Author: tarek

New IRS regulations issued on June 2 expand the ability of companies to claim the research credit retroactively for prior tax years on amended tax returns. This makes it far more likely that the credit will subsidize activities that businesses would have carried out anyway, even in the absence of any tax incentive.

The research credit is supposedly designed to encourage companies to expand the amount of research they conduct. That means it can be thought of as effective only to the extent that it subsidizes research that businesses would not have carried out anyway even if no tax break was offered to them. Of course, if a company carried out research and did not even become aware that it could claim the credit until three years later, there is no way that research was the result of the credit.

In our December 2013 report, “Reform the Research Tax Credit — Or Let It Die,” Citizens for Tax Justice called upon Congress to bar companies from claiming the credit on amended returns. There are two main versions of the research credit available, the regular research credit and the “alternative simplified credit” (ASC). Companies were already allowed to claim the regular credit on amended returns — which CTJ sought to ban. But IRS regulations had barred companies from claiming the ASC on amended returns — until now.

As the CTJ report explained, at least two senators explicitly called for allowing companies to claim the ACS on amended returns, giving absolutely no policy rationale for such a change. It appears likely that the pressure to make this change came from accounting firms like Alliantgroup who approach businesses and offer to help them claim the research credit for activities they carried out in the past.

Continuing a welcome trend, lawmakers in a number of states are showing interest in dealing with chronic transportation shortfalls. New Hampshire Gov. Maggie Hassan signed a 4-cent gas tax increase into law, South Dakota Governor Dennis Daugaard announced that he is now open to a gas tax increase, and a Michigan Senate committee passed a bill that would increase and reform their state’s gas tax.

Gov. Christie’s administration recently announced two plans for addressing New Jersey’s $875-million budget gap in the current fiscal year as well as next year’s projected shortfall. Rather than increasing income taxes on millionaires, as some Democrats proposed, Christie said he will reduce the amount of two state pension payments scheduled for June of the current year and 2015. The administration will also push back $400 million of property tax relief due this August until May of 2015. The legally questionable pension payment plan faces a potential lawsuit from state labor unions.

The New York Times recently reported that Madison Square Garden (MSG) has enjoyed an indefinite property tax exemption for the past 32 years, a generous arrangement no other property in the city is afforded. The deal with New York City made in 1982,  which then-Mayor Edward Koch thought would last only 10 years, is set to save the MSG’s owners about $54 million in the next fiscal year.

On Wednesday, the North Carolina state Senate voted to give preliminary approval to a bill that prohibits municipalities from collecting privilege taxes from businesses. Signed by Gov. Pat McCrory on Friday, the legislation is set to cost local governments $62 million in fiscal year 2016 if leaders don’t find a revenue replacement. Large cities like Raleigh, which may lose $8 million as a result of the bill, would be particularly hard-hit and may have to resort to raising property taxes.

Once again, a Congress that cannot enact a $10 billion extension of emergency unemployment benefits is headed toward increasing the deficit by hundreds of billions of dollars to benefit corporations. 

Republicans on the House Ways and Means Committee voted today to make permanent “bonus” depreciation, the most costly provision within the “tax extenders.” Bonus depreciation is a significant expansion of existing breaks for business investment. The Congressional Research Service has reviewed quantitative analyses of the tax break and found that, “… accelerated depreciation in general is a relatively ineffective tool for stimulating the economy.”

This conclusion is not surprising. What businesses need are customers. No business is going to invest to expand operations if there are no customers and thus no way of profiting from that expansion. A tax cut for investment cannot change that logic. The most likely effect of such tax cuts is that they subsidize investment that would have occurred anyway even without a tax break.

Bonus depreciation also departs from general rules on which the tax system is built. Companies are allowed to deduct from their taxable income business expenses so only net profit is taxed. Businesses can also deduct costs of purchases of machinery, software, buildings and so forth.  Since these capital investments don’t lose value right away, these deductions are taken over time. In other words, capital expenses (expenditures to acquire assets that generate income over a long period of time) usually must be deducted over a number of years to reflect their ongoing usefulness.

In most cases firms would rather deduct capital expenses right away rather than delaying those deductions, because of the time value of money. For example, inflation will erode the value of $100 over time, but $100 invested now at a 7 percent return will grow to $200 in ten years.

Bonus depreciation is a temporary expansion of existing breaks that allow businesses to deduct these costs more quickly than is warranted by the equipment’s loss of value or any other economic rationale.

Of course, this tax break makes even less sense if it is permanent. It was enacted to address a recession early in the Bush administration and then enacted again to address the much more severe recession at the end of the Bush administration. The theory behind it had been that firms would be encouraged to invest and expand right away, counteracting the immediate impacts of the recession, because the break would be available only for a limited time. Making the break permanent obviously destroys even this argument for bonus depreciation. 

Since Ohio Governor John Kasich ran for office on a promise to gradually eliminate the state income tax, tax cuts have been almost constantly on the agenda in the Buckeye state. Last week, the state Senate advanced a $400 million tax cut plan that would accelerate already-scheduled income tax rate reductions and increase an existing tax break for “pass through” businesses, while providing much smaller tax breaks to low- and middle-income families. The plan next goes to a joint House-Senate conference committee.

An ITEP analysis of the Senate plan, featured in a  newly-released report from Policy Matters Ohio, shows that these tax cuts next year would disproportionately benefit the best-off Ohioans: the top 1 percent of Ohio taxpayers, would receive an average tax cut of $1,846, while the middle fifth of Ohio taxpayers would see an average tax cut of $36. The poorest 20 percent of Ohioans would see a tax cut averaging just $4.

Ohio’s tax break for “pass through” business income (that is, profits that are taxed under the personal income tax as they “passed through” to the owners) is already one of the more misguided carve outs in the state’s tax law. Described misleadingly by its supporters as a “small business” tax break, it allows any individual to deduct 50 percent of a whopping $250,000 of pass-through income. The Senate bill would ramp up the deduction to 75 percent for one year. But a better approach might be to examine the wisdom of the deduction that already exists. Policy Matters Ohio’s Zach Schiller notes sensibly in the Columbus Dispatch that “[w]e certainly haven’t seen some big job surge since this tax break was created.” The true cost of the existing deduction remains uncertain. Since some eligible business owners appear not to be claiming it, the $230 million the deduction has cost this year alone will likely be much higher in the long term.

Faced with a ballooning tax giveaway that offers little or nothing to middle-income families, the sensible solution would be to pull the plug on this tax break. Instead, Ohio lawmakers seem poised to expand it.

There’s been an increasing amount of talk about whether hybrids and electric cars have made the gas tax obsolete, and whether the time has come to switch to a different system of taxing drivers—like a vehicle miles traveled tax (VMT tax).  In a new report, the Institute on Taxation and Economic Policy (ITEP) argues that the gas tax still has a lot of life left in it, and that lawmakers are setting themselves up for disappointment if they think switching to a flat, per-mile VMT tax is going to fix their transportation budget in the long-run.

As ITEP explains, our roads and bridges are crumbling mainly because federal and state gas tax rates are outdated.  It’s true that fuel-efficiency gains have chipped away at the gas tax base by letting drivers travel further on each tank of gas, but so far that issue has been dwarfed by the impact of inevitable increases in construction costs.  ITEP estimates that “for every $1 that fuel efficiency gains drained from the purchasing power of the nation’s transportation funds, inflation has taken a much larger $4.08.”

In other words, the biggest problem with the gas tax is also one that’s easy to fix: gas tax rates should gradually rise alongside inflation, just like many features of federal and state income tax law.  Or as ITEP explains in a Huffington Post op-ed, “The fact that asphalt tends to become more expensive over time doesn’t mean that we need to throw out the gas tax entirely. It only means that we shouldn’t expect decades-old gas tax rates to keep pace with the cost of building and maintaining the nation’s infrastructure.”

ITEP’s report also reminds readers that the funding problems created by flat tax rates are not unique to the gas tax.  Oregon, for example, is in the process of launching a pilot project that will allow 5,000 volunteer drivers to exempt themselves from gas taxes in exchange for paying a VMT tax.  But Oregon decided to set their experimental VMT tax rate at a flat 1.5 cents per mile—despite the fact that 1.5 cents is guaranteed to buy less asphalt and machinery in the future when those materials become more expensive.  By 2025, Oregon’s VMT tax rate will likely need to rise to 1.89 cents per mile just to maintain the value it has today.

Before completely overhauling its system of taxing drivers, states like Oregon should join the growing list of states that plan ahead for inflation with a “variable-rate” gas tax where the tax rate can grow over time.  And VMT tax proponents should be aware that this more sustainable “variable-rate” style tax rate will need to be carried over into any VMT tax that might eventually be enacted.

Read the report:

Pay-Per-Mile Tax is Only a Partial Fix

When anti-tax groups working in the states need a data point to help them argue in favor of their newest tax cutting idea, they often look to the Beacon Hill Institute (BHI).  BHI is housed in the economics department at Suffolk University, but its mission is more ideological than academic: providing research to voters and policymakers that promotes a “limited government” and “free market” perspective.  The cornerstone of BHI’s research is a computerized economic model it calls the State Tax Analysis Modeling Program (STAMP).

To a casual observer, STAMP may appear to be a rigorous model worthy of consideration.  But new research from the Institute on Taxation and Economic Policy (ITEP) explains in great detail the myriad ways in which STAMP is rigged to portray tax cuts as hugely beneficial to state economies, and tax increases as an inefficient drag on economic growth.

The broad ways in which STAMP fails to accurately gauge the impact of taxes on state economies include:

• STAMP underestimates the economic importance of public services such as education and infrastructure to both the short- and long-term health of state economies.
• STAMP assumes that workers, consumers, and businesses are hypersensitive to tax changes, causing private sector economic activity to boom (or bust) as a result of modest changes in after-tax incomes and prices.
• STAMP depicts tax changes as having an instantaneous impact on the economy, even when that impact involves long-run issues such as migration, property value changes, and business formation.
• STAMP assumes a simplistic, perfectly efficient marketplace where everybody who wants a job already has one.  This assumption simplifies the math behind the model, but is a poor reflection of the economy that actually exists today.

ITEP’s report also describes a number of instances where STAMP’s findings have been contradicted by academic researchers and state revenue officials.  In one particularly implausible analysis, for example, STAMP actually found that cutting Rhode Island’s sales tax rate by more than half would not only benefit the state’s economy—it would actually raise $61 million in tax revenue.

In another analysis, STAMP predicated that roughly 40,000 jobs would be created by a tax cut enacted in Kansas.  Since that analysis was released, Kansas’ economy has underperformed and the state actually saw its credit rating downgraded because of slow economic growth and lagging tax revenues.

As ITEP’s report explains: “STAMP’s flimsy foundation, biased assumptions, and highly questionable results are ample reason to avoid using it as a tool for understanding how changes to a state’s tax system will affect its economy.”

Read the report:

STAMP is an Unsound Tool for Gauging the Economic Impact of Taxes

On Monday, the Department of Justice announced that Credit Suisse, the second largest bank in Switzerland, has agreed to plead guilty to criminal charges for helping Americans open secret bank accounts and use them to evade U.S. taxes. The bank will pay $1.9 billion to the federal government and $715 million to the state of New York in restitution and fines. 

Surprisingly, the agreement does not require the bank to hand over the names of its U.S. customers. In a statement issued the same day, Senator Carl Levin remarked “it is a mystery to me why the U.S. government didn’t require as part of the agreement that the bank cough up some of the names of the U.S. clients with secret Swiss bank accounts. More than 20,000 Americans were Credit Suisse accountholders in Switzerland, the vast majority of whom never disclosed their accounts as required by U.S. law. This leaves their identities undisclosed, with no accountability for taxes owed.”

This is in stark contrast to the 2008 deferred prosecution agreement with UBS, the largest Swiss bank. The financial giant agreed to pay $780 million in penalties and, unlike Credit Suisse, handed over 4,700 names of American account holders.

The Credit Suisse agreement comes after years of investigations into the bank’s illegal activities aiding tax evasion which were detailed in a February report by the Homeland Security Permanent Subcommittee on Investigations. The report lambasted the American and Swiss governments for dragging their feet in efforts to stop it.

The report noted that Switzerland has bank secrecy laws that prevent banks from disclosing the identities of account holders to U.S. tax enforcement authorities. Switzerland enacted a law specifically allowing UBS to provide that information to the U.S. government, but no such law was enacted this time around for Credit Suisse. Instead, the Department of Justice relied on the convoluted process outlined in a U.S.-Swiss treaty to get the information. That process has given greater power to the Swiss government and Swiss courts that have provided as little cooperation as possible.

Although the agreement imposes big fines, it does not revoke Credit Suisse’s license to continue to operate in the U.S. Apparently some fear the repercussions of taking a harder line against the big banks, apprehensive that stronger actions might precipitate a financial crisis. The possibility that the Department of Justice wanted to avoid this and did not push as hard as it might (for example, by demanding the disclosure of account holders) may mean that some banks really are “too big to jail.”

Switzerland has long been known as a tax haven for individuals from all over the world who want to hide their income from tax authorities with the help of banks like UBS and Credit Suisse. It has also been known as a tax haven for corporations like Alliance Boots that want to artificially shift profits there to avoid paying taxes in the countries where their profits are really earned. One might think it would be easier to solve the problem of individuals using tax havens to evade taxes, since that is illegal, whereas the tax avoidance of big corporations like Alliance Boots is not actually illegal (but should be). But the laws against tax evasion by individuals using Credit Suisse and other banks to hide their income are only as strong as the will of governments to enforce them.

A commonsense bill introduced today would prevent American corporations from pretending to be “foreign” companies to avoid taxes even while they maintain most of their ownership, operations and management in the United States.

Sponsored by Sen. Carl Levin and Rep. Sander Levin, the Stop Corporate Inversions Act requires the entity resulting from a U.S.-foreign merger to be treated as a U.S. corporation for tax purposes if it is majority owned by shareholders of the acquiring American company or if it is managed in the U.S. and has substantial business here.

These are common sense rules and many people might be surprised to learn that they are not already part of our tax laws. In fact, the law on the books now (a law enacted in 2004) recognizes the inversion unless the merged company is more than 80 percent owned by the shareholders of the acquiring American corporation and does not have substantial business in the country where it is incorporated.

The current law therefore does prevent corporations from simply signing some papers and declaring itself to be reincorporated in, say, Bermuda. But it doesn’t address the situations in which an American corporation tries to add a dollop of legitimacy to the deal by obtaining a foreign company that is doing actual business in another country.

The management of Pfizer recently attempted to acquire the British drug maker AstraZeneca for this purpose and a group of hedge funds that own stock in the drug store chain Walgreen have been pushing that company to increase its stake in the European company Alliance Boots for the same purpose.

The Stop Corporate Inversions Act is based on a proposal that was included in President Obama’s most recent budget plan, which is projected by the administration and the Joint Committee on Taxation to raise $17 billion over a decade. The only difference between the House and Senate version of the bill is that the House version is permanent while the Senate version is effective for just two years. Apparently the Senate cosponsors include some lawmakers who believe that the issue of inversions can be addressed as part of tax reform at some point over the next two years and a stopgap measure is needed until then.

Either way, Congress needs to act now. House Ways and Means Committee chairman Dave Camp and Senate Finance Committee ranking Republican Orrin Hatch have both suggested that Congress should do nothing at all except as part of a major comprehensive tax reform. Given that the only tax reform plan Camp has been able to produce was a regressive $1.7 trillion tax cut that didn’t even meet his own stated goals of revenue and distributional neutrality, it’s obvious that Congress is a long way off from settling all the issues related to tax reform. In the meantime, how often will we be asked to play along as major American corporations pretend to be “foreign” in order to avoid paying taxes?

The summer driving season is kicking off this weekend, so our colleagues at the Institute on Taxation and Economic Policy (ITEP) have released a pair of updated policy briefs explaining everything you need to know about the federal and state gasoline taxes that pay for our roads and transit systems.

The federal brief explains that the nation’s 18.4 cent gas tax has been stuck in neutral for over 20 years, and that construction cost inflation and fuel efficiency gains have steadily chipped away at the value of the tax.  Since 1997 (the year in which the gas tax was rededicated exclusively to transportation spending), the federal gas tax has lost 28 percent of its value as a result of these two factors.

The state brief is slightly more optimistic, noting that while most states still levy stagnant fixed-rate gas taxes similar to the federal tax, the clear trend is toward a more sustainable, variable-rate design where the tax rate can grow over time alongside inflation or gas prices.

Read the briefs

The Federal Gas Tax: Long Overdue for Reform

State Gasoline Taxes: Built to Fail, But Fixable

The Illinois Fiscal Policy Center just unveiled its new Earned Income Tax Credit (EITC) website called EITC Works! The site allows users to plug in an address and learn the number of households in their House district currently receiving the credit, the number of children who benefit, and the economic benefits of the credit. Policymakers should be especially interested in this new resource because it also shows the impact of doubling the credit to 20 percent of the federal. The site is a great tool for anyone interested in understanding the local impact of this successful anti-poverty policy.

File this under things that make you go, “hmm.” Did you know that in some states plain Hershey bars are subject to the sales tax, but Twix bars are not because Twix contain flour?  Here’s an interesting read on the intricacies of taxing food, specifically take-and-bake pizzas. The piece affirms the importance of the Streamlined Sales Tax Governing Board and its goal “To assist states as they administer a simpler and more uniform sales and use tax system.”

Why would voters be inclined to vote for local referenda that raise taxes, but seem less supportive of state or national efforts to raise taxes? Read about the central Louisiana experience that may help answer this question here.

On the heels of the Missouri state legislature’s override of Governor Jay Nixon’s veto of a costly income tax cut package, a proposal that would increase the state sales tax to fund transportation projects is looking increasingly unlikely. Calling the proposed hike “hypocritical” in the face of the newly passed income tax cuts, which will largely benefit higher-income individuals, House Democrats are beginning to withdraw their support. Read about it here.