October 7, 2008
Time to Rehab New Jersey's Tax Climate
Yesterday, the Tax Foundation released the 2009 State Business Tax Climate Index (SBTCI), our sixth annual report ranking the 50th states on the business-friendliness of their tax codes. New Jersey ranks last overall on this year's index, unchanged from its 2008 score. For 2007 and earlier, New Jersey did not rank last; the statewide sales tax rise to 7% for fiscal year 2008 moved it to the bottom of the barrel. Generally, the state suffers from high tax rates, narrow tax bases, and distortionary tax rules that interfere with the functioning of the economy.
Given New Jersey's standing, we chose to release the report in Trenton, where legislators were meeting to address the banking crisis and its fiscal impact on New Jersey. We held a morning briefing for legislators and legislative staff to bring several opportunities for improvement to their attention:
- We noted that one particularly positive reform is currently under consideration in Trenton, with bipartisan support. New Jersey currently allows corporate income taxpayers to carry their losses forward for seven years, after which time they lose the ability to offset a loss against future gains. Pending legislation would increase this period to 20 years, which would match the federal standard. This change would improve New Jersey's score on the SBTCI and make it a better place to do business. (In fact, New Jersey's poor SBTCI score was even noted in the legislative statement attached to the bill, and was read into the official record as a reason for supporting it.)
When a corporation has a net loss for a year, it doesn't get a check back from the government for its negative tax burden. Instead, it is entitled to carry that loss forward, and use it to offset a future period's net income for tax purposes. This equalizes tax treatment between firms in cyclical industries, which expect to make losses in some years and large profits in others, and firms in non-cyclical industries, which expect to be profitable every year. However, a too-short carry forward allowance means that a corporation facing a severe loss in one year may be unable to fully use its offset within the allowed time frame.
- We noted that the corporate income tax rate is scheduled to fall to 9% on July 1, 2009, and that preservation of that scheduled decrease will also improve the state's score.
- We suggested that Garden State legislators consider broadening their sales tax base, which is the 3rd narrowest among the 45 states that levy a sales tax. This narrow base (which excludes goods from food and clothing to bibles and coffins) requires New Jersey to levy a 7% rate to generate adequate revenue; that is tied for the highest sales tax rate among states without local sales taxes. If New Jersey broadened its sales tax base, it could cut its high rate without revenue loss.
- We also encouraged legislators to consider reform or repeal New Jersey's onerous realty transfer taxes, which exacerbate the mortgage crisis by making it more difficult for distressed homeowners to sell.
- We pointed out that New Jersey is just one of four states to levy both an estate tax and an inheritance tax, which adds needless complexity.
- Finally, while broad-based tax cuts may not be on the table at a time when state governments (including New Jersey's) are facing severe budget crunches, we did advise legislators that the best long-term strategy to improve their tax climate is to cut tax rates and apply them to broad bases in a simple manner.
Unlike in some states, New Jersey legislators seem to understand the difficult economic situation they are in, and the role that their tax system played in creating it. As they say, "the first step is admitting that you have a problem." That leaves only 11 more steps for Garden State legislators to go.
You can see Philadelphia Inquirer coverage of New Jersey lawmakers' tax discussions and our appearance in New Jersey here.
