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Only in the Midwest: South Dakota lone state in region — and one of only six in U.S. — not to impose an income tax

by Mike McCabe ~ November 2011 ~ Stateline Midwest

Nationwide, state taxes on individual income generate about one-third of total tax revenues (33.5 percent in fiscal year 2010). Just ahead of general sales taxes, which produce 31.9 percent of total revenues, personal income taxes are, in the aggregate, the leading source of state revenues across the country.
The picture is similar here in the Midwest, where income taxes account for the lion’s share of total state revenues in seven of the region’s 11 states. And in three of the remaining four, levies on individual income produce significant shares of total tax dollars.
Not so, however, in South Dakota, which, alone among Midwestern states, imposes no tax on personal income.
Like six other states across the country (Alaska, Florida, Nevada, Texas, Washington and Wyoming), South Dakota relies much more heavily on other revenue streams in lieu of income taxes. It also enjoys a national reputation as a low-tax state, with combined state and local levies consuming just 7.6 percent of total state income (a regional low and third-lowest total in the nation).
But it wasn’t always so. South Dakota, like most other states, adopted a statewide tax on personal income early in the last century — only to abandon it during World War II, when sales tax revenues soared nationwide.
A measure approved by the Legislature in 1943 repealed the income tax, retroactive to the end of 1942.
Subsequent efforts to reinstate the levy failed, most notably in the early 1970s, when, according to Jim Fry, director of South Dakota’s Legislative Research Council, a measure supported by former Gov. Richard Kneip was approved by the House of Representatives. The proposal was eventually defeated, however, when Lt. Gov. William Dougherty cast a decisive vote against the bill in the evenly divided Senate.
The cards were later stacked against any similar efforts by a pair of constitutional amendments adopted in 1978 and 1996. Together, these provisions prohibit both the imposition of any new taxes and the increase of any existing tax rates except by means of a voter initiative or by a two-thirds vote of all members in each house of the legislature.
As a result, South Dakota continues to rely more heavily on sales tax revenue than does any other Midwestern state. Elsewhere around the region (based on 2010 data), general sales tax levies generate between 22.8 percent (North Dakota) and 43.1 percent (Indiana) of total state taxes, but in South Dakota, the figure is 56.9 percent. When selective excise taxes are factored in, South Dakota’s reliance on taxes derived from sales climbs to 82.3 percent of total tax revenue, second only to Florida among all U.S. states.
The state also continues to benefit from a substantial additional revenue stream in the form of video lottery revenues of more than $100 million per year, all of which is earmarked for the support of education.
South Dakota’s sales tax rate is currently 4 percent, though it would be raised to 5 percent if a proposed initiative makes it to the ballot in 2012 and is approved by voters.
The state’s current tax structure is distinctive for other reasons as well.
With the exception of a limited levy on financial institutions, South Dakota imposes no corporate income tax either. The state also refrains from taxing personal property, business inventories and (since 2001) inheritances.

 

Article written by Mike McCabe, director of the CSG Midwest Office. The Only in the Midwest series highlights unique features of state governments in the Midwest. Past articles have highlighted the following: