Assessing Montanas Business Tax Structure: Competitiveness and - - PowerPoint PPT Presentation

State Tax Research Institute

Assessing Montana’s Business Tax Structure: Competitiveness and Revenue Effects of Possible Broader Tax Reforms

State Tax Research Institute

2019 Business Days at the Capital Presentation

January 7-8, 2019

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Agenda

• Business Taxation in Montana
• Competitiveness Analysis
• Tax Reform Options

– Property Tax Reform Modeling – Consumption Tax Reform Modeling

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Montana’s Current Business Tax Structure

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Composition of MT’s FY 2017 taxes: total and business taxes

Type of state and local tax Montana U.S. Montana U.S. Property taxes 39% 31% 51% 39% Sales taxes 0% 22% 0% 21% Excise taxes 14% 11% 12% 12% Corporate income taxes 3% 4% 6% 9% Unemployment insurance taxes 2% 2% 5% 5% Individual income taxes 28% 23% 7% 5% Licenses and other taxes* 13% 7% 18% 8% Total Taxes 100% 100% 100% 100% All Taxes Business Taxes

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Lack of broad-based consumption tax puts stress on

• ther MT taxes

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Business taxes: Montana compared to U.S. average

MT as % of Montana U.S. Average U.S. Average Business share of taxes State taxes 41% 38% 109% Local taxes 63% 52% 121% Total S&L taxes 49% 44% 111% Local share of total business taxes 45% 49% 92% Property tax share of S&L business taxes 51% 39% 131% Total effective business tax rate 5.0% 4.5% 111%

Source: EY/COST Total State and Local Business Taxes , FY 2017 (Nov. 2018)

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• MT businesses paid $2b in S&L taxes in FY 2017
• MT’s effective bus. tax rate is 12th highest in U.S.

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Effects of Montana’s Business Tax Structure

• Montana’s total effective tax rate on business income

is 5.0% is 11% higher than the US average of 4.5%

• Montana’s business tax structure, including property

and income taxes, reduces the state’s business tax competitiveness

• High business property taxes, corporate income

taxes as well as a relatively high overall business tax rate make it harder to attract new capital investments and businesses to Montana

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Analysis of the Competitiveness of Montana’s Business Taxes

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STRI analysis of the competitiveness of Montana’s business taxes

• Compares Montana’s existing business tax

structure for six selected industries with six competitor states

• Identifies “sore thumbs” where Montana’s

business tax structure is putting its domestic companies at a cost disadvantage to similar companies based in competitive states

• The competitiveness model is used to simulate

changes in Montana’s business tax competitiveness under alternative tax reform proposals

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Competitor states and industries modeled

Competitor states Industries

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• Colorado
• Idaho
• North Dakota
• Utah
• Washington
• Wyoming
• Small pass-through

manufacturer

• Metal fabrication
• Food & beverage retail
• Credit card processor
• Wholesale drug

distributor

• Data processing

(information services)

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Property tax effective tax rates for Montana and competitor states

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MT income tax: relatively high rates and taxes on in-state business activity

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General sales tax features for Montana and competitor states

Note: Washington rate does not include the B&O gross receipts tax

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Montana total business tax relative to competitor states

Note: Percentage is MT total business taxes divided by competitor state taxes. For example, MT’s tax is 87% of Colorado’s tax for a small manufacturer, or 13%

• lower. Montana’s tax is 125% of the tax on a Colorado metal fabricator, or 25%

higher.

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Competitor Small Metal Food & Bev. Credit Card Drug Data States Manufact. Fabricator Retail Processor

• Whole. Dist.

Processing Colorado 87% 125% 60% 231% 112% 80% Idaho 84% 131% 96% 115% 99% 94% North Dakota 139% 241% 132% 299% 159% 120% Utah 91% 135% 85% 128% 85% 77% Washington 69% 113% 52% 137% 68% 60% Wyoming 142% 250% 107% 425% 175% 121% State/industry percentages in red indicate Montana taxes higher than competitor states

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Observations from competitiveness analysis

• MT has a higher business tax burden for 55% of

the industry/state comparisons

• MT is not competitive on business income taxes

(high corporate and personal tax rates and unfavorable apportionment)

• MT is not competitive with high-tiered property tax

rates

• MT has some capacity to substitute higher

business taxes on consumption in order to lower non-competitive business taxes

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Some Tax Reform Options

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Tax reform options

• Incremental tax reforms

– Business equipment property tax relief – Corporate income tax improvements, such as lower rate, 100% destination sales apportionment, repeal tax haven black list – Compliance and administrative issues

• Broader reform options to reduce income and

property taxes

– Equalize business and residential property tax rates – Adopt retail sales tax, or – Adopt business entity level tax on consumption

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Broader tax reform options

• Broader tax reform options could:

– Reduce burden on new investment within the state – Reduce tax volatility – Collect additional tax from out-of-state purchasers – Increase uniformity in business taxes across business-entity types

• STRI asked to estimate the potential revenue

implications of broader tax reform options

• Several reform options were evaluated in

terms of effect on tax competitiveness

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Initial Modeling of Property Tax Reforms

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Modeling two property tax reform

• ptions
• Repeal business personal property tax
• Equalize property tax class rates, for both

real and personal property at residential property class rates

– Residential property currently taxed at 1.35% – Current business property class rates up to 3%; utility personal property tax rates up to 12%

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Revenue change from repealing business personal property taxes

• Eliminating business and utility personal

property taxes would reduce property tax revenues by $235 million a year (at 2016 levels)

– A 33% reduction in business property taxes – A 15% reduction in total property taxes

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Revenue change from equalizing property tax rates

Current Proposed Business property Taxes Taxes Amount Percent

• Commercial

land 68 48

• 20
• 29%
• Commercial

improvements 173 124

• 49
• 28%
• Business

personal 87 55

• 32
• 37%
• Total

non-utilities 328 228

• 100
• 31%
• Utilities
• Real

65 14

• 51
• 79%
• Personal

148 26

• 122
• 83%
• Mileage

175 37

• 138
• 79%
• Total

utilities 388 76

• 311
• 80%

Total business property taxes 716 304

• 412
• 57%

Note:

• Proposed

change imposes a 1.35 class tax rate

• n

all business property.

Change in Taxes

• Equalize

Business and Residential Class Tax Rates (dollars in millions)

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Revenue change from equalizing property tax rates

• Equalizing the rates would set all class rates at

1.35% resulting in an annual revenue loss of $412 million (at 2016 levels)

– 57% of business property tax – 27% of total property tax

• Revenue loss (with equalization) for non-utility

businesses would be $100 million

– 31% of non-utility business property tax – 6% of total property tax

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Preliminary Estimates of Two Consumption Tax Options

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Retail sales tax option

• STRI has completed preliminary estimates of the potential

base and tax revenue from adopting a retail sales tax modeled on the sales tax features of a typical state sales tax

• The modeled sales tax system has:

– A broad base including most consumer product purchases, but excluding most business purchases – Exemption for most purchases of services, except for utility purchases by households – Exemption of sales to non-profits and government – Motor vehicles purchases are taxable; housing is exempt – Exempts motor fuels, tobacco and alcohol purchases

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Preliminary sales tax estimates

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MT Sales Tax Base and Annual Revenue at 4% Rate

• Only 36% of total consumer expenditures (products and

services) are included in the sales tax base

• But sales taxes on business inputs are substantial:
• $303 million in taxes (capital + intermediate inputs)
• 34% of total sales taxes

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Entity-level consumption-based business activity tax (BAT)

• Value-added (consumption) base equals:

– Firms’ total sales minus business input purchases, including all capital purchases. – Equivalently, base equals sum of payments to factors

• f production: capital and labor
• Includes all forms of doing business:

corporations and pass-through entities

• Apportioned by 100% destination sales factor:

– Excludes value added on business exports from MT – Includes value added on imports into MT

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Potential Montana BAT base and annual tax revenue ($millions)

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Preliminary BAT results

• A comprehensive BAT would raise an estimated

$298 million annually at a 1.0% rate

• The exclusions from the base for the typical BAT

(housing, finance, insurance, health care, non- profits, gov’t.) would reduce the tax base by 27%

• The typical BAT at 1% would raise $219 million
• Retail sales tax rates are generally much higher

(average competitor state rate of 4.9%) than current state BAT rates of 0.75-2.0%

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Comparing the retail sales tax and BAT estimates

• The sales tax base includes a smaller percentage
• f consumer spending compared to a typical BAT

base: 36% vs. 73%

• The sales tax base includes significantly more

business inputs compared to a BAT

– Under an entity level BAT, there would be no or very little taxable business-to-business sales – Under the modeled sales tax based on other states experience, sales tax on business inputs could be as high as 34% of all sales taxes

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Reform package impacts

• n MT competitiveness
• STRI was asked to estimate business tax

competitiveness impacts of two potential tax restructuring packages. Both packages would: – eliminate business personal property taxes and equalize real property tax rates at 1.35% – adopt 100% destination sales apportionment

• Package 1 would be financed by a 2% BAT imposed
• n the “typical” base; it is roughly revenue neutral
• Package 2 would be financed by a 4% sales tax; it

would raise an additional $400m annually

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Change in MT competitiveness rankings with reform packages

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Small Metal Food & Credit Drug Data Tax Structures

• Manuf. Fab.
• Bev. Ret. Card Proc. Dist.

Process. Current law ranking 5 1 6 1 4 5 Tax reform packages: Package 1 (BAT 2%) 7 7 2 6 3 7 Package 2 (4% sales tax) 7 7 6 7 6 7

• Lower property taxes and the apportionment change more than
• ffset the new BAT or sales taxes for most of the example firms.

Taxes for ten of the 12 MT firm examples move down to 6th or 7th lowest under the two packages.

• Rankings increase for the retail and wholesale examples under

Package 1 that sell primarily instate because they benefit less from the apportionment change.

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Questions?

• This presentation has been intended to stimulate

discussion about the state of taxation in Montana, where it needs to go, and what the business community can do to move that process along.