Special interest groups looking for public policy favors don’t necessarily have to go through the budget process to get taxpayer cash. There are other ways to get money, which spare them the trouble of having to argue with other spending interests over scarce resources. One often-used method is to create a new tax credit program.

A tax credit defrays a person’s or company’s tax obligations. Get one dollar in tax credits and you pay one dollar less in taxes.

While tax credits can be used to advance important policy goals, they also can be bent to serve special interests. Let’s say, for instance, furniture sellers want to sell more recliners. They could lobby the state government to buy more chairs for state bureaucrats. If government managers need more places for people to sit, then it’s appropriate that they have a fair and open purchasing process. This will get the public the best deal and limit the ability of corrupt politicians to rig contracts on behalf of favored businesses. But furniture sellers could also lobby for a tax credit on recliner purchases.

This is bad tax policy because taxes should generate revenue for the state government with as little negative effect on people’s behavior as possible, and this tax credit would lower state revenue and favor one particular activity. Recliner tax credits would twist tax policy to serve the ends of furniture sellers.

There will be constant demand from private people to bend government to serve their interests. As James Madison wrote in Federalist 10: “As long as the connection subsists between his reason and his self-love, his opinions and his passions will have a reciprocal influence on each other[.]” People will confuse their own benefits with the common good, and they will try to secure favors from government to press their advantage. Furniture sellers may want tax credits to sell more recliners.

While state government should serve the public, and tax policy should generate revenue, lawmakers often get confused about what they should do when chair sellers want tax credits. Sellers may be important constituents. Maybe there’s a chair manufacturer in their district. Maybe people just really want deals on comfy chairs. For whatever reason, lawmakers’ sense about the popularity of the issue and who benefits from it matters to whether the idea is politically acceptable.

One thing standing in the way of tax credits is that they lower tax revenue, and other spending interests may oppose that. But lobbyists have a way to dodge that objection. Tax credits are often refundable — that is, taxpayers can get cash back from the government when they claim the credit. Another option is to make credits nonrefundable but transferrable. That is, taxpayers that are awarded credits can sell them to other taxpayers to use. They do this at a discount. Buyers get a tax credit, and sellers get cash that they otherwise wouldn’t have. But the sale makes it appear that the people who claim credits don’t receive payments from the government, and therefore that it doesn’t cost as much to the state government.

This is also bad policy. The state’s cost remains the same, but the intended beneficiary gets something less valuable. It complicates the issue and tax credit lobbyists sometimes find that confusion helps them get the necessary support from lawmakers.

In general, lawmakers should abide by the basic principles of government: Public policy should support the public. They need to reject attempts to bend public policy to private interests. That includes the sophisticated attempts to conceal favoritism in tax credits.

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