Wisconsin, like every state, is experiencing a great deal of economic uncertainty amid the COVID-19 pandemic. States will need to use caution as they make revenue and spending decisions amid the ongoing public health crisis, but 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. policy can play a valuable role in a state’s economic recovery, and policymakers ought to give careful consideration to tax policy changes that would help the state recover faster. Several structural tax changes are worth considering that would both promote a stronger economic recovery now while promoting stronger economic growth in Wisconsin for decades to come.
Wisconsin’s Current Economic Landscape
Wisconsin’s unemployment rate currently stands at 12 percent, which is both higher than the state’s peak unemployment rate during the Great RecessionA recession is a significant and sustained decline in the economy. Typically, a recession lasts longer than six months, but recovery from a recession can take a few years. peak (9.2 percent) and higher than the current U.S. unemployment rate (11.1 percent). While the state saw 75,000 jobs return in May, the Wisconsin Department of Revenue has issued a forecast estimating it will take approximately two years for the state to reach its pre-pandemic employment levels.
From a revenue standpoint, Wisconsin does have a notable advantage in that the state originally expected a sizable budget surplus for the current biennium (fiscal years 2020 and 2021). As a result, the revenue growth that occurred prior to the pandemic will help offset some of the state’s pandemic-related revenue declines that occurred this spring and will continue into the current fiscal year and likely beyond.
While Wisconsin’s April and May 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. collections came in below last year’s April and May collections by 9.9 percent and 10.1 percent, respectively, as of May, total sales tax collections for FY 2020 were already 2.2 percent ahead of FY 2019 collections. Similarly, revenue from various business taxes, like the 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. and the franchise tax, has already come in ahead of the Legislative Fiscal Bureau’s January 2020 forecast.
Now that Tax Day has come and gone, Wisconsin will soon have a better idea how much of the state’s 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. collections shortfalls were attributable to the delayed tax deadline and will thus be recovered in short order. While sales tax collections took an immediate hit during stay-at-home orders, they are likely beginning to stabilize. Corporate and individual income tax revenues, however, are expected to face steeper declines and take longer to recover, due to jobs and wages that will take longer to be restored.
Wisconsin’s Conformity to Federal Tax Provisions
The federal Coronavirus Aid, Relief, and Economic Security (CARES) Act made several changes to the federal tax code that will impact how state income taxes are calculated.
After the CARES Act was enacted on March 27th, the Wisconsin Assembly and Senate passed A.B. 1038, a bill that accepts some of the CARES Act’s tax changes but rejects others. Gov. Tony Evers (D) signed this bill into law on April 15th.
This law brought several of the CARES Act’s taxpayer-friendly tax changes into Wisconsin’s tax code, including the following:
- An above-the-line deduction of up to $300 for charitable contributions made in 2020 (available for taxpayers who claim 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 as an incentive for taxpayers not to itemize deductions when filing their federal income taxes. ).
- For Tax Year 2020, a lifting of the limit by which the deduction for charitable contributions can reduce taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. (available to taxpayers who itemize).
- An exclusion from income of certain employer-provided student loan assistance that is granted in 2020.
- A waiver of penalties for certain coronavirus-related early IRA distributions, with distributions taxed over three years instead of all at once.
- An exclusion from income for loan forgiveness received under the Paycheck Protection Program (PPP).
- A technical correction to the treatment of qualified improvement property (QIP), restoring QIP to a 15-year, rather than 39-year, cost recoveryCost recovery is the ability of businesses to recover (deduct) the costs of their investments. It plays an important role in defining a business’ tax base and can impact investment decisions. When businesses cannot fully deduct capital expenditures, they spend less on capital, which reduces worker’s productivity and wages. period.
It is also important to note that, after the federal tax reform law was enacted in 2017, Wisconsin enacted legislation (2017 Wisconsin Act 231) decoupling from two of the TCJA’s revenue-increasing provisions: the limitation on the deductibility of business net interest under § 163(j) and the limitation on the deductibility of excess business losses under § 461(l). As such, Wisconsin currently treats certain business interest expenses and losses more favorably than the federal government, so the CARES Act provisions that temporarily relieve certain federal limitations under those two sections need not be considered in Wisconsin.
While Wisconsin conforms to several of the CARES Act’s taxpayer-friendly provisions, there are some federal provisions to which the state does not conform that are worth considering in order to promote a stronger economic recovery.
NOL Carryback Allowance
Wisconsin does not conform to the federal tax code’s treatment of net operating losses (NOLs). In Wisconsin, if a business has NOLs, those losses can be carried forward up to 20 years to reduce future taxable income, but they may not be carried back to reduce past taxable income.
Prior to enactment of the Tax Cuts and Jobs Act (TCJA) in late 2017, the federal tax code allowed businesses to deduct current losses against up to two years’ worth of past income taxes paid, but the TCJA repealed NOL carrybacks in order to offset some of the law’s rate reductions and other pro-growth reforms. The CARES Act, however, allows businesses that incurred losses in 2018, 2019, or 2020 to deduct those losses against up to five years’ worth of past income taxes paid. This allows taxpayers to file an amended return and receive a near-immediate refund of some of their past income taxes paid, which will be the lifeline many businesses need to survive this economic crisis and return to profitability in future years.
In many ways, NOL carrybacks are designed specifically for recessions, and Wisconsin should consider conforming to the federal NOL carryback allowance or offering an NOL carryback of its own in order to help more in-state businesses survive the current recession.
Unlimited NOL Carryforward Allowance
Wisconsin allows NOLs to be carried forward 20 years, and it does not conform to the TCJA’s cap that limits carryforwards to 80 percent of taxable income in any given year. However, some businesses have losses that extend beyond 20 years, which is one of the reasons the TCJA lifted the 20-year cap. The more generous a state’s carryforward policies, the more likely it will be that the state income tax will fall on the business’s average profitability over time.
Full ExpensingFull expensing allows businesses to immediately deduct the full cost of certain investments in new or improved technology, equipment, or buildings. It alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. Under § 168(k)
One of the most pro-growth tax reforms in the TCJA was a provision that allows investments in machinery and equipment to be deducted in the year those investments are made rather than incrementally over the depreciable life of the asset. The Tax Foundation’s General Equilibrium model shows that, at the federal level, full expensing can have a larger pro-growth effect per dollar of revenue forgone than even reducing the corporate income tax rate, and we can assume a similar effect at the state level.
As of July 1, 2019, 16 states conformed to the TCJA’s 100 percent bonus depreciationBonus depreciation allows firms to deduct a larger portion of certain “short-lived” investments in new or improved technology, equipment, or buildings, in the first year. Allowing businesses to write off more investments partially alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. allowance under § 168(k), but Wisconsin is not one. Enacting such a policy would encourage in-state investment while removing a bias in the tax code that discourages investment, which would be a particularly powerful post-pandemic recovery tool.
Improving Wisconsin’s Income Tax Competitiveness
As Wisconsin looks ahead to the future, there are many tax policy changes worth considering that would make the state more competitive for decades to come. For instance, Wisconsin forgoes a significant amount of revenue each year by exempting many consumer goods and services from its sales 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. . Modernizing the sales tax base would make the tax code more neutral, and it would generate revenue that could be used to bring down some of the state’s less-competitive tax rates, including income tax rates. Wisconsin boasts the fourth-lowest combined state and average local sales tax rate in the country, but its income tax rates, including the corporate income tax rate and the top individual income tax rate, are among the highest in the Midwest region. Sales tax base broadeningBase broadening is the expansion of the amount of economic activity subject to tax, usually by eliminating exemptions, exclusions, deductions, credits, and other preferences. Narrow tax bases are non-neutral, favoring one product or industry over another, and can undermine revenue stability. would allow Wisconsin’s sales tax rate to stay low and competitive while improving Wisconsin’s competitiveness in the other areas of the tax code where the state is falling behind.
Tax policy has an important role to play in helping states recover from the current crisis while paving the way for stronger economic growth for years to come. From a revenue standpoint, Wisconsin was better off than many states going into this crisis, but the policy decisions—including tax policy decisions—state policymakers make in the months ahead will have far-reaching implications for how quickly jobs and wages are restored in Wisconsin.
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Errata: An earlier version of this blog post listed the excess business loss limitation under § 461(l) as a federal provision state policymakers should consider decoupling from. However, the state already decoupled from this provision with the enactment of 2017 Wisconsin Act 231. The blog post has been corrected.Share