Issues with State Corporate Income Taxes Presented to Conference - - PowerPoint PPT Presentation

Issues with State Corporate Income Taxes

Presented to Conference on Future Business Tax Reform s W illiam F. Fox The University of Tennessee

• Sept. 2 0 0 7

http:/ / cber.bus.utk.edu

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 2

Some Alternatives for Taxing Business

Corporate Income Tax Corporate Franchise Tax Value Added Tax – Michigan, New Hampshire; Many economists prefer an origin VAT as the mechanism for state business taxation Texas Margins Tax Gross Receipts Taxes – Ohio, New Jersey, Kentucky, Washington

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 3

PE RCE NTAGE DISTRIBUTION OF U.S. STATE PE RCE NTAGE DISTRIBUTION OF U.S. STATE TAX COLLE CTIONS, 2006 TAX COLLE CTIONS, 2006

I.

Property 1.7% General Sales 32.1% Individual Income 34.6% Other 10.3% Selective Sales 14.7% Corporate Income 6.7%

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 4

Businesses Pay Many Taxes, FY2006

Sales Tax on Business Inputs 22.5% Corporate Income 9.4% Excise & Gross Receipts 11.7% Corporate Franchise & Other Business 8.9% Payroll 7.5% Business Property 37.0% Individual 3.9%

Ernst & Young, 2007

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 5

State Corporate Income Tax Rates

12.0% No corporate income tax 7.6% - 10.0 % 4.0% - 6.5% 6.6% - 7.5%

Michigan imposes a single business tax of 1.9% on the sum of federal taxable income of the business, compensation paid to employees, dividends, interest, royalties paid and other items. Texas imposes a franchise tax of 4.5% of earned surplus of 2.5 mils of net worth. Source: Federation of Tax Administrators, March 2005.

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 6

State Corporation Net Income and License Tax Base

0.0 1.0 2.0 3.0 4.0 5.0 6.0 7.0 8.0 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 6 Percent of Corporate Profits 0.00 0.10 0.20 0.30 0.40 0.50 0.60 Percent of GDP

As a Percent of Corporate Profits As a Percent of GDP

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 7

Why has the corporate income tax base been shrinking?

State policy decisions

Concessions Greater weight on sales factor?

Federal policy decisions

Accelerated depreciation Production exemptions

Tax planning

Transfer pricing and intangible holding companies Corporate structure

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 8

State Approaches to Tax Planning and Entity Isolation

Combined reporting Disallow deductions between related companies - Massachusetts Impose nexus on passive investment companies – South Carolina Examine PIC for valid business purposes - Maryland Audit transfer prices All will be incomplete

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 9

Other Business Taxes

Could argue for eliminating business taxes, but unless that occurs, the alternative base taxes may be best evaluated in the context of what they replace – generally the corporate income tax Well understood that gross receipts taxes are not effective tax instruments, but most discussions evaluate gross receipts taxes in context of a theoretically pure tax rather than the tax they are likely to replace Corporate income tax can be thought of as three taxes

Payroll Property Sales

As move to greater sales weighting, the corporate income tax is a tax on gross receipts with the rate dependent on the profitability

• f the firm.

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 10

Comparison of CIT and GRT

Taxpayers

Unincorporated businesses No PL86-272 constraint Unprofitable firms

Evasion/avoidance options –

Easier for CIT Effects of marginal rate depends on profitability of

company

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 11

Comparison of CIT and GRT

Total tax liability depends on number of stages of production

Which causes greater distortions, a 6.5% corporate

income tax or a 1.0% gross receipts tax

Distorts equity - cascading Encourages vertical integration Hurts transparency, but CIT?

Differential burdens across firms

GRT likely to be larger burden for low margin firms –

differential effective rate by industry, but also true to some extent with the CIT

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 12

Comparison of CIT and GRT

Administrative issues

Transition costs GRT is an above the line tax Issues of nexus and sourcing remain Complexity rises if both an income and alternative tax

must be calculated, but otherwise probably not

Revenue Implications

GRT base is generally very broad, and can be expected to

exceed gross product

Sizeable revenue potential, even with low rates (0.23% in

Ohio)

More stable than the corporate income tax

September 2007 William F. Fox, Center for Business and Economic Research, http://cber.bus.utk.edu 13