December 07, 2005

PA Gov Vows To Veto Bad Tax Bill

Pennsylvania Governor Ed Rendell is vowing to veto a tax plan coming out of the state's legislature that would poorly cut corporate taxes. The bill would:
... trim the income tax rate to 3.05 percent, down from the current 3.07 percent. The rate was raised to its present level on Jan. 1, 2004, up from the previous 2.8 percent.

The tax cut would save someone earning $50,000 only $10 a year. But the bill was strongly supported by a coalition of 80 businesses because many small firms pay their state business taxes based on the personal income tax rate rather than the corporate net income tax rate of 9.99 percent.
And ...
It would change the formula used for figuring the corporate net income for Pennsylvania firms. The new formula would base a company's taxes only on sales made within Pennsylvania, not on out-of-state sales or investments a firm makes in Pennsylvania.

It also would gradually lift the current limit on the amount of business losses a company could carry forward from one fiscal year to the next.

The most egregious component of this tax plan is the change to the corporate net income tax formula to base a company's income taxes only on sales made within Pennsylvania. In tax policy, this is referred to as the Single Sales Factor (SSF). Here's a quick primer on SSF from ITEP's Policy Brief Corporate Income Tax Apportionment and the "Single Sales Factor":

  • While some companies will benefit from SSF, other companies will actually pay more taxes under SSF. Manufacturing companies that have more of their property and payroll in-state (and sell more of their products to customers in other states) will benefit from SSF, but companies with little in-state employment and property that sell proportionately more of their products in-state will be hurt by SSF. Whether SSF will cut, or hike, a state's corporate taxes overall depends on the importance of manufacturing in a state's economy.
  • When SSF is enacted in response to the threats of in-state corporations to relocate in other states, there is no guarantee that these corporations will not "take the money and run". For example, after the passage of SSF in Massachusetts, the Raytheon corporation who lobbied for it, cut thousands of MA jobs.
  • SSF creates harmful incentives for some businesses. A company that sells products in an SSF state, but does so only by shipping products into the state (and therefore has no nexus) will not have to pay any income tax to the state. But if such a company makes even a small investment of employees or property in the state, it will immediately have much of its income apportioned to the state because the sales factor counts so heavily. Thus, SSF gives these companies a clear incentive not to invest in the state. Even worse, SSF gives companies with in-state employees an incentive to move all of their employees out of the state to eliminate their nexus with the state - thus zeroing out their tax.
  • By discriminating against some companies and in favor of others, SSF makes corporate income taxes less fair - and can result in profitable companies paying no state income tax. For example, under the Illinois SSF rules, a corporation that has all of its employees and property in Illinois - but makes all of its sales to customers in other states - will pay no Illinois income tax, no matter how profitable it is. This unfairness reduces public confidence in the tax system.

Governor Rendell is doing the right thing by standing up to limited corporate interest. This bill is bad tax policy, clear and simple.


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