidiaries? It’s possible that they were sold. But it’s also possible that the company simply hopes it can get away with not disclosing this potentially-embarrassing information going forward.

One thing is clear: whatever else may have changed in the past year, Nike definitely still has substantial foreign cash stashed in low-tax havens. We know this because Nike is one of the relatively-few Fortune 500 companies that disclose how much tax it would pay on repatriation of its permanently reinvested earnings (PRE). The company estimates that if it repatriated its offshore cash, it would have a $2.1 billion tax bill on their $6.6 billion in PRE. This is a 32 percent tax rate, the implication of which is that they’ve paid about 3% on their offshore profits so far. And it’s hard to find a foreign tax rate that low outside of, say, Bermuda.

The waters of international corporate tax avoidance are murky. It’s usually impossible for the layperson to have any idea what sort of tax dodges big multinationals engage in, especially since they cannot convene a special congressional investigation. Data on foreign subsidiaries are one of the few easily available indicators of likely tax avoidance. We should have more access to this data, not less.

Stop the Bleeding from Inversions before the Corporate Tax Dies

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If you were listening to last week’s Senate Finance Committee hearing on corporate inversions, you might have thought you’d accidentally stumbled into a HELP (Health, Education, Labor & Pensions) Committee hearing on some strange new epidemic. Finance Chairman Ron Wyden (D-OR) and several witnesses used medical analogies to talk about the wave of corporate mergers that are allowing U.S. companies to invert into foreign-based companies and avoid U.S. taxes.

In his opening remarks Sen. Wyden noted that inversion virus, multiplying every few days, is the latest outbreak of a tax code infected with the chronic diseases of loopholes and inefficiencies.

But witness Allan Sloan, senior editor at Fortune Magazine and author of the recent Fortune cover story on inversions, put it best—comparing the inversions to an emergency-room patient who is bleeding out. First you put on a tourniquet, stabilize the patient, and then deal with the underlying problem.

No doubt about it, the patient—the U.S. corporate tax code—is losing massive amounts of blood through corporate inversions. If we don’t deal with it soon there will be nothing left for Congress to fix when it finally gets around to tax reform. The corporate tax base will have been mostly eviscerated.

President Obama, in a Los Angeles appearance on Thursday and in his Saturday weekly address, also called on Congress to close the loophole now. Jack Lew, Secretary of the Treasury, followed with an op-ed in today’s Washington Post.

The recent wave of inversions is being driven by Wall Street: advisers are telling their corporate clients they’ve got to do this now. The iconic American drugstore Walgreens is considering an inversion in its merger with Alliance Boots, moving the corner of happy and healthy to somewhere in the Swiss Alps. Investment firms, hedge fund managers, and private equity investors are pressuring the company to do the inversion.

We’ve got an emergency here: it’s a Wall Street mania. The Wall Street that gave us massive indigestion with the dot-com bubble and a financial meltdown with toxic sub-prime mortgages that left us with an anemic economy is the same Wall Street that is puncturing what’s left of the U.S. corporate tax base.

Congress needs to stand up to Wall Street and the multinationals and stop the bleeding before it’s too late.

New Study Shows Rich New Yorkers Not Fleeing High Taxes

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It is an article of faith among anti-tax activists that cutting taxes makes states more competitive. Texas Gov. Rick Perry and Florida Gov. Rick Scott frequently invoke the gospel of low taxes when they poach jobs in blue states – never mind the fact that some of these states are doing just as well or better on economic indicators like unemployment and economic growth. The media is full of anecdotes of the uber-wealthy – from French actor Gerard Depardieu to pro-golfer Phil Mickelson – fleeing high taxes for greener, cheaper pastures. The only problem is that anecdotes are not the same as empirical evidence.

A new study released by the New York City Independent Budget Office confirms what countless other studies already have: the wealthy aren’t ditching Manhattan for Manhattan, Kansas. Of households that left the city in 2012, 42 percent of households earning over $500,000 annually moved to other locations in New York State; second place was New Jersey (22 percent), which has had a “millionaire’s tax” since 2004. Third place is Connecticut (12 percent), hardly a tax haven. California took fourth place, with 9 percent. In total, 86 percent of wealthy households moving from NYC went to these “high-tax” states, almost double the proportion of non-wealthy households moving to the same places.

Again, this is nothing new. In 2012, ITEP issued a report finding that states with high income tax rates outperformed states with no income tax over the past decade. A 2011 study on the effect of New Jersey’s millionaire tax found that there was no difference in migration patterns between high-earners impacted by the tax (those who made over $500,000) and high-earners who weren’t (those in the $200,000 to $500,000 range). And a report from the Center on Budget and Policy Priorities notes that interstate moves are rare, for rich and poor alike; between 2001 and 2010, only 1.7 percent of U.S. residents per year moved from one state to another, and many of these moves were between states in the same metropolitan region. The evidence indicates that people – and companies, for that matter – take into account a variety of non-tax factors when making location decisions.

Of course, the reason that this pernicious myth persists is that it’s effective in spooking state lawmakers and officials – who are loath to risk job and revenue losses. The threat of losses is enough to convince politicians to slash tax rates for the wealthy and give generous breaks to companies. New Jersey has given out $4 billion in tax subsidies to businesses under Gov. Chris Christie (R), far more than the $1.2 billion given out in the decade preceding his time as governor. Prudential Insurance was given $250.8 million to move its headquarters a few blocks down the street. On average, the state pays $47,916 for each promised job.

State officials would do better to make the public investments – in infrastructure, education, and workforce training – that make them attractive locations for residents and businesses alike, rather than fretting about the location decisions of the rich and corporations.