‘Nothing to see here, folks,’ 2017 edition

What really drives state growth is the rate of new business formation. And what matters most for entrepreneurial vibrancy is the education level of the state’s residents.

slide_taxfoundation-cropBasic flaws remain in Tax Foundation business index

The Tax Foundation released the 14th edition of its State Business Tax Climate Index (SBTCI) today (Sept. 28). The basic flaws that have rendered it of little use as a guide to state economic policy remain. While a few methodological tweaks have been made, it is still a hodge-podge of over 100 different features of state tax law, mashed together into an index number. The components are weighted illogically, and the result is a ranking that bears little or no relation to the taxes businesses actually pay in one state versus another.

The Tax Foundation acknowledges that they are not measuring actual tax levels on business, but rather the states’ tax structure. But they provide no evidence that tax structure influences business decisions. If you were a business, what would you care more about: the bottom line amount you will pay, or whether there were three tax brackets or five tax brackets involved in the calculation that got you there? The Tax Foundation would have you count brackets, and ignore the dollars.

The SBTCI has separate components for the corporate income tax, the individual income tax, property taxes, etc. So let’s consider the corporate tax component. Even as a measure of “structure” somehow, it falls short because it leaves out two major determinants of corporate income tax liabilities — federal deductibility and the apportionment rule — while including numerous minor features. As a result, the corporate tax index is a meaningless number.

Furthermore, the corporate income tax is much less important than the property tax, for most businesses. According to the Council on State Taxation, the property tax accounted for 43 percent of all business taxes, the corporate income tax just 11 percent, in 2014. Yet in coming up with the overall state rankings, the latest Tax Foundation index weights the property tax 14.9 percent, the corporate income tax 19.7 percent. That makes states with high property taxes and low corporate income taxes look much better on the index than they really are, and penalizes the states with a robust corporate income tax, a high state share of education funding, and low property taxes.

To make matters worse, the index weights change every year. This makes it impossible to know if a change in a state’s rank from one year to the next is due to a change in tax law, or just a change in the weights.

More importantly, the whole focus on business tax competitiveness is misplaced. State and local taxes are a very small share of overall business costs. What really drives state growth is the rate of new business formation. And what matters most for entrepreneurial vibrancy is the education level of the state’s residents.

2010-PFw5464Editor’s Note: Peter Fisher, research director of the nonpartisan Iowa Policy Project (IPP), wrote this blog for GradingStates.org, IPP’s separate website devoted to promoting a better understanding of various state business climate rankings. For a look at components of state policies that can promote prosperity, see this page on the GradingStates.org site.

How do the House and Senate property tax proposals differ?

Though the mechanisms in each proposal differ slightly, the primary difference is simply one of magnitude.

Andrew Cannon photo
Andrew Cannon

Legislation pending in both the Iowa House and Senate could change the way city and county governments gather revenue as early as 2012.

Among the features of the House Omnibus Budget proposal (HF697, passed by the House on June 8th) is a rollback of the assessment rates of commercial, industrial and railroad property taxes. The Iowa Legislature would allocate general fund monies to local governments to make up for some of that lost revenue. This plan further tilts the responsibility of funding local government toward individuals and families and away from business.

Equally important, it’s unclear whether the property tax replacement fund would adequately replace the revenue local governments lose as a result of the commercial and industrial property tax assessment rollback.

Additionally, the House bill alters and limits how city and county governments budget. Local government budgets would be capped, using a highly flawed formula. Though the formula accounts for inflation using the Midwest Consumer Price Index (CPI), the CPI isn’t a good measure of inflation in government costs. Further, the inflation factor is limited to 4 percent, meaning that in a high inflation year, this formula flaw could seriously impede the ability of local governments to meet their commitments.

The Senate’s counterpart, SF538 (introduced earlier this week and passed by the Senate June 22) would also reduce the tax responsibly of commercial, industrial and railroad property owners, as well as alter and limit local government budgets.

Rather than reducing the property tax assessment maximums, however, the Senate bill creates a Property Tax Credit for commercial, industrial and railroad property. The state’s general fund, the bulk of which is generated from of individual income taxes, would finance the Property Tax Credit. Though there would be less shifting of responsibility than in the House proposal, the distribution of this credit to businesses and railroads still would push more of the responsibility for financing government toward individuals and families.

The restriction on local government budgets in the Senate proposal is far less restrictive than the House version. Though the Senate version uses the same flawed formula, relying on the Midwest CPI to calculate maximum budgets, some slight deviations from the House version would leave local governments with considerably more freedom in their budgets. First, the inflation factor in the Senate proposal is not limited to 4 percent, meaning that in a high inflation year, local governments could correspondingly increase their budget. Second, local governments may factor unfunded federal or state mandates into their budget limit calculation under the Senate version. Third and most significantly, the Senate proposal does not curtail the revenue local governments can raise through commercial, industrial and railroad property tax.

Both the Senate and the House proposals would place a bigger chunk of the tab of financing government into the hands of individuals and families and further reduce the contributions of businesses to public services. Each chamber’s proposal would limit the ability of local governments to respond to citizens’ needs and demands. Though the mechanisms in each proposal differ slightly, the primary difference is simply one of magnitude.

Posted by Andrew Cannon, Research Associate

Too many unknowns in proposed property tax rollback

Any legislation that emerges from House-Senate negotiations needs to do better than HF697 in assuring sustainable and fair changes to Iowa’s property-tax system.

Andrew Cannon photo
Andrew Cannon

The property tax rollback proposals we’ve seen this legislative session are concerning for a number of reasons. The latest — in an amendment to House Omnibus Budget bill (HF697) — though scaled back from an earlier proposal, does little to ease legitimate concerns.

Citizens and elected officials of cities and counties have reason to be both concerned and confused by the legislation.

The bill, passed by the House last week and yet to be taken up in the Senate, would reduce commercial and industrial property assessments and limit the amount of revenue city and county governments can raise from commercial and industrial tax (see our recent backgrounder for a more complete explanation).

Starting in Fiscal Year 2014, commercial and industrial property assessments would drop by 5 percent for five years, so that they are ultimately reduced by 25 percent. The same legislation provides for some property tax replacement monies to be allocated by the state. In FY14, the replacement fund would total $30 million, increasing by $30 million each year until it reached $150 million.

This formula has many problems, not the least of which is that no one knows if the replacement funds (1) will be enough to fully replace lost property tax revenues or even (2) will actually be allocated. The rollback would be written into law; the replacement dollars would be subject to the annual appropriations process. The $30 million figure — maybe it’s close, maybe not; for all we know it was one of many numbers on a dartboard. Either way, in a tight budget year, even that might not be provided. It’s one more note of uncertainty for local officials setting budgets.

Additionally, as we’ve noted before, the legislation disrupts the shared responsibility of financing local government between residential citizens, agricultural citizens, and corporations. The bulk of the general fund — the source of the replacement funds — is generated from individual income tax. Already, the corporate share of state funding is minimal due to many breaks written into law and unintended loopholes in the law. The proposed property-tax legislation does not target help to small businesses, but assures big corporations — some of which already do not pay income tax in Iowa — also get the new property-tax breaks. The big-picture impact: Homeowners will assume a greater share of funding local services, because big companies will get one more break.

Any legislation that emerges from House-Senate negotiations needs to do better than HF697 in assuring sustainable and fair changes to Iowa’s property-tax system.

Posted by Andrew Cannon, Research Associate

Families, farmers subsidize property tax break for business

Rather than having big businesses contribute to our cities and counties, individuals and families would pick up an even larger portion of our city and county governments’ tab.

Andrew Cannon photo
Andrew Cannon

Any way you slice it, the commercial and industrial property tax cut in the amended House Omnibus Budget bill (HF697), shifts tax responsibilities to individuals and families. Apart from being unnecessary, as Iowa’s tax rates are average, it violates the principles of shared investment and contribution.

Amendment H-1735 to HF697 rolls back commercial and industrial property tax assessments by 25 percentage points over five years.

To attempt to placate concerns of cities and counties, legislators created a “commercial and industrial property tax replacement fund.” Each year, the Legislature would draw from the state’s General Fund to provide cities and counties with money to make up the revenue they will lose in the property tax rollback.

The plan has serious flaws as the Iowa Fiscal Partnership has noted.

First, it’s not at all clear that the funds promised would adequately replace the revenue that cities and counties would lose in the C/I property tax cut. And of course, state aid to local governments is never guaranteed – the experience of other states suggests that aid to local governments would fluctuate considerably as states weather recessions and fiscal challenges.

If the replacement funds turn out to be insufficient or if the state doesn’t fully deliver on its promises, cities and counties would have to find other ways to raise the revenue they need. That could mean increased property taxes for residential and agricultural landowners — or lost services.

Second, even if the replacement fund were to adequately replace lost revenues, individuals’ and families’ share of local property tax would be greater. And, with replacement fund monies coming from the state’s General Fund, families would subsidize that disproportionately because the individual income tax is the largest single revenue stream for the General Fund, comprising nearly half of its revenues.

Rather than having big businesses contribute to our cities and counties, individuals and families would pick up an even larger portion of our city and county governments’ tab.

Big business would be getting a good deal, at the expense of Iowa families and farmers.

Posted by Andrew Cannon, Research Associate