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O'Malley's proposal to raise taxes on "high earners" draws protests in Annapolis and beyond

State Income TaxFederal Income TaxPersonal IncomeExecutive BranchBudgets and Budgeting

Frank and Joanne McShalley don't think of themselves as rich. He works for an insurance company. She's an office manager. They've got two kids in Baltimore County Catholic schools.

The family isn't hurting, but with the costs of running a household — their boy needs braces, their girl is a year from college — they don't have money for extras. They've noticed Maryland's higher tolls and fees the past few years.

Now Gov. Martin O'Malley wants them to pay more in income taxes. Since the McShalleys together earn more than $100,000, they fall among the top 20 percent of Maryland taxpayers — a group the governor calls the state's "high earners." The McShalleys are not happy.

"The middle class is getting soaked," said Frank McShalley, 48, a Republican from Parkville. "We're getting nailed here. We are the ones that are going to be affected by this."

If there is one part of O'Malley's plan to balance the state budget that is causing the most ire in Annapolis, this is it. The Maryland Association of Realtors railed against it during its annual lobby day. Republicans actually yelled about the unfairness during a news conference in the State House. Even leading Democrats are breaking ranks.

Senate President Thomas V. Mike Miller and House Speaker Michael E. Busch have both suggested that their chambers will want to make changes to O'Malley's proposal.

"Two people with a combined salary around $100,000 should not be considered wealthy," Miller said.

But General Assembly leaders also point out that the state has to take steps to close a $1 billion budget gap. While they may adjust income levels and other details, they say, the state may have to raise income taxes to pay its bills.

"We are going through all the options we see out there," Busch said. "What is the fairest and most palatable way to go about it? At the end of the day you have to have a balanced budget."

O'Malley, a Democrat, also spoke of fairness when he explained his decision to seek the increase.

"I don't like doing this. I don't like asking for this," O'Malley said. "This is by no means a lack of respect for those we are asking more of. This is the fairest way to go about this."

The governor took care in his proposal not to touch the Maryland income tax rate — which is used as a metric when states are compared with one another. Maryland's rate would remain at 4.75 percent to 5.5 percent for most earners.

Instead, O'Malley suggested changes in exemptions and deductions, the mechanisms that shield earnings from taxes. Under the proposal, 428,000 Marylanders would pay more.

As with federal taxes, Marylanders can deduct costs like their mortgage interest, charitable contributions and property taxes from their income, so they are taxed on less money than they actually take home. The McShalleys, for example, have about $20,000 in deductions.

Under O'Malley's plan, individuals or families making more than $100,000 could take only 90 percent of their deductions — or $18,000 for the McShalleys. Those who earn more — $200,000 and above — could use 80 percent of their deductions.

The change would put an extra $120 million in the state's coffers. It would cost the McShalleys about $150 a year. "We do everything we can do to make ends meet," said Frank McShalley. "If you start adding in all of this other stuff, it starts adding up. It really depresses me."

Ten states, including Pennsylvania and West Virginia, don't allow state taxpayers to take any itemized deductions, according to the Institute on Taxation and Economic Policy, a nonpartisan think tank. The most recent to change its policy is Rhode Island, which eliminated deductions in 2010, according to the institute.

The second part of O'Malley's proposal is to phase out exemptions — reductions in taxes for each family member — for joint filers bringing in $150,000 or more. Marylanders in that category currently can reduce their taxable income by $2,400 per person. Under O'Malley's plan, that figure would be cut in half.

In higher brackets — $125,000 for single filers or $175,000 for couples — exemptions would go away entirely. That part of the plan would generate an extra $63.2 million for Maryland's state government.

A family of four with income of $175,000 would pay the state an additional $268 under the proposed change in exemptions.

The changes are complex. Perhaps intentionally so, some suggest. State Sen. Jamie Raskin, a Montgomery County Democrat, observed, "There's a general principle in tax policy that the more complicated the change, the more diffuse the opposition."

One reason that the income tax proposal is raising hackles among Democrats in Annapolis — whose votes would be needed to pass the measure — is how deeply it reaches into the tax brackets. Most lawmakers don't see a family making $100,000 as well-off.

Several have pointed out that President Barack Obama, in his State of the Union address, drew a very different line. "If you make under $250,000 a year … your taxes shouldn't go up," Obama said Tuesday. "You're the ones struggling with rising costs and stagnant wages. You're the ones who need relief."

Other governors, mostly Democrats, around the country who are seeking to raise taxes also are aiming at higher incomes, said Mike Leachman of the Washington-based Center on Budget and Policy Priorities.

California's Jerry Brown, he pointed out, is proposing a temporary increase on the incomes of households earning more than $250,000. New York, led by Gov. Andrew Cuomo, like Brown a Democrat, has adopted a "millionaire's bracket."

In Maryland, Republicans are raging about O'Malley's proposal. At a news conference called by GOP lawmakers last week, Del. Kathy Szeliga of Baltimore County declared that Annapolis is run by "taxaholics." Del. Kathy Afzali of Frederick called the governor's proposal "math chicanery" — saying it is a "sneaky" attempt to make the income tax rate appear low while still increasing taxes.

Another voice of opposition to O'Malley's approach comes from the state's Realtors. More than 50 percent of itemized deductions come from mortgage interest, a deduction that "is part of the value of owning a home," said Mary Antoun, CEO of the Maryland Association of Realtors.

"Housing is the sector that needs to recover," Antoun said. "We are very, very fragile. It is a sucker punch to the industry at exactly a time when we don't need it."

In the past five years Maryland lawmakers have twice raised the income tax on some Marylanders to fill gaps. During the 2007 special session, they increased the rate for those making over $150,000 and reduced exemptions for joint filers making more than $175,000. The following year they added a millionaire's tax that expired in 2010.

Not all Marylanders in the top 20 percent mind paying more. Andrew Mullin, an olive oil importer, said that he's traveled extensively and would hate to see Maryland decline because the state can't fund critical programs.

Sitting in the lunch area at an Annapolis Whole Foods, which sells his olive oils, he said that with his income of around $175,000, additional state taxes of about $400 would equate to four nights out at restaurants— a cutback he'd be happy to make.

"This is not a lot of money," Mullin said. "This is possibly one of the best places to live in the world."

The view is also held by state Sen. Richard S. Madaleno, whose Montgomery County district is one of the wealthiest in the state. "I believe the middle class in our county and state benefit from government services," he said.

Madaleno, a Democratic member of the powerful Budget and Taxation Committee and a self-described budget wonk, said services like education, police and public health "lay the groundwork for our future."

"The governor has put a bold plan on the table," Madaleno said. "I want to live in a state where people can be successful and realize their dreams. It is what makes our state different and admired around the world."

Sun reporter Michael Dresser contributed to this article.

annie.linskey@baltsun.com

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