When Governor-elect Rick Snyder takes office Jan. 1, one of his top priorities is to replace the Michigan Business Tax with a 6 percent corporate income tax. He says this tax model will stimulate the economy and create jobs, making the state of Michigan more attractive to graduating students.
Yet, economists and tax experts say the tax cut is impractical with the state facing a $1.7 billion budget deficit for 2011-12.
The MBT is a complicated business-discouraging tax on gross receipts (the amount before expenses) that Snyder proposes to replace with a 6 percent flat corporate income tax. Before Snyder can get there, he must first address his priority of budget efficiency. The complications of the MBT make the tax unpopular with business owners and accountants, but replacing the tax will mean $1.5 billion less revenue to the state. Snyder's timeline of action has not yet been laid out.
Don Grimes, University of Michigan economist working with Ann Arbor-based think-tank Michigan Future, said, "Eliminating the surcharge on the single business tax then presumably cutting the single business tax as well, both are very good ideas in the abstract, but the difficulty [Snyder is] going to face is there's no money in the state of Michigan's budget to do that."
House Democrats, Governor Jennifer Granholm and Senate leaders led the Michigan Business Tax initiative, which took effect Jan. 1, 2008 to replace the Single Business Tax. The SBT, effective since 1976, replaced Michigan's Corporate Income Tax and six other business taxes.
The SBT raised approximately $1.9 billion per year and the latter MBT raised approximately $3 billion per year. Michigan House Democrats reported the MBT was put in place to allow about 75 percent of businesses in Michigan to pay less in taxes, provide more than $600 million in new tax credits to reward Michigan businesses for investment, compensation and research, and help small business with less than $350,000 in gross receipts from taxation.
The goals of the MBT, however, produce more detrimental side effects than planned.
The current Michigan Business Tax
The goal of the MBT is "to have a stable revenue flow in both good times and bad," said Ann M. Leonard, certified public accountant. "When they instated the MBT I think they were trying to pull in business that aren't in the state but do a lot of business in the state. They have to pay taxes within the state by apportioning sales done in Michigan, making income subject to Michigan tax."
When the MBT was passed, a 21.99 percent surcharge was added, which is charged assessed on a company's tax liability. Charlie Owens, Michigan state director of the National Federation of Independent Business, said, "Since the SBT changed over to the MBT, many businesses have seen tax liabilities double triple or even more than what they were paying before."
Leonard explains, "They would pay more because the MBT is a two-tiered tax; it taxes gross receipts as well as business income, then a surcharge, then credits come into play. If a business looses money they still pay taxes. You're calculating two separate taxes."
While Snyder's proposed aims to encourage businesses in Michigan and create jobs, it raises $1.5 billion less revenue for the state.
Snyder's flat tax proposal
If still in place, Snyder's seven-page report says the MBT would raise an estimated $2.2 billion for the 2009-10 fiscal year. According to the report, the 6 percent tax that would replace the MBT would raise only $700 million, but will "amount to a tax cut of $1.5 billion, which will stimulate the economy and create jobs".
Professor Michele LaForest Halloran, director of Michigan State University College of Law Tax Clinic, said, "Whenever a tax is eliminated or downsized in terms of the revenues it brings in, the state needs to find new revenue sources, or significantly cut expenditures to make up for the loss. Michigan certainly will not want lost business tax revenues to enhance its looming dark deficit."
Other states that have a flat corporate tax rate between 5 - 7 percent include Virginia, Utah and North Carolina. The Tax Foundation, a self described non-partisan tax research group based in Washington, D.C. accused of having right-leaning conservative ideologies, ranks these states respectively as 4, 6, and 25 in projected 2011 Corporate Tax Index Rank. Michigan is ranked 48. The Index is a tool for lawmakers and media to see how states' tax systems compare. South Dakota ranks in first place with no corporate income tax. Instead, they have a bank franchise and bank card tax grossing $87 per capita in 2008.
"A new flat tax would definitely simplify the state tax concept. It would make it much easier to project and administer. The problem for the state, though, could be predictable revenue flow," said Leonard. "In bad economic times, revenue could be cut substantially. In good times, the treasury would probably be flush."
Halloran said, "It seems that if a simplified 6% flat tax does what it's intended to do, lure businesses into Michigan and activate current Michigan business enterprises, then a much better job market will open up in a variety of areas, thus benefiting graduating students."
This chart shows the amount of tax that five C Corporations pay under the SBT, MBT and proposed 6 percent corporate income tax.
The second chart shows the same five C Corporations' business income and gross receipts.
Detailed information on income and gross receipts can be found in the spreadsheet prepared by Leonard.
Each company here would pay less with Snyder's proposed tax, which also means less money for Michigan. Companies with lower gross receipts and business income that are labor intensive tend to be better off with MBT than SBT, but with increased gross receipts and income, SBT is better. For a subcontractor intensive company, SBT seems to be the best option regardless of income and receipts.
Replacing the MBT is big on Snyder's list, but it may see some slowdowns due to priority of reworking Michigan's budget construction.
Priority of budget efficiency
Snyder maintains that creating efficiency within the budget and government will replenish the lost revenue from replacing the MBT. Kazmirack said the problem of funding is essentially in budget creation.
Kazmirack said, "The problem in Lansing right now is when a budget is made they look at what was spent last year, add some room for inflation and call it good. Gov.-elect Snyder does not want to continue to budget in that way."
Utah's top budget officer John Nixon will join the Snyder team as budget director, leaving his job as executive director of the Utah Governor's Office of Planning and Budget. Nixon, a C.P.A. like Snyder, plans to rework the budget to create fiscal responsibility, transparency, and keep education a priority.
But will efficiency and fiscal responsibility reconcile the $1.5 billion lost from replacing the MBT in addition to the $1.7 billion deficit facing Michigan? Halloran said, "Michigan taxpayers, already downtrodden with this economy, will not be particularly receptive to enhanced individual income taxes or enhanced sales taxes - or some brand new tax - to make up for lost revenues."
Gov. Granholm's spokeswoman Katie Carey said current MBT revenues go to the general fund though there is a portion that goes to the school aid fund. "This percentage isn't specified," said Carey. MBT revenues are not earmarked for specific programs, she said, so there are not examples of programs that would automatically be affected by less revenue from the proposed tax change. In the fiscal year 2010, however, the amount to from the MBT to the school aid fund was $726.8 million.
Though revenue to the state from the MBT is higher than the SBT, accountants and business owners agree that the complexity of the MBT makes for a discouraging business environment.
Business owners say the current MBT is bad for business because it is complicated - so complicated in fact, Owens said, "it's even referred to as the Frankenstein tax plan because it's pieces of four or five bills and taxes stitched together in a compromise to get it passed. Some businesses are lucky enough to be small enough to not to pay it or large enough not to pay and to actually get money back from the state."
Kazmirzack said, "Gov.-elect Snyder was a C.P.A. and he recognizes what a complicated tax this is. It's so complicated that it discourages businesses."
The MBT must be paid by businesses that earn more than $350,000 in gross receipts. "With the Michigan Business Tax you could end up owing taxes regardless if you make a profit," said Kazmirzack, "because it's based on the revenue you bring in - not your profits."
In September 2010, Snyder said, "the biggest worst problem in the Michigan Business Tax is the gross receipts piece." He maintains that if he cannot eliminate the whole tax, he will at least eliminate this piece of it. Kazmirzack said Snyder's new tax would be applied to C Corporations (usually a larger business, it pays income taxes on profits and is legally separate from its owners).
Note that a C Corporation does not necessarily earn more than $350,000 in gross receipts, meaning, "if a business is under $350,000 in gross receipts and is a C Corporation, they could be liable for the new corporation tax, where they did not pay the Michigan Business Tax," said Owens.
Double taxation of smaller businesses is also a concern addressed by Snyder's proposal. As it stands under the MBT, "pass through entities" is when "businesses pay their tax through the personal income tax of the owner," said Owens. "They would post a profit, reported on state or federal income tax, and they are paying a business tax. Michigan makes about $800 million a year paid from small businesses tax through personal taxes."
Owens said, "Double taxation happens when businesses with more than $350,000 in gross receipts pay income tax and pay under the MBT as well, so they pay double. That would be fixed with the tax proposed by Snyder and that is why under the corporate C income tax that applies to C Corporations only."
The MBT has its complications, but so does Snyder's proposed tax.
6 percent corporate income tax complications
Revenue lost from replacing the MBT is projected to amount to $1.5 billion. It's unlikely that making the budget generally more "efficient" will resolve the deficit created by this - Gov. Granholm's $1 billion in budget cuts for the 2010 fiscal year hasn't yet resolved the ten year recession in Michigan.
Since 2000 Michigan has lost more than 300,000 jobs resulting in the state's loss of taxes. There is the possibility of earning this money back if the new tax creates more jobs - and these employees pay taxes. The uncertain timeline of this productivity and subsequently unpredictable revenue flow, however, will not be enough to sustain the state in these bad economic times.
Snyder's team does not yet have an idea of how long it will take for the revenue lost to be replaced.
Because Michigan's economy is the biggest concern for Snyder, Kazmirzack said that working to replace the MBT is one of Gov.-elect's top priorities.
Owens said the new tax would encourage business in Michigan because the MBT "results in a very poor tax climate for business here. With the mobility of capital and businesses the way they are today, business owners have 49 other states to choose from, and frankly, even the world."
Owens acknowledges the vast budget work that Snyder must do to get the tax changed. "The corporate tax proposed by Snyder will go toward improving the tax climate - it's not the only thing we need to do, but it will help."
As for a timeline on Snyder's tax implementation, Kazmirzack said, "The legislature is an equal partner and Gov.-elect Snyder doesn't want to give a timeline for eliminating the tax because that would be detrimental to the relationship with lawmakers. He's going to work with lawmakers."
Cross-posted from: http://www.jrn.cas.msu.edu/spartanjlabs/article/snyders-michigan-business-tax-replacement-may-help-businesses-lose-revenue-state