The Kansas legislature will reconvene next week for its 2021 veto session, when legislators will reconsider bills that were vetoed by the governor. One such bill that has a second chance of being enacted, Senate Bill 50, would enhance Kansas’ economic competitiveness by improving the state’s corporate, individual, and sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding. structure while providing taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. relief to individuals and businesses.
On our State Business Tax Climate Index, which compares states’ tax structure, Kansas performs below average, ranking 35th out of the 50 states. If SB 50 were enacted, Kansas’ tax code would become much more competitive and improve substantially on the Index, ranking 24th overall.
Many of the tax changes found in SB 50 were recommended in our Kansas tax reform options guide and in our testimony before the Kansas House and Senate tax committees last session. Of particular importance—from an economic and legal standpoint—are the Global Intangible Low-Taxed Income (GILTI) exclusion and the safe harbor for small remote sellers. Additionally, allowing the full deductibility of business interest expenses and extending the net operating loss (NOL) carryforward period would enhance business liquidity and better align corporate taxation with net income. Meanwhile, increasing the standard deductionThe standard deduction reduces a taxpayer’s taxable income by a set amount determined by the government. It was nearly doubled for all classes of filers by the 2017 Tax Cuts and Jobs Act (TCJA) as an incentive for taxpayers not to itemize deductions when filing their federal income taxes. and allowing an independent choice of itemization would provide tax relief to individuals across the income spectrum.
From a legal standpoint, one of the most important provisions in SB 50 is the establishment of a sales tax collection safe harbor for small remote sellers and marketplace facilitators. Under this legislation, such entities would be required to collect and remit Kansas’ sales taxes if the seller earned more than $100,000 in gross receipts from sales into Kansas in the current or prior year.
Currently, Kansas is the only state that requires remote sellers to collect and remit without a de minimis exemption. As such, a small out-of-state seller making even a single $1 sale into Kansas must register with the Kansas Department of Revenue, calculate and collect the appropriate amount based on the destination location, and submit the necessary accompanying forms. These compliance hurdles could be found to violate the U.S. Constitution’s Dormant Commerce Clause, which prohibits states from discriminating against interstate commerce. In fact, Kansas’ own Attorney General issued a legal opinion concluding the Department of Revenue’s current regulations are unconstitutional, a rather precarious position to be in if the Attorney General ends up having to defend the department’s current policies in court. Simply enacting a reasonable de minimis exemption—as every other state requiring remote sales tax collection has done—would solve this problem.
In addition to establishing a de minimis exemption that aligns with the Supreme Court’s majority opinion and other states’ laws, SB 50 would require marketplace facilitators to collect the state’s sales taxes when their Kansas-sourced sales exceed $100,000. In our increasingly mobile economy, it has never been more important for states to provide clear statutory language outlining sellers’ and marketplace facilitators’ sales tax collection responsibilities without imposing onerous and constitutionally dubious burdens on out-of-state businesses.
Importantly, SB 50 would also improve the state’s legal standing and corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. competitiveness by removing GILTI from the tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. . State tax codes were never meant to tax international income and doing so makes Kansas’ tax code more burdensome to multinational businesses operating in the state. Most states, including many of Kansas’ regional competitors, have either decoupled from GILTI or classify GILTI as foreign dividend income, which is mostly or wholly deductible. Kansas follows the federal government in offering a 50 percent deduction under IRC § 250 but does not provide a further deduction of 80 to 100 percent for the remaining income by treating it as foreign dividend income, as many other states which have not expressly decoupled from federal law have done.
Kansas also fails to establish a process for proper factor apportionmentApportionment is the determination of the percentage of a business’ profits subject to a given jurisdiction’s corporate income or other business taxes. U.S. states apportion business profits based on some combination of the percentage of company property, payroll, and sales located within their borders. of GILTI, which means Kansas likely taxes an excessive share of GILTI, which could prove unconstitutional under existing legal precedent. Failure to exclude GILTI makes doing business in Kansas considerably more costly for multinational businesses (and for reasons having nothing to do with operations in Kansas, or even in the United States).
SB 50 would also allow taxpayers to claim itemized deductionItemized deductions allow individuals to subtract designated expenses from their taxable income and can be claimed in lieu of the standard deduction. Itemized deductions include those for state and local taxes, charitable contributions, and mortgage interest. An estimated 13.7 percent of filers itemized in 2019, most being high-income taxpayers. s on their state individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. returns even if they claim the standard deduction on their federal return. After the Tax Cuts and Jobs Act (TCJA) of 2017 nearly doubled the federal standard deduction, more than 90,000 Kansas filers switched from itemizing to claiming the standard deduction.
Because Kansas does not currently allow taxpayers to itemize on their state return if they claim the federal standard deduction, many Kansans who received a net tax cut at the federal level when they switched to claiming the standard deduction simultaneously saw a net tax increase at the state level. In fact, data from the Kansas Department of Revenue and the Kansas Legislative Research Department show a 1.7 percent increase in the Kansas Adjusted Gross Income (KAGI) of these taxpayers between tax years 2017 and 2018 but a 15.8 percent increase in state tax liability. While some of that increase is due to the state individual income tax rate increases that took effect in 2018, some of it is attributable to the inability of those taxpayers to itemize on their state returns.
In addition to allowing an independent choice of itemization, SB 50 would increase the standard deduction from $3,000 to $3,500 for single filers and from $7,500 to $8,000 for married filers. While the standard deduction for married couples and head of household filers increased in 2013, Kansas’ standard deduction for single filers has remained stagnant for more than three decades. With neither statutory increases nor inflationInflation is when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets. The same paycheck covers less goods, services, and bills. It is sometimes referred to as a “hidden tax,” as it leaves taxpayers less well-off due to higher costs and “bracket creep,” while increasing the government’s spending power. adjustments, it has lost more than half its real value in that time. Had the standard deduction kept pace with inflation, it would be worth more than $6,700 for single filers today. While increasing the standard deduction by $500 does not restore the value it has lost since 1988, it does take a step in the right direction and provides valuable tax relief across the income spectrum to the nearly nine out of 10 Kansans who claim the standard deduction.
Another federal tax change that is addressed in this legislation is the tax deductibility of business interest expenses. Under SB 50, Kansas would decouple from the federal limitation on the deductibility of net interest expenses that was established by the TCJA as a “pay-for” under IRC §163(j). Allowing full interest expense deductibility would provide liquidity to businesses that have had to take out loans amid the COVID-19 pandemic, and it would restore the proper tax treatment of business interest expenses moving forward.
Finally, SB 50 would allow business NOLs to be carried forward indefinitely but would disallow NOL carrybacks for tax years 2018 and onward. Under the Coronavirus Aid, Relief, and Economic Security (CARES) Act, businesses may deduct their 2018, 2019, and 2020 losses against up to five years’ worth of past profitability, and Kansas currently conforms to the CARES Act’s carryback allowance. Kansas’ state-defined NOL carryforward period of only 10 years, however, is among the least generous in the country. Under a well-designed NOL system, businesses that experience a period of negative income should have the opportunity to deduct their losses against future income whenever they return to profitability.
Most states conform with current or prior federal NOL carryforward periods, allowing NOLs to be carried forward indefinitely or for 20 years, respectively. Kansas would do well to extend its carryforward period, but retroactively decoupling from the CARES Act’s five-year NOL carryback period for 2018, 2019, and 2020, as SB 50 would do, would simultaneously reverse a valuable form of pandemic-related tax relief that has already been provided.
Taken together, however, the aforementioned provisions would substantially improve Kansas’ tax structure while providing valuable relief to individuals and businesses. The tax relief contained in this bill has been projected to reduce state revenues by $284 million over three years, but Kansas has a sizable budget surplus and is expected to end fiscal year 2021 in June with $1.15 billion in cash on hand, a 16.3 percent increase in general fund receipts compared to fiscal year 2020.
When SB 50 initially passed both chambers in March, it received supermajority approval in the Senate but in the House fell three votes shy of the two-thirds approval that would be needed for a veto override. Since then, however, Kansas’ revenue projections for fiscal years 2021 and 2022 have been revised upward, which should mitigate any concerns—including those cited by the governor—about the proposed tax reforms contributing to any “self-inflicted budget crises.”
Kansas has the revenue cushion it needs to provide tax relief to individuals and businesses and improve the structure of its tax code in the process. These pro-growth reforms would not only help taxpayers amid the pandemic but would also promote economic recovery and growth in a state that is lagging behind its competitors.
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