Thursday, March 29, 2007

Where is the Evidence?

There has been a lot of wailing and gnashing of teeth since Governor Blagojevich proposed a gross receipts tax to pay for education and health care. To hear the business community tell it, the tax will turn Illinois into an economic wasteland as business flees the state.

Is there any evidence to support these predictions? Is this just Chicken Little scurrying around trying to persuade all who will listen that the sky is falling? Or is it, as Kristen McQueary suggests in her Daily Southtown column, the noise of those who see their lucrative tax breaks and loopholes disappearing?,291MCQ1.article

There is no evidence that supports the predictions of economic doom.

Three states, Washington, Hawaii and Delaware, have had gross receipts taxes for some years. Over the past 20 years, the economies of two of those states, Washington and Delaware, have out performed the national economy.

The Tax Foundation, that friend of business, ranks the business tax climate of all three states in the top half of all the states, with Delaware 9th, Washington 11th, and Hawaii 24th.

Ohio, Texas and Kentucky all adopted gross receipts taxes in the last two years. Nevada fell one legislative vote short in 2003. This year Governor Blagojevich and Governor Granholm in Michigan have both proposed gross receipts taxes for their states.

What’s going on here? Why does a gross receipts tax make sense to so many different people in so many different states? Is it just that all the politicians have completely lost their senses as the Illinois Chamber of Commerce and other groups would have us believe? Or is there some basic economic reason why a gross receipts tax at the state level is something reasonable to consider in today’s economy?

The answer to the last question is, “Yes”.

Over the last 40 years the economy has changed fundamentally. Our taxes have not; they are still tied to the old economy. The corporate income tax, full of loopholes, can no longer be enforced by states. Businesses representing the old economy are increasingly paying more than their share.

As the Texas Comptroller said 20 years ago, “There are whole industries today – enormously important and profitable industries – that weren’t even dreamed of twenty-five years ago. The new economy has been described by many names: service, information, space age, diversified. But our tax structure remains tied to the past, to hard products and assets attached to the ground.”

Robert Tannenwald, Assistant Vice President of the Federal Reserve Bank in Boston, notes that since 1980 the ratio of state corporate income tax collections to corporate income has declined almost 50 percent and state tax departments are “increasingly outgunned” in collecting the corporate income tax. Globalization, as well as tax breaks, plays a part. Richard Pomp, a corporate tax law professor at the University of Connecticut, predicts the tax at the state level has little future.

The issues of avoidance and fairness have been the motives in every state for adopting the gross receipts tax.

The Texas Tax Reform Commission, appointed by a Republican governor and made up mostly of business executives, perhaps said it best in recommending a gross receipts tax for that state, “The tax system must provide a level playing field that is essential for healthy, free market competition. … Those who benefit from Texas’ resources and services must pay their share. … The tax system must reflect the realities of a rapidly evolving economy. Texas must be the most competitive state in the nation when it comes to building or moving a business here, risking capital, and winning in a global economy. … Designing a broad and stable tax base that encourages job creation and investment was the Commission’s goal.”

Adoption of the gross receipts tax has not been accompanied by economic disaster.

A study by Ernst and Young done for the Ohio Business Roundtable projected that the 2005 tax changes will create 78,500 new jobs and inject an additional $6.3 billion in new capital investment into Ohio’s economy.

The Ohio Business Roundtable commenting on the gross receipts tax a year after its adoption, said, “Unlike the old business taxes, this new tax does not penalize job creation and investment, and also encourages participation in the global marketplace.”

The Texas Association of Manufacturers endorsed the gross receipts tax, saying it “goes far in maintaining the kind of business climate that made Texas a national stand-out.” The Texas Economic Development Council called it a “fair business tax that closes loopholes and provides improvements to the funding for education.”

There is no evidence the sky will fall.


Chris A. said...

Mr. Kane:

In your quest to defend Governor Blagojevich’s gross receipts tax you omit relevant information about states that have or recently adopted gross receipts taxes, exclude from historical analysis those states that have repealed gross receipts taxes, and ignore positive tax features of those states that still have gross receipts taxes.

Your analysis of states that have recently adopted gross receipts taxes is incomplete. You claim that adoption of the gross receipts taxes in Ohio and Texas “has not been accompanied by economic disaster” but you omit the fact that lawmakers in both states offset the GRT with a reduction in other taxes.

In Texas, the GRT (and a cigarette tax increase) was more than offset by local property tax relief, and the GRT itself has substantial deductions available, unlike the Illinois proposal. In Ohio, the GRT (and a cigarette tax increase) was offset by a 21 percent across the board reduction in personal income tax rates, elimination of the business equipment tax, and elimination of the corporate franchise tax.

Unlike Illinois, the tax swaps in Ohio and Texas were expected to eventually reduce state taxes by billions of dollars, whereas Governor Blagojevich’s plan which will raise taxes by $6 billion (not including the payroll tax). I doubt Ernst and Young would project that a $6 billion tax increase would inject any new capital into Illinois’ economy (quite the opposite, in fact).

You also claim that three states (Washington, Delaware, and Hawaii) “…have had gross receipts taxes for some years” and that two of those states (Washington and Delaware) have had superior economic performance.

Curiously, you omit two states that had gross receipts taxes for over 50 years and then repealed them. Indiana and West Virginia both had gross receipts taxes for many years, in addition to income and sales taxes. Indiana enacted its gross receipts tax in 1933 and West Virginia in 1921. When Indiana repealed its gross receipts tax in 2002 it jumped from 48th in real GDP growth to 7th. West Virginia perennially ranked in the bottom of economic growth measures throughout the 20th century. A complete economic analysis of gross receipts taxes has to include the experiences in these two states.

You also neglected to mention that Washington and Delaware have positive tax features that mitigate the negative impact of the GRT and improve their rankings in the Tax Foundation State Business Tax Climate Index. Washington has no personal income tax and Delaware has no sales tax. If Illinois approves the Governor’s plan they will have a GRT in addition to a personal income tax and a sales tax, much more comparable to Indiana and West Virginia in the 20th century than Washington or Delaware today.

The cold, hard truth is that Governor Blagojevich is in uncharted territory with his GRT proposal. No recent state that imposed a GRT did so while raising taxes by $6 billion or without offsetting reductions in other taxes that dwarfed the revenue increase of the GRT. The people of Illinois would be well served to get all the facts when they make their judgment about the propriety of the GRT proposed by Governor Blagojevich.

Chris Atkins
Staff Attorney
Tax Foundation
Washington, D.C.

Russell said...

Mr. Kane:

I have a business that paid about $5,000 in Illinois income tax last year. If I paid the gross receipts tax instead, I would have paid over $15,000. Did I use loopholes? No. I paid a straight forward 4.8% on a straight forward P&L. Not to mention that employees paid over $30,000 in personal Illinois income taxes. I have a high tech business with relatively well paid employees. This increase will be a typical effect on the best of the growing and prosperous businesses in Illinois. The gross receipts tax is like pouring weed killer on the best growing business "plants" in Illinois.

If you go through the numbers on a product that starts with Illinois raw materials and trace it to an end product sold in Illinois, you can quickly have a tax of 0.5% on 200 to 300% of the retail price. That comprises a pyramid tax "scheme", not a tax plan.

What will businesses do? How will they react? I predict these effects:
1.Buy from sources outside the State of Illinois
2.Locate sales offices outside the State of Illinois
3.Chose a location other than Illinois to open a new business
4.Vertically integrate to avoid the pyramiding of taxes
5.Reduce employment when vertically integrating
6.Pick other states for expansion locations
7.Avoid sales offices and warehouses that might create a nexus in Illinois


Russ Straayer
Data Comm for Business
Champaign, Illinois

R.Collins said...

I run a small Union business in Illinois that has about 12 employees. We struggle to make ends meet, don't use loopholes and are way under 1 million in sales. Today I received this postcard in the mail, what a joke. It reads in one sentence that " Individuals and small and medium businesses have paid the price" in the ending paragraph it finalizes this propaganda with, "Under the Governor's tax fairness plan, businesses with under $1 million in revenues will see little or no change in their taxes" LITTLE OR NO CHANGE? Which one is it, no new taxes for small business or only a tiny bit compared to the corporate giants? What a joke!!! Small businesses actually need relief not some smooth back door approach to raise their share of the tax. Wait until election time rolls around and Rod is looking for Union endorsement, I'll show them this postcard which isn't union printed.

Kirk Walsh said...

Basically, you are justifying a tax rate of 1.95% by citing examples of taxes levied at 0.26% and 0.35/0.70%?

As Mr. Atkins also points out, the switch to Gross Receipts taxes included major cuts to other taxes that are levied on businesses and individuals.

I'm afraid Illinois can see its future easily if it does pass this tax. What Michigan is going through right now, trying to replace a job-killing tax but being unable to replacate the revenue, will be Illinois in twenty years.

Gross Receipts are a bad idea and gross receipts at this level of taxation are even worse.