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Cash-strapped states bet on corporate tax cuts

Reuters News
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Posted: Mar 21, 2011 3:36 PM
Cash-strapped states bet on corporate tax cuts

By Kim Dixon

WASHINGTON (Reuters) - Republican governors across the United States are betting that now is the time to cut corporate taxes, despite the tattered condition of state budgets.

Emboldened after taking a majority of state governors' mansions, Republicans are pitching at least a dozen proposals to slash state corporate taxes this year. Less than a handful of states are mulling plans to boost them.

"I am just struck by the constant refrain about corporate tax cuts," said Alan Viard, an economist with the conservative American Enterprise Institute. "States are more eager to get businesses now when their economies are weak; on the other hand the revenue loss is troubling if they do it now."

States are just now beginning to recover from the recession and 44 states face a combined $112 billion shortfall in their budgets, which generally must be balanced each year by law.

Republicans took control over six states in the 2010 elections, and now control 29 of the 50 state houses.

Republican Wisconsin Governor Scott Walker, who made headlines by curbing public union bargaining rights, for example, wants to give companies more time to use losses to offset tax liabilities.

"In most cases, it is states with new Republican governors who feel like they were elected on a mandate to cut taxes," said Meg Gray Wiehe, state tax policy director with the liberal-leaning Institute on Taxation and Economic Policy. "It is not really a flush time to do this."

The state-level debate mimics a larger debate simmering for months about how to trim the corporate rate on the federal level, now 35 percent -- among the highest in developed countries.

Corporate taxes make up a small share of state coffers, but they are still among states' three biggest revenue sources.

In fiscal 2009, states collected about $40 billion in corporate taxes out of $715 billion in total taxes, according to U.S. Census data.

CREDITS, SPECIAL TAX BREAKS

State corporate tax rates range from zero to about 10 percent and generally vary by income bracket.

Most of the proposals come from newly-elected Republican governors.

Some states are taking a slightly different tack, boosting credits for hiring new workers, a policy backed by the Obama administration, which pushed for its enactment on the federal level.

That is an inefficient way of luring business activity, said Mark Robyn, staff economist at the conservative leaning Tax Foundation think tank.

"From our perspective the right type of corporate tax reform is lowering the rates," Robyn said. "It is hard to measure a job created and you may end up giving money to companies that might have created a job anyway."

Backers of rate cuts also say workers ultimately bear the brunt of higher taxes.

But while both Democrats and Republicans publicly agree steep taxes relative to other countries are harmful for competitiveness, they have not resolved the thornier debate of how to pay for cuts.

On the national stage, Obama and many fellow Democrats want to trim tax breaks for narrow slices of industry to pay for a rate cut, while Republicans say a boost in growth will help offset the cost.

On the state level, though, there is not much talk of trimming special credits and deductions to broaden the tax base to pay for a rate cut.

Rhode Island is an exception, where the governor, a former Republican turned independent, wants to cut the corporate tax rate to 7.5 percent from 9 percent, but also close loopholes.

LOW RETURNS?

Even if Republican governors are able to win support for their corporate tax rate reform, the cuts may not do much over the short-term to dig states out of their budget holes.

Lower corporate rates stir some economic activity, many economists say, but how far low rates can enhance a state's competitiveness is a matter of degree, and debate.

"Usually corporations decide where to locate based on a multitude of factors including what the workforce is like," said William Fox, an economics professor at the University of Tennessee.

States are operating under an assumption that businesses will move for better tax rates and preferences, Fox said.

"The research says you can attract a small amount of economic activity by lowering the corporate income tax rate, but it doesn't change the scope of the state," Fox said.

The biggest impact a corporate rate cut may have on business is the symbolic gesture.

"Probably the best argument (for cutting corporate tax rates) is that you are signaling to business that you are trying to be competitive," said Robert Ward, deputy director at the Rockefeller Institute of Government, a think tank on state finance.

(Additional reporting by Karen Pierog in Chicago and Lisa Lambert in Washington, editing by Dave Zimmerman)